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Monday December 11th, 2023

Sri Lanka’s path to debt and destruction paved by currency collapse, REER targeting: Bellwether

ECONOMYNEXT – The collapse of Sri Lanka’s soft-pegged rupee, partly due to policy errors of the Central Bank and partly due to the false doctrine of unsound money, has sown debt and destruction not only on citizens but also on politicians who were demonstrably willing to make difficult decisions on taxation, freer trade and energy pricing.

Unsound money has worsened an external debt problem and sown the burden of depreciation upon a population that was called upon to pay higher taxes, wiping out the benefits of free trade and import duty cuts.

A Lost Generation

Friedrich von Hayek, who debated with Keynes when he was alive, got the Nobel Prize after Bretton Woods collapsed.

Hayek said the dangers of applying Keynesian economics to manage economies were proved but troubles will not end.

“..[I]t has left us with a with a lost generation of economist who have learnt nothing else,” he said, and added in unusually strong language:

“One of our chief problems will be to protect our money against those economists who will continue to offer their quack remedies, the short-term effectiveness of which will continue to ensure them popularity. It will survive among blind doctrinaires who have always been convinced that they have the key to salvation

“In consequence, though the rapid descent of Keynesian doctrine from intellectual responsibility can be denied no longer, it still actively threatens the changes of a sensible monetary policy. Nor have people realised how much irreparable damage it had already done, particularly to Britain, the country of its origin.

While Germany guided by the likes of Hayek, Ludwig von Mises and Wilhelm Ropke created a strong Detsche Mark and a social market economy after its defeat by the Allies, Britain, which led the war, retreated with Sterling crises.

Due to the widespread belief in the so-called false doctrine of ‘lost generation economics’ (in reality, not economics but Mercantilism) that became prevalent especially during Bretton Woods era soft-pegs, it is difficult for people to understand the following two concepts:

a) that there is no prosperity at the end of permanent currency depreciation or the destruction of money, and

b) the strength or weaknesses of a currency is simply based on a monetary rule implemented by a central bank that has the monopoly on issuing money, and has nothing to do with the real economy or how people behave, or fate.

In Sri Lanka, where people widely believe in fate, it has been easy for Mercantilists and central bankers to instill in people a false belief that the rupee is doomed to depreciate because there is something wrong with their behaviour, or the country, or imports.

But no mention is made of the agency that issues the depreciating paper, whose over-issue is responsible for the decline in value.

It was clearly seen in 2018 when outright lies were told to politicians about the reasons for the currency collapse.

There is hardly anyone alive who saw a fixed rupee during their adult lifetimes.

Day after day, the popular press, financial media including the international financial press, reinforces a false belief by attributing to all kinds of real-economy reasons to exchange rate movements – imports, remittances, exporter conversions, securities sales or purchases – rather than to monetary policy.

Currency boards like Hong Kong are ignored because reporters and regional analysts and economists whom they quote do not really understand the peculiarities of monetary regimes. Everyone talks of Dutch disease (that a discovery of oil appreciates a currency) but no one mentions Dubai, Qatar or Oman whose exchange rates, hey presto, apparently do not appreciate.

The Central Bank itself happily throws more dirt into the mix by comparing apples (floating rates like Australian dollar) and oranges (Singapore, which has no policy rate) with rotten eggs (soft pegs like India and Sri Lanka), while ignoring currency boards that are fixed, when comparing exchange rate movements.

It is an uphill struggle to go against more than half a century of lost generation economics/Mercantilism, but this column will try to explain it to some extent.

A Monetary Rule

A currency’s strength or weakness is based on a monetary rule and how it is implemented (the volume of notes and the demand for the bills during a given period), and the same two bases of the currency to which it is compared.

When laymen refer to currency depreciation, they do not refer to depreciation against specie, like gold, and silver or commodities like oil or wheat, but to the product of a central bank that implements a rule more successfully than another, such as the US Fed, which issues dollar notes.

It is now clear that an agency with fully floating exchange rates can implement its rule better (inflation targeting or targeting a domestic anchor) or fully floating interest rates having a fixed exchange rate (hard peg or currency board with an external anchor) rather than one that tries to do both (a soft-peg).

While the Fed has its own faults – and they are many, according to classical economists – it is better than most. As a result, currency depreciation usually refers to depreciation against the US dollar.

But the US dollar itself depreciates against real commodities or precious metals, or other stronger currencies like the Singapore dollar or the Yen, over the longer term. Since the break-up of the Bretton Woods, the Singapore dollar has appreciated to 1.2 from 3.0 and the yen to about 110 from 360 in 1971.

Running in One Place

Drip, drip, drip depreciation or REER targeting makes people run in one place, undermining salary increments and savings made by breadwinners of a family every year and large soft-peg collapses reverse decades of savings and gains made through hard work, promotions and salary hikes.

This is true not only for an individual family but also for a company or a government, and therefore for an entire nation that is made up of these building blocks.

The opposite is true for liabilities if they are dollar denominated – hence the bloating of national debt in 2018.

It has already been shown that Sri Lanka’s central government debt shot up to 84 percent of gross domestic product, despite lower budget deficits, mostly due to trying to target the REER without floating interest rates and inflation without a floating exchange rate.

But how does currency destruction work?

Currency Destruction Made Simple

One example that may make sense of the destruction of REER targeting and depreciation are the expressways.

The budget for 2019 proposed an increase of Rs100 on peak hour fees for expressway users, which were built with loans denominated in foreign currencies. Following the collapse of the soft-pegged rupee, it will still not generate the same dollar revenues as before, though people will have to fork out a bigger portion of their salaries after the Central Bank busted the rupee.

The expressways are built with US dollars, yen or yuan debt. This column will simply compare US dollar debt.

Expressway fees were brought down in the infamous 2015 budget by then Finance Minister Ravi Karunanayke, though people were asking for better governance, not subsidies.

The current fee from Kottawa to Godagama (Galle) on the Southern Expressway is Rs550, which will generate $3.71 to repay its debt.

At the 2014 exchange rate, before the 2015 soft-peg policy errors (terminating term repos like Argentina’s central bank repurchased its sterilisation securities as the economy recovered strongly triggering a collapse of the rupee), a Rs550 fee would have generated $4.23 to repay debt.

After a Rs100 fee hike to Rs650 by the latest budget, only $3.71 would be generated to repay debt, through car owners would be out of pocket for an extra Rs100 (or Rs50) for each ride.

The citizen is back two steps, but the government is also back one step.

If the user fee of Rs600 was unchanged from the Rajapaksa regime, and Sri Lanka had a currency board or was dollarized, $4.62 would be generated to repay debt.

If the fee was hiked to Rs650, fully $5.0 would be generated to repay debt. The citizen would be back one step, but the government would have been a step ahead.

In the case of the Colombo-Katunanayake expressway, the increase would be steeper, with a Rs100 hike equivalent to 33 percent.

In 2014, Rs300 generated $2.31. At the current exchange rate of 175 to the US dollar, from Rs400 about $2.29 would be made.

The citizens are one step back, and the government is running in one place.

Inflationary Revenues

In the case of highway fees, there is an administrative decision to raise fees to bring back the status quo. The restoration of the status quo generates an increase in nominal prices – in other words, this is how currency depreciation causes inflation – in the non-traded sector.

In the case of the traded sector, let’s say fuel, prices would automatically rise and if there was a 10 percent tax revenues would also rise by 10 percent, restoring the status quo.

Some time ago, Sri Lanka’s central bankers disputing ex-Central Bank Governor Nivard Cabraal on an earlier currency collapse, said that currency depreciation will bring more revenue not less. They were referring to this inflationary effect.

Finance Minister Mangala Samaraweera had been fed with the same false doctrine apparently by ‘economists’.

He told reporters that Customs had failed to collect more revenues despite currency depreciation and he understood that it was possible when he was giving reasons for changing a head of the department. (Read link – ‘Cusoms Department not fully able to reap the benefits of rupee depreciation as expected’)

Inflationary revenues go up to after an year or so, after incomes go up, not in the same year. Stretching the earlier example – because salaries do not go up automatically with currency depreciation – people cannot spend more on BOTH fuel and expressway fees.

This is because people have to give up a part of their spending to accommodate currency depreciation.

Contradictory Claims

The inability to expand spending exactly in step with depreciation is the same reason central bankers say the currency has to depreciate to account for excess demand (recently over-issued money).

But in Sri Lanka, the same ‘economists’ who say revenues go up due to currency depreciation will say in the same breath that depreciation will account for excess demand and bust the currency.

When a pegged exchange rate is floated, it falls due to recently printed money, and stop falling after the float takes hold and printing halts.

The reason the currency stops after a certain amount of depreciation is because people run out of money to buy goods and no new money is created in defending and printing to stop interest rates going up. So their total spending will remain the same – unless they dipped into savings – which in turn will reduce the money available for credit to other lenders.

There is no linear relationship between currency depreciation and tax revenues as Mangala Samaraweera has been misled into believing.

If 2018 was bad with depreciation hitting from April, Minister Samaraweera should see how it will be in the first half of 2019, when depreciation was even worse.

Officials get away with these patently contradictory and therefore false claims because ordinary people do not probe too deeply into these issues. Ordinary people assume that economic reason is being used when in fact Mercantilist unreason is holding sway.

After inflation takes place (imported goods go up in price, and non-traded items also go up in price later and salaries catch up), nominal revenues will also go up.

When currencies collapse and credit contracts (savings are not loaned out) in fact the currency can be appreciated as it now happens. In that case, nominal revenues will not go up sharply either, since total imports will also slow due to credit contraction in the short term.

But to the extent that the rupee bounces back, real revenues will go up.

Debt and State Revenues

A country that has a lot of liability dollarisation require real dollar revenues, not nominal rupee revenues. In Sri Lanka now, government debt including state-guaranteed loans of agencies like RDA, airport and energy utilities make up about half or more of the national debt.

Despite increases in taxes including personal income taxes, there has been slow growth in real dollar revenues.

It will happen later when the currency stabilises, economy recovers, inflation goes up and salaries go up and the people had slid back two steps.

In 2018, where REER targeting really saw its full effects, real revenues had fallen by $1.4 billion.

Reporters including at EconomyNext had been portraying the August 2018 excess liquidity spike which led to the second run on the rupee in 2018, as policy errors of soft-peggers who do not know how to operate a peg (this is, of course, true by definition – that is why soft-pegs collapse).

But it could well have been a deliberate bust of the currency to target the REER which had climbed to 104 by June and 105 by July 2018 as the Reserve Bank of India made policy blunders depreciating the Indian Rupee steeply, and other currencies also fell.

The REER appreciated despite the Sri Lanka rupee collapsing from 153 to 161 mostly because other currencies in the basket were unstable. This column warned earlier that Sri Lanka would import all policy errors and that of the lowest denominator central bank like the RBI through REER targeting.

Salary Catch Up

To the extent that salaries do not catch up, a currency fall will benefit special interest darlings, especially hard goods exporters. But services exporters like software will see brain drain, unless salaries are jacked up fast for their qualified globally-mobile workforce. To the extent that wages do not catch-up, politicians will pay the price at the elections.

But the central bankers who destroyed the money, and the family, will get away scot free as they have been doing so for decades.

Salaries usually do not catch up completely. That is why soft-pegs are ‘miserable third-world countries’, as Singapore’s first Finance Minister and Currency Board chief Goh Keng Swee said, leaving gaps with other countries.

Even when salaries catch up, the country and its people will only be back to square one. Make no mistake; there will be no progress.

But based on the REER index or due to policy errors, the currency will fall again.

There have to be productivity increases, particularly in labour to have real progress. Productivity increases come from capital investments or now increasingly, education. But when capital is destroyed there won’t be any productivity increases.

Productivity Gains

Under REER targeting parents who are paying fees to send their kids to universities abroad are among those who are paying the highest price. These parents are giving valuable global skills to their kids mortgaging their houses in the process.

All the fees for foreign exams at even affiliated colleges are up. Immense harm has been done to these people. With lower real salaries at home, there is less prospect of these kids coming back.

REER targeting and lost generation economics/Mercantilism, therefore, is promoting brain drain and discouraging the creation of brains to drain in the first place.

Even in other areas capital is required to boost productivity.

But currency collapses destroy real capital and savings. In countries with depreciating currencies, nominal interest rates have to be chronically higher to give real returns to savers.

Even so, the beneficiaries may be the larger fixed deposit holders and government bond holders, where markets are more efficient. Buyers of large fixed deposits or bonds have bargaining power.

Savings depositors – the weakest members of society – pay the highest price from REER targeting and currency depreciation.

But everyone is paying a price. House builders, factory builders, transport operators, even the IT sector is paying the same price for the wanton destruction of money.

A key reason that countries like Singapore and Malaysia (and China after 1993) has plenty of domestic capital and nominal interest rates are low is due to strong currencies.

Savers make up for low nominal rates with real capital retention and borrowers do not have to pay high nominal interest from their own value addition to make up for wanton destruction of the currency.

It is laughable the way the central bank blames primary dealers and others for pushing interest rates up.

It is the central bank deprecation also monetary instability that requires high interest rates to restore the status quo or correct policy errors as well as preserve real capital.

Capital Destruction

Capital destruction can be seen in several ways. Some of the largest banks in the world are in Japan.

How did that happen if interest rates are probably the lowest in the world?

One reason is the strength of the Yen or sound money, which has also kept inflation low or zero.

Since the break-up of the Bretton Woods soft-pegs the Yen had appreciated from around 360 to 130 to the US dollar.

If a government in a dollarized country, defaults and there is a – say 15 percent – haircut on defaulted bonds as part of a debt workout, pension funds who own the debt will make a 15 loss, and banks will also lose the real value of their bond portfolio which may be 30 to 50 per cent of the total assets.

If there is currency depreciation the value of all assets will be lost.

However, banks will also see the value of deposits fall. Depositors will lose on a net basis.

In the year ending 2014, the gross assets of Commercial Bank of Ceylon, Sri Lanka’s largest private lender, grew 31 percent to $6.07 billion.

In the subsequent four years, gross assets only grew 17.4 percent to $7.13 billion amid currency depreciation.

Interest rates were low in 2014, with gross revenues growing only 0.7 percent to $568 million.

But net assets were up 15.4 percent to $538 million and net profits were up 6.8 percent to $79.8 million.

In 2018, gross assets fell 4.65 percent from $7.48 billion in 2017.

At Bank of Ceylon in the 2014 financial year, gross assets grew 11.1 percent, to $10.14 billion.

In the whole of the next four years, assets grew a total of 22.38 percent to $12.4 billion, with a 2.8 percent decline in the last year.

Net assets grew 29.4 percent to $570 million in 2014.

Over the next four years, the growth was only 16.4 percent to $664 million with the final year seeing a decline of 8.6 percent with the rupee collapsing to 182 to the US dollar.

One may argue that assets can grow because banks borrow abroad and some banks may be more aggressive than others or that central bank forward guarantees may have an impact.

In that case what about deposits?

In 2014, Commercial Bank’s deposits grew 16.84 percent to $4 billion. In all of the subsequent four years, their deposits grew only 34.9 percent to $5.44 billion, with a 2.98 contraction in the last year.

In that case what about deposits?

In 2014, Commercial Bank’s deposits grew 16.84 percent to $4 billion. In all of the subsequent four years, their deposits grew only 34.9 percent to $5.44 billion, with a 2.98 contraction in the last year.

At NSB, the four-year hit on real deposit is higher.

In 2015, deposits grew 10.15 percent. In the intervening years, deposits grew only 8.6 percent.

Expropriation by deposit caps

The real deposit loss during the depreciating year will be recovered somewhat in the next year as deposit rates fall slowly.

Now there is talk of deposit caps. Deposit caps will expropriate the depositors will feel the effects of currency depreciation even more.

If deposit caps are placed what will be the plight of the people? Maybe the entire banking system will be like the NSB or worse.

This is the reason that ‘developing countries’ find that there is not enough domestic capital for investment.

More often than not the culprit is the soft-pegged central bank which not only destroys capital wantonly but also generates capital flight with depreciation as well as exchange controls to combat the run.

East Asian nations with stable currencies, do not have to borrow abroad much as domestic capital is not destroyed by the central bank. Only laggard Indonesia depreciated despite having a trade or balance of payments surplus on an implicit REER targeting exercise.

Wanton capital destruction requires foreign borrowings because domestic capital is not enough.

In any case, to get back the status quo, will take many months. The bigger the currency collapse the longer it will take for salaries to adjust and for people to be able to either consume or invest as they were able to earlier.

War and Lost Generation Economics

The 2018 currency collapse was very sharp, sharper than in earlier years. The credit collapse is also acute. The level of bad loans is also high due to two busts coming in quick succession.

It was shown in the last column that a return to explicit lost generation economics involving closing a perceived gap between actual and potential growth by printing money as well as REER targeting without a floating rate was responsible for this situation.

Lost generation economics is worse than war. The Weimar Republic collapsed from monetary instability after the end of World War I, not during the war. That should be a lesson to any country.

Only a handful of economists have driven or advised on monetary policy in Sri Lanka using classical economics, while most officials have been driven by lost generation economics.

The handful include A S Jayewardene and W A Wijewardene. Credit also goes to Nivard Cabraal for implementing tight policy amid a global collapse and war.

It is no secret that Cabraal had to battle fiscal dominance of monetary policy. So much so that a second policy rate was created.

The current central bank had no problem with any pressure from Finance Minister Mangala Samaraweera or Eran Wickremeratne after Ravi Karunanayake was replaced.

As a result, it is evident that there was no fiscal dominance of monetary policy for the instability seen in 2018. Rather it was a problem of monetary dominance of fiscal policy. While 2018 was a clear case to open everyone’s eyes, it can be seen that lost generation economics had played a part in earlier instability as well.

Lost generation economics that brought down the Bretton Woods was a peculiar set of belief systems.

These include the Phillips curve (a belief system that higher inflation will lower unemployment), that gap between potential and actual output can be closed by printing money. There are also other ideas like terms of trade shock or the J-Curve which were also related to the credit cycle, but are instead viewed as Mercantilist trade phenomena.

Lost Generation in 2019

In January there is a severe credit and import collapse. To be sure a part of the destruction was due to the political crisis generated by President Maithripala Sirisena by throwing the constitution to the dustbin.

Capital flight worsened after the political crisis, though the soft-peg was pushed to the weak side of its convertibility undertakings and its credibility lost by a liquidity shock in August.

This column has said previously that it wasn’t practical to float a currency without a constitution. It is a bit difficult fault the central bank for its conduct during the political crisis after October 26.

For the 2015/2016 currency crisis, the budget could be partly blamed though ultimately it was central bank releasing liquidity like Argentina’s central bank repurchasing Leliq notes until then-Governor Arjuna Mahendran asked the head of domestic operations to stop it.

It was immortalised in the Bondscam inquiry report as follows.

“On or about 03rd March 2016, Mr. Mahendran had telephoned Mr. Rodrigo (head of domestic operations) and instructed him, that the conduct of Reverse REPO Auctions should be immediately stopped, so as to stop the injection of liquidity into the market through Open Market Operations. “In this connection, Mr. Rodrigo said that the “Governor telephoned me in the morning, and said to immediately stop conducting of reverse REPO Auctions.”.

“When the Commission of Inquiry asked the witness why Mr. Mahendran had issued such instructions, he said, that Mr. Mahendran had mentioned that the CBSL had earlier increased the Statutory Reserve Requirement in an effort to reduce Liquidity and that the intention of the CBSL was to “drain liquidity.” “Mr. Mahendran had said that, in this background, Liquidity should not be injected into the market by CBSL and that the CBSL wanted Interest Rates to move up.”

The liquidity short

This year liquidity is short. The central bank also kept liquidity short during the political crisis. It had no other choice.

It is well known that prolonged liquidity shortages trigger output shocks and warnings have been given earlier.

In a peg, rates have to go up quickly when pressure comes in, and rates have to fall just as fast when the pressure goes away.

After the post New year, the liquidity short should be cleared, preferably through dollar purchases.

The severe import collapse seen in January will hit tax revenues if it continues. This is also the common effect of lost generation economics. Heavier state borrowings may be required.

Interbank liquidity can be filled permanently, and term repos converted to outright purchase of bills after watching how cash comes back to the system. In the wake of the Easter bombings, borrowings may fall further.

Once the peg is on the firm side (data so far shows that the central bank was steadily buying dollars from February on a net basis), it is quite possible to maintain plus liquidity without causing instability.

As long as a part of the liquidity from dollar purchases is mopped up, the peg will be secure.

It is not necessary to keep the markets short and cut the ceiling rate.

Overnight rates will fall naturally through excess liquidity generated from dollar purchases.

Mopping up a part of the liquidity to collect reserves should be enough to maintain exchange rate stability. As rates fall, the floor rate should be cut.

There is no need to put deposit caps, cut the floor rate as long there are net dollar purchases with moderate mopping up of forex reserves.

IMF programs and policy floor

In the past, when senior hands who had knowledge of pegs were in the IMF program, front-loaded disbursements were made through stand by programs to build reserves and instill confidence.

A key reason to give reserves was so that large volumes domestic credit were not contracted by excessive mopping up.

IMF disbursements gave immediate reserves, and domestic reserves could then be mopped up by curtailing credit over extended periods, allowing growth to recover.

All these principles seem to be lost after the IMF started to broadbase hiring. Chicago school or LSE graduates are the best candidates for IMF since they do not believe in lost generation economics.

If the rupee does not appreciate back, inflation will come regardless of the low or high policy rate.

The policy ceiling, in fact, should be kept where it is or even widened so that the peg will be protected by a quick rise in rates if policy errors are made or there is capital flight in the future.

And policy errors will be made.

The recent prudent monetary policy is probably an anomaly. Unless some kind of accountability mechanism is set up this country will continue to pay a high price for the soft-peg and lost generation economics will continue to haunt the country.

The second class peg with a ‘flexible’ exchange rate has done incredible damage to the country since 1950 while countries with harder pegs overtook the island.

Seventy nine years is a long time not to learn. Now another second class monetary framework with ‘flexible’ inflation targeting is planned and the opportunity bring monetary stability is going to be lost again.

The poor had paid a heavy price with currency depreciation and the high nominal rates that monetary instability brings as well as high and un-necessary reserve ratios.

They should not continue to pay the same price. This impunity has to end. It has continued too long already.

This column is based on ‘The Price Signal by Bellwetherpublished in the May 2019 issue of the Echelon Magazine two months ago. To read Bellwether columns as soon as they are published, subscribe to Echelon Magazine at this link. The i-tunes app can be downloaded from here.

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Sri Lanka’s Singer Finance rating cut to BBB (lka), outlook stable: Fitch

ECONOMYNEXT – Fitch Ratings has downgraded the national long-term rating of Sri Lanka’s Singer Finance (Lanka) Plc to ‘BBB (lka)’ from ‘BBB+(lka)’.

This rating is a support driven rating and therefore this downgrade follows similar rating action on SFL’s parent, the company said in a statement.

Its senior listed rated unsecured debentures of Rs 5 million issued on May 19, 2020 were also revised down from BBB+ ro BBB; and subordinated listed rated unsecured debentures of Rs 2,000 million issued in June 25, 2021 were revised down from BBB- to BB+.

The full statement is reproduced below:

Fitch Downgrades Singer Finance to ‘BBB(lka)’; Outlook Stable

Fitch Ratings – Colombo/Mumbai – 07 Dec 2023: Fitch Ratings has downgraded Singer Finance (Lanka) PLC’s (SFL) National Long-Term Rating to ‘BBB(lka)’ from ‘BBB+(lka)’. The Outlook is Stable. Fitch has also downgraded SFL’s outstanding senior unsecured debt to ‘BBB(lka)’ from ‘BBB+(lka)’, and the outstanding subordinated unsecured debentures to ‘BB+(lka)’ from ‘BBB-(lka)’.


Parent’s Weakening Ability to Support: The downgrade follows similar rating action on SFL’s parent, consumer-durable retailer, Singer (Sri Lanka) PLC (A(lka)/Stable), on 29 November 2023. SFL’s rating is based on our expectation of support from Singer, taking into account Singer’s 80% shareholding in SFL, the common brand name and a record of equity injections into SFL. As such, the downgrade reflects Singer’s weakening ability to provide support.

Moderate Synergies: We believe SFL has limited synergies with Singer, as evident from SFL’s small share of lending within the group’s ecosystem. We also believe support from the parent could be constrained by SFL’s significant size relative to Singer, as its assets represented 41% of group assets at end-September 2023. SFL’s operational integration with the group is also low, although the parent has increased its focus on the subsidiary’s strategic long-term decision-making over the past few years and has meaningful representation on SFL’s board.

Weak Standalone Profile: SFL’s intrinsic financial position is weaker than its support-driven rating. It has a small domestic vehicle-focused lending franchise and a high-risk appetite stemming from its exposure to customer segments that are more susceptible to difficult operating conditions.

Less Severe Economic Risk: We expect downside economic risk to moderate after Sri Lanka completed the local-currency portion of its domestic debt optimisation, which addressed one element of risk to financial system funding and liquidity. We expect the operating environment to remain challenging in light of strained household finances and fragile investor confidence, but conditions should stabilise with a gradual economic recovery amid easing inflation and interest rates.

Vehicle Loans Remain Dominant: SFL’s business model is dominated by vehicle financing, which accounted for 69% of its lending portfolio as at end-June 2023. Gold loans have been growing at a faster rate in the last few quarters, reaching 28% of SFL’s portfolio, amid lower demand for vehicle financing. However, we do not expect a major change in SFL’s vehicle-focused business mix in the medium term, given its more established franchise in this segment.

Weak Asset Quality: SFL’s reported stage 3 assets ratio rose to 11.9% in the financial year ending March 2023 (FY23), from 6.6% in FY22, on weaker collections in its core vehicle loans segment as well as implementation of a stricter stage 3 recognition rule. We expect asset quality to remain stressed in the medium term, due to the weak economic environment. Nonetheless, loan collections could increase as borrower repayment capability improves, provided the economy gradually stabilises with declining inflation and interest rates.

Profitability to Recover, Leverage Rising: We expect SFL’s net interest margin to gradually recover in the medium term amid a declining interest-rate environment. This, along with a potential pick-up in loan growth, should support earnings and profitability, but a strong loan expansion in the medium term could pressure leverage.

Pre-tax profit/average total assets declined to 3.1% in FY23, from 4.5% in FY22, due to a sharply narrower net interest margin of 9.4%, against 12.7% in FY22. This followed a surge in borrowing costs due to rising interest rates. SFL’s debt/tangible equity reached 5.4x by end-September 2023, from 5.1x at FYE22.

Improved Funding and Liquidity: SFL’s share of unsecured deposits/total debt swelled to 80% by end September 2023, from 52% at FYE22, supported by a greater focus on raising deposits. SFL’s increased cash and cash equivalents from deposit raising and reduced lending mitigated near-term liquidity pressure.

Liquid assets/total assets rose to around 27% by end-September 2023, from 8% at FYE22, as SFL boosted its investments in liquid assets amid fewer lending opportunities.


Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade

SFL’s rating is sensitive to changes in Singer’s credit profile, as reflected in Singer’s National Long-Term Rating.

Singer’s weaker ability to provide support to SFL, as signaled through a further downgrade of its rating, SFL’s increased size relative to Singer that makes extraordinary support more onerous or delay in providing liquidity support relative to SFL’s needs due to economy-wide issues could also lead to negative rating action on SFL.

The ratings may also be downgraded if we perceive a weakening in Singer’s propensity to support its finance subsidiaries due to weakening links. That said, SFL’s standalone credit profile could provide a floor to the rating.

Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade

A significant positive turnaround in Singer’s financial prospects or increase in SFL’s strategic importance to Singer through a greater role within the group could lead to narrower notching from Singer’s profile. A large improvement in SFL’s intrinsic credit profile could result in its ratings been derived from its standalone profile.



The rating on SFL’s senior unsecured debt is in line with the National Long-Term Rating, as the debt constitutes the unsubordinated obligations of the company.


SFL’s Sri Lankan rupee-denominated subordinated debentures are rated two notches below its National Long-Term Rating to reflect their subordination to senior unsecured obligations. Fitch’s baseline notching of two notches for loss severity reflects our expectation of poor recovery. There is no additional notching for non-performance risk.

SFL’s senior unsecured debt and subordinated unsecured debt ratings will move in tandem with the National Long-Term Rating.

The principal sources of information used in the analysis are described in the Applicable Criteria.

SFL’s rating is driven by Singer’s National Long-Term Rating.

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Sri Lanka’s ousted utilities regulatory chief convinced he’ll be president

ECONOMYNEXT — Sri Lanka’s former public utilities regulatory chief Janaka Ratnayake, who was removed in May following a parliamentary vote, has confirmed that he intends to run for president.

Speaking to reporters on Sunday December 10 in the wake of an hours-long island-wide power outage the previous evening, Ratanayake said he will be the definite winner at a future presidential poll.

“I announced [my intention to run] officially on December 07, my birthday. I’m definitely coming as a presidential candidate. That’s not all, I’m the definite president at a future presidential election,” he said.

Ratnayake, in his first media appearance in months, was responding to questions about newspaper advertisements published on December 07 announcing his future candidacy.

Sri Lanka’s parliament on May 24 opted to remove the former chairman of the Public Utilities Commission of Sri Lanka (PUCSL), with 123 members voting in favour. This marked the first time a head of an independent government commission was sacked by Sri Lanka’s parliament.

Power & Energy Minister Kanchana Wijesekara, who had been at loggerheads with the regulatory chief, said at the time that the official had acted obstinately without the concurrence of fellow commission members.

The minister levelled five charges against Ratnayake, the first twoof  which were based on a February 10 verdict by the Court of Appeal rejecting an application filed by the offiical against an electricity tariff hike. Opposition legislators slammed the decision saying it undermined independent commissions.

Ratnayake’s presidential ambitions have been known for some time. A day before parliament voted to remove him, he told reporters: “If I can change the country, I will definitely join politics, because my intention is to serve the people and what is right.”

Ratnayake had blocked delayed a tariff hike in early 2023, resulting in losses to the state-run Ceylon Electricity Board (CEB), Minister Wijesekara claimed at the time. The PUCSL had als onot enabled tariff hikes for nine years, requiring its governing law to be changed, Wijesekera said.

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Sri Lanka wants university research to lead to commercially viable products

ECONOMYNEXT – Sri Lanka’s ministry of industries wants to ensure commercially-ready products and services are produced by university research, by facilitating partnerships with factories and entrepreneurs.

After a currency crisis, Sri Lanka’s government is in a drive to boost its trade balance by increasing exports.

“Our export basket hasn’t changed recently, partly because our small and medium entrepreneurs don’t have sufficient research and development facilities (like the multinationals) to innovate their products for the export market,” Additional Secretary of the Ministry of Industries, Chaminda Pathiraja said.

“At the same time, state universities and research institutes produce a large amount of research findings yearly, which end up sitting in those institutions; they don’t reach the industry,” Pathiraja said at a press briefing to announce a program on commercialization of new products and research, to be held tomorrow at the Waters Edge.

The networking forum will bring innovators and manufacturers together to focus on the commercialization of research for the value added tea, coir, spice, dairy products, gem and jewellery and packaging products industries.

“We want to encourage collaboration, through programs like our University Business League etc, so that the research output can be commercialized, and what is produced by our factories can increase in quantity and quality. We must focus on the export market.”

The objective of this program, he said, was to reduce the gap in acquiring innovators’ ideas and skills by the investors, and ultimately boost the manufacturing sector’s efficiency in alignment with the export market.

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