Sri Lanka’s reliance on domestic deficit financing raises inflation fears

ECONOMYNEXT – Sri Lanka’s reliance largely on domestic financing to fund the government budget deficit this year could be inflationary, according to an analysis by stockbrokers Bartleet Religare Securities.

The government’s 2019 budget, presented to parliament Tuesday, showed that of total deficit financing of 685 billion rupees, only 55 billion rupees comes from foreign financing, the lowest in five years.

The balance 630 billion rupees is from domestic financing, more than double that of 2018.

Of total domestic financing, 180 billion rupees is expected from foreign investments in Treasury Bills and Treasury Bonds and 362 billion rupees from non-bank borrowings.

The budget aims for a deficit of 4.4 percent, down from 5.3 percent in 2018 and a primary surplus of 1.5 percent.

“The unity government’s fourth budget moved visibly from the trajectory set by its 2017 predecessor opting for stimulation,” Bartleet Religare Securities said in a report.

“The 2019 budget makes a curious turn, financing a mere 55 billion rupees (net) out of a total 685 billion  rupees (8 percent) through foreign funding,” it said. “Ninety two percent of the deficit financing (is) through domestic sources.

“We feel the high portion assigned to domestic financing could be inflationary. “

Simply domestic borrowing, however, does not generate inflation as money is shifted from holders of government bonds to the state, who will then spend the money instead. Inflation and currency pressure comes when the debt is bought by the Central Bank with printed money (monetization of debt) or if banks give overdrafts or buy bonds with printed money from reverse repo auctions.

However, at least 180 billion rupees is also expected to be financed from foreign holders of rupee bonds.





Bartleet Religare Securities described the development as “a large turnaround in the deficit financing mechanism this year with only 8 percent of the total deficit being funded with foreign sources."

“We believe more than 92 percent of the year’s foreign borrowing of 720 billion rupees headed towards debt repayment is the reason behind this.”
(COLOMBO, March 06, 2019-SB)

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