Sri Lanka rupee falls to new record low below 165 to dollar
ECONOMYNEXT – Sri Lanka’s rupee closed at a new record low of 165.00/165.30 rupees to the US dollars in the spot market down from 163.60/80 levels Friday dealers said, while stocks closed flat.
The central bank injected 33.4 billion rupees overnight at an average rate of 7.94 percent, 56 basis points below the 8.50 percent ceiling policy rate at which cash could have been given overnight to provide more support for the rupee.
A bond settlement took place on Monday.
The central bank had earlier cut dollar Net Open Position commercial bank last week. Analysts had warned that cutting NOPs will reduce depth and increase volatility of the exchange rate, based on past experience.
"But the real problem with narrow NOP limits is their reducing forex market depth," EN’s economic columnist Bellwether wrote in June, before the current panic and before the central bank trimmed limits (What Sri Lanka can do to improve the credbiliyt of its dollar soft-peg).
"Let’s say on Tuesday there is big demand for dollars or inflows fall, or both. But because NOP limits are narrow, the market has no depth to absorb it. As a result, the rupee/dollar rate will tend to be excessively volatile and the Central Bank is forced to step in or operate a peg."
"While it may be fine to have narrow NOP limits when overall credit from the banking system slows down and excess liquidity builds up (strong side of the peg or in hard peg parlance also known as the strong side of the convertibility undertaking), it is not possible to prop up a currency when credit picks up (the peg or currency is at the weak side of the convertibility undertaking) while also targeting a fixed policy rate by printing unlimited amounts of money."
A central bank which promises to intervene in forex markets in times of ‘excess volatility’ also has a de facto but uncertain convertibility undertaking, which it really cannot deliver on as long as money is injected through liquidity facilities.
The central bank had also injected term cash to the market earlier in the month, though since August 23 it had cut its Treasury bill stock from 40.7 billion rupees to 22 billion rupees, withdrawing some permanent money.
Bellwether had said NOP limits should only be cut in banks that are borrowing from liquidity windows (or term reverse repo auctions) because those positions are funded with central bank money.
"But it makes very good sense for NOP limits to be tied to a bank’s access to window cash," Bellwether said.
"A bank that utilises the window for several days in a row should have its NOP limits cut or eliminated.
"All of this will discourage banks from lending to customers without real deposits."