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Tuesday December 5th, 2023

Why Sri Lanka is having power cuts, fuel shortages as forex crisis worsens – Explained

ECONOMYNEXT – Sri Lanka on Wednesday made a 35.3 million US dollar payment to release a 37,500 metric tonne diesel shipment and President Gotabaya Rajapaksa has also asked authorities to give priority for fuel as power cuts became bigger.

Energy Minister Udaya Gammanpila who had earlier warned of four hour power cuts when daily power cuts were denied to the CEB after a coal plant broke down, forex shortages disrupted imports and the utility was running down hydro storage too fast.

Gammanpila has also warned of fuel shortages if the CPC is not allowed a price increase to generate rupees to buy dollars as it can no longer borrow from banks.

Here are some key questions and answers on the fuel crisis in Sri Lanka:

Why is Sri Lanka facing a fuel shortage?

Sri Lanka’s state-run fuel retailer Ceylon Petroleum Corporation (CPC) cannot buy enough dollars in the market at the current 200 to the US dollar rate due to foreign exchange shortages. The shortages come from rupees injected into the banking system to maintain low interest rates which it has pushed up credit and demand for all imports.

Unlike other import bills, which are small, fuel bills are among the biggest, and therefore whenever money is printed to keep rates down, fuel bills stand out as the most difficult to fill. Unlike other importers the CPC also does not pay higher rates to buy dollars at higher rates any longer.

On top of that, the CPC says it is losing 551 million rupees a day due to rising fuel prices in February. Unless prices are increased it cannot find the rupees to buy dollars. In the past losses were covered by tax cuts and loans from state banks.

Now the government is short of tax revenues, especially after a salary increase, and the CPC is indebted to the hilt to state banks from past wrong practices. The CPC owes banks over 3.5 billion dollars.

What is the fuel supply outlook in the near future?

Officials at CPC say five oil tankers are scheduled to arrive in the island this week. However, if the CPC is unable to find dollars, the shortages are likely to continue with delays to clear the oil tankers.

Why doesn’t CPC have a buffer stock?

In the past, CPC has borrowed dollars or used suppliers’ credit to import oil without making immediate payments when money was printed to keep rates down, creating forex shortages. Now suppliers are no longer giving credit to the CPC. As a result, the CPC has to find dollars upfront to pay suppliers when there are forex shortages.

Earlier CPC used to have stocks of 2 to 3 weeks. Now the stocks are down to 5 or 6 days.

Though ships are coming on time as ordered, a delay in unloading triggers shortages across the distribution network leading to stock outs.

Minister Gammanpila has said in April in an Indian credit line may be activated allowing more imports to be made.

Is there an increase in Sri Lanka’s fuel demand?

Yes. According to statements by Energy Ministry officials, daily demand for diesel has risen sharply to about 9000 metric tonnes a day, from an earlier 6,000 a day. The increase is mostly from the power sector with some power plants that used to run on furnace oil also using diesel. The 270 MW West Coast combined cycle plant uses 1,000 MT day.

People are also using generators. Industries and people may also be stocking up and running with full tanks. Petrol use has also increased with more people avoiding public transport due to Covid.

In addition, when economic activity recovers, there is generally an increase in energy use. Electricity demand growth slowed during the Covid pandemic in 2020. Growing exports also increase the demand for power. A recovery in tourism can lead to more energy for transport and electricity use in hotels and restaurants.

Energy sector analysts had warned of power cuts from 2018, when a coal plant was cancelled and later a combined cycle plant was delayed due to capacity shortages not keeping up with economic growth. However without fuel now, existing capacity also cannot be run.

Why does fuel demand increase up to April?

The first quarter is the driest months of the year. Until April showers start and monsoons in May, the CEB has to carefully use stored fuel to generate power and also ramp up fuel based generation.

That is why, as soon as the coal plant broke down, the CEB wanted to have one hour power cuts to save water.

In addition the heat may push up air-condition use and export industries generally work at full tilt in March and early April before the New Year holidays, further boosting energy demand.

That is also why economic analysts said rates should be raised and the currency floated before the dry season set in February.

Will a price hike or price formula reduce fuel demand?

Going by past trends, not much. But as people and companies put money into fuel, they have to cut down on non-oil spending. Or they have to reduce savings which in turn will reduce the resources to give credit to other borrowers and therefore imports. The adjustment comes through a fall in non-oil spending, credit and imports in the total economy as the CPC extracts rupees from customers.

However if new money is injected to the banking system for whatever reason, or salaries of state workers are paid with printed money, the required correction will not happen, even if prices are hiked and dollar demand will continue with unsustainable non-oil imports.

If the CPC is forced to borrow dollars despite having rupees taken from the economy as happened in the past, the correction will also not happen as its rupee deposits in the bank are loaned to other customers to trigger non-oil imports, as happened in 2018 despite the price formula.

What will be the impact on the people due to the current fuel crisis?

Fuel shortages can reduce economic activities by disrupting production and transport.

If the central bank uses reserves to import fuel and maintain the 200 the US dollar peg, under the monetary regime currently in operation, more money is printed to offset the transaction, an activity known as sterilization.

The action prevents the banking system from adjusting to the reserve sale through an increase in interest rates, creating further pressure on the currency.

There has been talk of rationing by Minister Vasudeva Nanayakkara among others. Rationing will further disrupt people’s lives without solving the problem. Rationing or price controls have not solved either inflation or foreign exchange in Sri Lanka in the past.

When will the fuel crisis end?

April rains can reduce the demand for electricity from imported oil. The Indian credit line can help bring fuel for some time and leave the country or CPC with another 500 million dollars in debt just as previous currency crises left it with 3.5 billion US dollars in debt.

Sri Lanka has a large stock of coal which may last up to July. After that, more coal will have to be imported.

Foreign exchange shortages are a monetary phenomenon found only in flawed or soft pegged exchange rate systems, triggered by rupee reserves injected to the banking system to maintain artificially low rates. Forex shortage gets worse as economic activity and credit demand (such as loan-funded losses in fuel or electricity companies) or deficit spending go up. Countries that did not have forex problems during Covid can experience currency pressure when the economy re-opens if rates which were cut during the lockdowns are not allowed to go back up. This is happening to both Pakistan and Bangladesh.

Central banks with floating exchange rate regimes, that do not sterilize interventions after giving reserves for imports (usually because there are not much reserves to give in any case), do not suffer foreign exchange shortages. The UK had also experienced forex shortages (Sterling crises) when the Bank of England operated a flawed pegged regime driven by Keynesian dogma. The Bretton Woods system also collapsed the dollar was floated in 1971 for similar reasons.

Forex shortages can be ended by tightening monetary policy. Raising taxes to reduce the budget deficit and therefore domestic credit will also help. Pegged central banks usually float when they run out of reserves after one or more hikes in the policy rate.

Why does a float help?

When a central bank gives reserves for imports by defending a pegged exchange rate, it triggers a liquidity shortage in the banking system and the rupee monetary base or reserve money shrinks by the rupees paid into the central bank by an importer. The action will push up interbank rates in a hard peg where interventions are unsterilized and interest rates float up. However a soft-pegged central bank will re-inject the lost money back into bans via open market operations to offset the reserve sale (sterilize the intervention) to stop the interest rate from floating up, and pressure the currency.

A float stops the cycle of reserve sales for imports (stops defending the peg at 200) and simultaneously ends the need to re-inject money, which the central bank sucked out from the dollar sale to prevent rates from going up. In addition to imports for consumption, Sri Lanka is also experiencing capital flight and pressure on debt repayments, all of which require higher interest rates to generate savings to meet such payments.

When Sri Lanka’s interventions were unsterilized and interest rates were allowed to be floated, and the hard peg was broken in 1950 to set up a central bank the country had foreign reserves worth 11 months of imports. (Colombo/Feb23/2022)

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Sri Lanka stocks close up as some investor interest returns

ECONOMYNEXT – The Colombo Stock Exchange closed up on Monday, CSE data showed.

The All Share Price Index was up 0.22 percent, or 23.33 points, at 10,743.59.

The S&P SL20 index was up 0.68 percent, or 20.60 points, at 3,067.73.

Turnover was at 708 million. The banks sector contributed 189 million, while the food, beverage and tobacco sector contributed 176 million of this.

Sri Lanka’s stock market has seen some investor interest return after last week’s news that the country had managed an agreement on a debt restructuring deal with an official creditor committee, and foreign funds for some development projects resumed.

Top positive contributors to the ASPI in the day were Sampath Bank Plc (up at 71.50), LOLC Holdings Plc (up at 379.00), and Commercial Bank of Ceylon Plc, (up at 90.90).

There was a net foreign outflow of 52 million.

Citrus Leisure Plc, which announced that its banquet hall and revolving restaurant at the Lotus Tower would launch on or around Dec 9, saw its share price rise to 6.20 rupees. (Colombo/Dec4/2023).

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Sri Lanka rupee closes broadly steady at 328.10/30 to the US dollar

ECONOMYNEXT – Sri Lanka’s rupee closed at 328.10/30 to the US dollar on Monday, from 328.00/10 on Friday, dealers said.

Bond yields were stable.

A bond maturing on 01.06.2025 closed at 13.70/14.00 percent from 13.70/95 percent.

A bond maturing on 01.08.2026 closed at 13.90/14.10 percent from 13.90/14.05 percent.

A bond maturing on 15.01.2027 closed at 14.00/14.10 percent from 14.05/10 percent.

A bond maturing on 01.07.2028 closed at 14.20/35 percent from 14.15/25 percent.

A bond maturing on 15.05.2030 closed at 14.25/45 percent, from 14.20/45 percent.

A bond maturing on 01.07.2032 closed at 14.05/40 percent, from 14.00/45 percent. (Colombo/Dec4/2023)

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Gov minister highlights abortion rights, sex-ed for children, and Sri Lanka men killing their women

ECONOMYNEXT – Sri Lanka’s legislators have politicized the topics of rape and violence without addressing the elephant in the room, Jeevan Thondaman, Minister of Water Supply and Estate Infrastructure Development said in parliament on Monday (4).

“All the members here are talking about rape. What happens after that? We must talk about abortion rights. That is not something anyone wants to touch on, and that is why we are in this place right now,” Thondaman said.

“Despite alarming statistics on rape and violence, women are often blamed and punished for it. The criminalisation of abortion is a major example of this.”

Sri Lanka has some of the most restrictive abortion laws in the world. According to a 2016 estimate by the Health Ministry, he said, approximately 658 abortions take place a day, and close to 250,000 a year.

“That’s 250,000 women whose lives you are endangering.”

He added that what was needed at this point in time was comprehensive sexual education (CSE) for children and young people.

“Only through CSE in schools will children and young people develop, accurate, age appropriate knowledge attitude and skills; positive values such as respect for human rights, gender equality, diversity and attitude and skills that contribute to a safe, healthy and positive relationship.”

Thondaman pointed out that CSE plays a pivotal role in preparing young people for a world where HIV, AIDS, sexually transmitted infections, unintended pregnancies, and sexual and gender based violence still pose a risk to their well-being.

“CSE basically empowers children take control and make informed decisions freely and responsibly.”

Thondaman also highlighted the findings of a 2021 study (Fatalities_20211109_UNFPA) by the UNFPA and the University of Kelaniya that showed that a majority of women killed in Sri Lanka were murdered by those close to them.

“62 percent of homicides of Sri Lankan women are committed by either an intimate partner, ex-partner or family member. 84 percent are killed in their own homes by someone they know.”

Police and the judiciary have failed Sri Lanka’s women, the minister pointed out.

“Only 5 percent of these cases, between 2013-2017, were ever concluded. Men claim they were provoked, or are of unsound mind or have mental illness: These have been successful defenses. And the Police often express sympathy to this narrative as opposed to the victim’s.”

“We have a history of protecting oppressors.”

It takes 7-10 years for a child rape case to conclude, he pointed out.

Establishment of child courts are needed, he said, as well as several legislative amendments. “The government is working on a new law to reform the domestic violence act, reform of marriage and divorce laws to ensure there is an easier path to divorce: no one should be forced to remain in a marriage that is either abusive or not healthy.” (Colombo/Dec4/2023)

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