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Tuesday November 29th, 2022

Sri Lanka’s central bank buys US$129mn to peg rupee in July

ECONOMYNEXT – Sri Lanka’s central bank has bought 129 million US dollars to peg the rupee to the US dollar with a strong side convertibility undertaking of a soft-pegged exchange rate regime, official data shows.

The central bank has generally deployed a strong-side CU (prevent appreciation of the rupee) in 2019, as bank credit weakened and credibility of the peg was restored with exporters no longer holding back dollars and importers panicking, though there is some capital exits from rupee bond markets.

In June the central bank also bought 87.5 million US dollars to enforce a strong side CU, generating excess liquidity in money markets.

Excess liquidity in money markets coming from weak private credit has lowered short term rates, and the central bank has lowered its policy corridor as rates moved towards the standing deposit rate or floor rate of the corridor.

By steadily mopping up inflows through the sell down of central bank held Treasury bills, the monetary authority has the ability to enforce a strong side CU build up reserves and generate further surpluses of dollars.

Sri Lanka’s central bank now operates a highly unstable peg with inconsistent policy which it calls a ‘flexible exchange rate’ which has brought balance of payments crises in quick succession, killing growth and panicking exporters and importers by trying to enforce a weak-side CU without a floating interest rate, critics have said.

The central bank operates several weak side CUs including explicit forward exchange guarantees (swaps), an undertaking to prevent a ‘disorderly adjustment’ of the exchange rate without a floating policy rate to enforce it.

Due to a ceiling policy rate the central bank prints money soon after buying dollars in a bid to enforce a strong side convertibility undertaking engineering a collapse of the exchange rate, analysts have showed.

Analysts have called for the policy corridor to be wide, so that short term rate will quickly move up and nip any exchange rate pressure in the bud, before exporters and importers panicked.

In 2019, there are some concerns that government borrowings will spike amid weak revenues.

There have been calls to criminalize certain actions of the domestic operations department, which prints money at below the ceiling policy rate, injects money recklessly to maintain excess liquidity despite dollar outflows, due to an apparent obsession with short term rates.

It also halted sterilization auctions suddenly in February 2018, ending monetary stability that has been maintained throughout 2017, helping trigger and economic recovery, critics have said.

In 2018 money was also injected through so-called Soros-swaps to worsen monetary instability..

In an upcoming reform to monetary law printing money through direct purchases of Treasury bills from through so-called provisional advance are expected to be outlawed.

It is not clear whether swaps would also be outlawed. (Colombo/Aug11/2019)

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A new Sri Lanka monetary law may have prevented 2019 tax cuts?

ECONOMYNEXT – A new monetary law planned in 2019, if it had been enacted may have prevented the steep tax cuts made in that year which was followed by unprecedented money printing, ex-Central Bank Governor Indrajit Coomaraswamy said.

The bill for the central bank law was ready in 2019 but the then administration ran out of parliamentary time to enact it, he said.

Economists backing the new administration slashed taxes in December 2019 and placed price controls on Treasuries auctions bought new and maturing securities, claiming that there was a ‘persistent output gap’.

Coomaraswamy said he keeps wondering whether “someone sitting in the Treasury would have implemented those tax cuts” if the law had been enacted.

“We would never know,” he told an investor forum organized by CT CLSA Securities, a Colombo-based brokerage.

The new law however will sill allow open market operations under a highly discretionary ‘flexible’ inflation targeting regime.

A reserve collecting central bank which injects money to push down interest rates as domestic credit recovers triggers forex shortages.

The currency is then depreciated to cover the policy error through what is known as a ‘flexible exchange rate’ which is neither a clean float nor a hard peg.

From 2015 to 2019 two currency crises were triggered mainly through open market operations amid public opposition to direct purchases of Treasury bills, analysts have shown.

Sri Lanka’s central bank generally triggers currency crises in the second or third year of the credit cycle by purchasing maturing bills from existing holders (monetizing the gross financing requirement) as private loan demand pick up and not necessarily to monetize current year deficits, critics have pointed out.

Past deficits can be monetized as long as open market operations are permitted through outright purchases of bill in the hands of banks and other holders.

In Latin America central banks trigger currency crises mainly by their failure to roll-over sterilization securities. (Colombo/Nov29/2022)

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Sri Lanka cabinet clears CEB re-structure proposal: Minister

ECONOMYNEXT – Sri Lanka’s cabinet has cleared proposals by a committee to re-structure state-run Ceylon Electricity Board, Power and Energy Minister Kanchana Wijeskera said.

“Cabinet approval was granted today to the recommendations proposed by the committee on Restructuring CEB,” he said in a message.

“The Electricity Reforms Bill will be drafted within a month to begin the unbundling process of CEB & work on a rapid timeline to get the approval of the Parliament needed.”

Sri Lanka’s Ceylon Electricity Board finances had been hit by failure to operate cost reflective tariffs and there are capacity shortfalls due to failure to implement planned generators in time. (Colombo/Nov28/2022)

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Sri Lanka new CB law to cabinet soon as IMF prior action

ECONOMYNEXT – Sri Lanka’s new central bank law will be submitted to the cabinet as a prior action of International Monetary Fund with clauses to improve governance and legalize ‘flexible’ inflation targeting, Central Bank Governor Nandalal Weerasinghe said.

Under the new law members of the monetary board will be appointed by the country’s Constitutional Council replacing the current system of the Finance Minister making appointments.

“It will be a bipartisan approach,” Governor Weerasinghe told an investor forum organized by CT CLSA Securities, Colombo-based brokerage.

“The central bank’s ability to finance the budget deficit will be taken out. Thirdly the flexible inflation targeting regime will be recognized in the law as the framework.”

The law will also make macro-prudential surveillance formally under the bank.

There will be two governing boards, one for the management of the agency and one to conduct monetary policy.

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