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Tuesday August 16th, 2022

Sri Lanka rupee dollar parallel markets step in amid money printing, forex curbs

ECONOMYNEXT – Sri Lanka rupee is hardly traded in official interbank markets after ban on outright trades above a 200 to the US dollar non-credible peg, but parallel foreign exchange markets are coming into play, as they had done in earlier money printing episodes, market participants say.

Sri Lanka’s interbank forex market saw some isolated outright trades over the past week and market based swap deals but activity had largely dried up after outright trades were banned by the central bank above 199.90 to the US dollar.

The central bank has been printing large volumes of money to keep down interest rates artificially which is making it difficult to maintain the exchange rate.

Banks are also not expected to quote over 203 to the US dollar to import customers or buy from exporters below the level.

Parallel Market

However some banks including international banks had been paying over the limit to exporters making the original bankers to the firms unhappy, market participants said.

Regulators made physical or on-site visits this week to check the rates at which dollars are being sold.

A parallel exchange rate higher than the 203 limit had emerged for capital outflows, market participants said.

To finance the outflows some banks had bought above the cartel-like agreement supposedly existing among banks not to pay a higher rate to exporters following informal requests.

Meanwhile the kerb market has also seen a steep fall to around 215 to 220 amid money printing.

The interbank trading ban without halting money printing had also led to rationing of Letters of Credit by banks.

“Regular meetings with key officials of the banking community are held by the Central Bank, and the banking community has mutually agreed to manage their outflows within inflows, while giving priority to essential and urgent imports, and discouraging orders of speculative nature,” Central Bank Governor W D Lakshaman said in a statement this week.

“Overall, I wish to assure the media, the general public, the business community and the investor community that the conditions of foreign currency liquidity observed in the domestic market at present are temporary and are driven by excessive speculative activity.”

As a result some importers who had previously gone through formal channels were forced to use the unofficial or ‘undiyal’ net settlement system long used in Asia before the emergence of banks, at around 220 rupees to the US dollar or higher.

Official payments are made through gross settlement systems, where each transaction is settled separately through systems such as SWIFT messaging.

Plus ça change, plus c’est la même chose

Sri Lanka saw official parallel exchange rates during late 1968 with Latin America style Foreign Exchange Entitlement Certificates (FEECs) being developed by the money printing Dudley Senanayake administration instead of restraining, reforming or abolishing the central bank.

The failure to restrain the domestic operations of the central bank had led to forex shortages, currency collapses and repeated trips to the IMF.

“…[I]n May 1968, Ceylon implemented a dual exchange rate (FEECS) that was commonly used in Latin America with tacit acceptance of the IMF,” top economist Saman Kelegama wrote in a summary of memoirs of Gamani Corea, a Sri Lanka planner and central banker.

“The Fund was not entirely happy but approved it by saying it was ‘a wrong step in the right direction’.”

Sri Lanka set up a Latin America style central bank in 1950 using elements of a cookie-cutter monetary law cooked up by Robert Triffin, an admirer of the Argentina central bank built by Raul Prebisch.

Triffin who headed the Latin America unit of the Fed set up a series of central banks with non-credible pegs in the region which ended up in import substitution, parallel exchange rates and sovereign default.

Some ended in dollarization. Dollarization is also picking up in Sri Lanka.

Related

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In 1969 the Senanayake administration enacted Sri Lanka’s import control law, without reforming or abolishing the central bank.

In the 1970s Sri Lanka closed the entire economy, making extensive use of the law, instead of restraining the domestic operations of the central bank or abolishing it in favour of a currency board.

The law has been used to curb many imports in 2020, which had earlier brought outsize amounts as taxes in 2020.

The import control law to giving massive profits to rent-seeking import substutution businesses which are arbitraging the taxes and reporting large profits at the expense of consumers.

Meanwhile low taxed imports deemed ‘desirable’ by planners have bounced back with credit starting to flow, including with printed money.

Unlike in the 1960s and 1970s however there is now greater scrutiny of central bank activity in Sri Lanka.

This week, a statutory paper transaction involving a customary reversal of provisional advances (a type of printed money relating mostly to deficits in the past) via one-day Treasury bill issue, drew a lot of twitter comments.

However it is a book transaction involving a provision in the original US designed constitution of the central bank and does not acutualy change reserve money, and therefore cannot create monetary instability in the form of credit, forex shortages or inflation.

This week members of the public stormed the Lebanon central bank after it halted withdrawals of forex deposits, in a cautionary message to central bankers the world over.

Forex deposit withdrawals were in any case only allowed at a parallel exchange rate lower than the kerb market rate.

Foreign exchange is being released for oil at a still different parallel exchange rate.

The US Fed is again firing a commodities bubble which can push up commodity and food prices hurting the poor and the rich alike though some oil companies and can benefit.

Among major central banks the Fed has done the most damage to the world.

The Fed created the Great Depression with its roaring 20s bubble, blew up the centuries old Gold Standard along with the Bretton Woods system of non-credible soft-pegs in 1971 with output gap targeting and generated a massive housing and commodity bubble which ended in the Great Recession in 2008/9. (Colombo/June30/2021)

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Sri Lanka sovereign rating at SD but ISBs downgraded to ‘D’ by S&P

ECONOMYNEXT – Sri Lanka’s sovereign rating remains at Selective Default (SD), but the country’s sovereign bonds were downgraded to ‘D’ after missed interest payments, Standard and Poor’s, a rating agency said.

“The Sri Lanka government remains in default on some foreign currency obligations, including international sovereign bonds (ISBs),” the S&P said.

“We do not expect the government to make the payments within 30 calendar days after their due dates.

“We lowered the ratings on the affected bonds to ‘D’, following missed interest payments due on June 3, June 28, and July 18, and a missed principal payment due July 25.”

Sri Lanka is still paying senior creditors with money coming from deferred payments from the Asian Clearing Union.

Sri Lanka started to borrow heavily in foreign bond markets from 2015 after battering its currency peg with extraordinary liquidity injections under ‘flexible inflation targeting and the country lost the ability to roll-over maturing rupee bonds at gross financing level.

From 2015 to 2019, the country had monetary stability only in 2017 and 2019 as the pegged exchange rate regime was shattered with liquidity injections to target an ‘output gap’.

However the targeting the output gap led to currency crises (balance of payment deficit) and growth fell as stabilization measures were slammed.

From 2020 to 2022 even more aggressive liquidity injections were made and taxes were also cut saying there was a ‘persistent output gap’ until all foreign reserves including borrowed reserves were lost and the the country defaulted in peacetime.

The International Monetary Fund gave technical assistance to Sri Lanka to calculate the output gap and also endorsed ‘flexible inflation targeting’, with overnight repo injections, term repo injections, outright purchase of bond, despite having a reserve collecting peg.

On April 12, 2022 Sri Lanka defaulted despite being at peace.

The full statement is reproduced below:

Sri Lanka Bonds Downgraded To ‘D’ After Missed Payments; Sovereign Ratings Affirmed

Overview

The Sri Lanka government remains in default on some foreign currency obligations, including international sovereign bonds (ISBs).

We do not expect the government to make the payments within 30 calendar days after their due dates.

We lowered the ratings on the affected bonds to ‘D’, following missed interest payments due on June 3, June 28, and July 18, and a missed principal payment due July 25.

We affirmed our ‘SD/SD’ foreign currency and ‘CCC-/C’ local currency ratings on Sri Lanka. The outlook on the long-term local currency rating is negative.

Rating Action

On Aug. 15, 2022, S&P Global Ratings affirmed its ‘SD’ long-term and ‘SD’ short-term foreign currency sovereign ratings on Sri Lanka. At the same time, we affirmed our ‘CCC-‘ long-term and ‘C’ short-term local currency sovereign ratings. The outlook on the long-term local currency rating remains negative.

In addition, we lowered to ‘D’ from ‘CC’ the issue ratings on the following bonds with missed coupon or principal payments:

US$650 million, 6.125% bonds due June 3, 2025.

US$1.0 billion, 6.825% bonds due July 18, 2026.

US$1.0 billion, 5.875% bonds due July 25, 2022.

US$500 million, 6.35% bonds due June 28, 2024.

Our transfer and convertibility assessment at ‘CC’ is unchanged.

Outlook

Our foreign currency rating on Sri Lanka is ‘SD’ (selective default). We do not assign outlooks to ‘SD’ ratings because they express a condition and not a forward-looking opinion of default probability.

The negative outlook on the local currency rating reflects the high risk to commercial debt repayments over the next 12 months in the context of Sri Lanka’s economic, external, and fiscal pressures.

Downside scenario

We could lower the local currency ratings if there are indications of nonpayment or restructuring of Sri Lankan rupee-denominated obligations.

Upside scenario

We could revise the outlook to stable or raise the local currency ratings if we perceive that the likelihood of the government’s local currency debt being excluded from any debt restructuring has increased. This could be the case if, for example, the government receives significant donor funding, which gives it some time to implement immediate and transformative reforms.

We would raise our long-term foreign currency sovereign credit rating upon completion of the government’s bond restructuring. The rating would reflect Sri Lanka’s post-restructuring creditworthiness. Our post-restructuring ratings tend to be in the ‘CCC’ or low ‘B’ categories, depending on the sovereign’s new debt structure and capacity to support that debt.

Rationale

Sri Lanka’s external public debt moratorium prevents payment of interest and principal obligations due on the government’s ISBs. As such, interest payments due June 3, June 28, and July 18 on its ISBs maturing 2024, 2025, and 2026, and the principal payment on its July 25, 2022, ISB, would have been affected. Following the missed payments, and given our expectation that payment will not be made within 30 calendar days of the due date, we have lowered the issue ratings on these bonds to ‘D’ (default).

Overdue payments now include the following bonds:

US$1.0 billion, 5.875% bonds due 2022.

US$1.25 billion, 5.75% bonds due 2023.

US$500 million, 6.35% bonds due 2024.

US$1.5 billion, 6.85% bonds due 2025.

US$650 million, 6.125% bonds due 2025.

US$1.0 billion, 6.825% bonds due 2026.

US$1.5 billion, 6.20% bonds due 2027.

US$1.25 billion, 6.75% bonds due 2028.

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Sri Lanka rupee guidance peg edges up; market sees dull trade in govt securities 

ECONOMYNEXT – Sri Lanka’s rupee guidance peg on interbank spot trading strengthened by seven cents while yields on Treasury bills and bonds remained dull on Monday (15) with only a handful of maturities quoted ahead of the central bank’s monetary policy rates later this week, dealers said.

“There was nothing in the market. It was dull today,” a market dealer said.

The central bank will announce its latest key monetary policy rates on Thursday, August 18.

A bond maturing on 01. 06. 2025 closed at at 27.50/28.50 percent on Monday, slightly down from 27.30/28.30 percent on Friday.

The three-month T-bill closed flat at 26.00/27.00 percent on Monday.

Sri Lanka’s central bank announced a guidance peg for interbank transactions strengthened by 7 cents to 360.92 rupees against the US dollar on Monday from 360.85 rupees.

Data showed that commercial banks offered dollars for telegraphic transfers between 369.70 and 370.00 for small transactions. (Colombo/ Aug 15/2022)

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Sri Lanka stocks rally continues for 12th straight session on political stability hopes 

The main index fell for the 4th consecutive session

ECONOMYNEXT – Sri Lanka stocks gained for the 12th consecutive session on Monday (15) ending at their highest in more than four months pushed by retail shares amid signs of political stability after months of protests, dealers said.

The market generated 5.8 billion rupees in turnover, nearly twice of this year’s average daily turnover of 3.11 billion rupees.

The main All Share Price Index (ASPI) rose 1.82% or 164.04 points to 9,191.52, its highest since March 30. The index has risen 19.6% in the last 12 sessions.

“We are seeing a lot of volatility in the market today due to profit taking in the key shares that gained in the last 11 sessions,” a market analyst said.

“Profit-taking also returned after the CSE (Colombo Stock Exchange) published the last set of June reports that showed some counters having done very while some not so much, therefore, there is a significant reaction for that.”

In the last few sessions, the market was mostly driven by Lanka IOC and the plantation sector.

However, ahead of the fuel price revision, LIOC moved to red.

“There was a bit of profit taking on anticipation of price cuts. However, unless fuel prices are cut sharply, LIOC will continue to move,” the analyst said.

At the start of the month, CPC cut fuel prices by 10 rupees based on the price formula.

Globally, crude oil prices have dropped hence there is strong speculation that fuel prices will be cut further.

Last week, Sri Lanka announced a 75 percent electricity tariff hike.

Investors previously feared the move would drag the market down due to possible higher costs for manufacturing firms.

However, the political stability after four months of protest is seen as the catalyst for the market gain, dealers said.

The government also tabled an interim budget last week, revising the budget presented last year as the country is going through an unprecedented economic crisis amid plans on a four-year IMF loan programme, debt restructuring, fiscal reforms, and dealing with loss-making state-owned enterprises.

Sri Lanka already declared sovereign debt default on April 12 this year and failed to pay its first sovereign debt in May amid a deepening economic crisis which later turned into a political crisis and led to a change in the president, cabinet, and government.

The more liquid S&P SL20 index moved up, closing at 0.82% or 25.28 points stronger at 3,097.30.

Sri Lanka is facing its worst fuel and economic crisis in its post-independence era and the economy is expected to contract 7 percent this year.

The main ASPI gained 18.8 percent in August so far after gaining 5.3 percent in July. It lost 9.3 percent in June, 23 percent in April, and 14.5 percent in March.

The market index has lost 24.8 percent so far this year after being one of the world’s best stock markets with an 80 percent return last year when large volumes of money were printed.

Sri Lanka’s sovereign debt default on April 12 has already led the country to be rated with restricted/selective default rating by rating agencies, which has weighed on investor sentiment.

Net foreign outflow was 117 million rupees on Monday while the total net foreign outflow so far this year is 1.3 billion rupees.

Investors are also concerned over the steep fall of the rupee from 203 to 370 levels so far in 2022.

Ceylinco Insurance which pushed the ASPI, closed 11.9 percent up at 2,143.2 rupees a share. Browns Investment closed 8.5 percent up at 8.9 rupees a share, and John Keells Holdings gained 2.5 percent to 129.7 rupees. (Colombo/Aug15/2022)

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