Sri Lanka rupee weakens after liquidity injections; spot market trades halted

ECONOMYNEXT – Moral suasion returned to Sri Lanka’s forex markets on Tuesday with trading in the spot market halted by authorities with no trades allowed above 145.90 to the US dollar, dealers said, as the rupee weakened in the wake of heavy liquidity injections.

The rupee weakened to 146.20/25 in spot next-next deals, where settlement is made four days ahead, implying that the indicative spot is 146.10/20 to the US dollar, dealers said. In the spot market, settlements are made two days later.

Sri Lanka’s Central Bank bought dollars, but from August 29, allowed excess liquidity to build up, effectively letting the foot of the monetary accelerator boost credit and stop collecting foreign reserves.

Excess liquidity rose to Rs20 billion by August 31 as the Central Bank engaged in unsterilised forex purchases without attempting to keep the reserves by sterilising the rupees. On subsequent days, liquidity disappeared.

By September 19, a liquidity shortage rose to Rs48 billion, up from Rs31 billion. Liquidity goes short when the Central Bank sells dollars to when excess liquidity turns to imports or foreign loan repayments are made.

Injecting liquidity (printing money) on an overnight basis rather than giving accommodating credit with outright purchases of Treasury bills makes banks search for deposits, which cuts consumption.

Sri Lanka’s Central Bank generates balance of payments by purchasing Treasury bills outright either to finance the budget deficit or to sterilise forex sales.

On Wednesday, the Central Bank injected Rs43 billion at 8.49 percent overnight, down from Rs50 billion on Tuesday. On Tuesday, the Treasury bill stock of the Central Bank rose to Rs226 billion, up from $207 million on Monday.

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