Dollar Collar

(From L-R) Hussain Sadique –Chairman, SLRA / Group Director, Hameedia, Mano Tittawella –Senior Advisor, Ministry of Finance & Media, Ajith Amarasekera- Director, SLRA / CEO Swarnamahal, Leonard Michael Perera, Founder Convenor & Head of Business, SLRA Dinesh Perera-Director, SLRA / Deputy Director, Abans

Most of Sri Lanka
quote s international trade is done in dollars (US) and significant movement in the US$-Rs rate, affects the pricing of both imports and exports.
The rupee appreciated against the dollar over the last two months in line with the US currency
quote s weakness against major currencies over the last eighteen months or so.rn

rnThe three percent appreciation last month, however, sent shockwaves among exporters who have been encouraged with a government policy of a managed depreciation before the currency was floated.rn

rnIncreased aid and investment inflows have also contributed in part to the rupee appreciation.rn

rnBut Central Bank has bought US$ 330 mn this year, a clear evidence that it had helped keep the rupee down.rn

rnIts reserves are now nearing US$ 2 billion, which is enough to finance nearly four months of imports.rn

rnAs the dollar plunged in international markets, the Central Bank has taken the rupee down with it, as the dollar is the intervention currency of the monetary authority.rn

rnThis is why the rupee has fallen sharply against the Euro, the Yen and the sterling.rn

rnOfficials also say Sri Lanka
quote s inflation, as well as interest rates are much lower than before.rn

rnThis makes the necessity for depreciation that much lower.rn

rnBased on real effective exchange rate terms, which measures the inflation differentials between one or more currencies, officials say the rupee has not gone up.rn

rnCentral Bank says in Real Exchange Effective Rate (REER) terms the rupee has depreciated by 3.3 percent against a basket of five major currencies including the greenback.rn

rnA 24-currency basket, which includes competitors from Asia also shows depreciation so far.rn

rnIn this comparison, the REER has depreciated by over 4 percent.rn

rnThe dollar has also fallen against most other major Asian currencies with only a few exceptions like the Philippine Peso. rn

rnBut this is where the problem lies.rn

rnCountries like Malaysia and China have pegged their currencies to the US$.rn

rnIndonesia, Thailand and Singapore also follow the dollar closely, though not as rigidly as China and Malaysia.rn

rnIf we do not go down with the dollar, our exporters stand to lose out.rn

rnBut some observers say exporters should not be over-dependant on dollar depreciation, and should instead look for ways to export more to the Euro zone and other areas.rn

rnSome economists argue that the United States needs a major correction in its current account deficit, which is at a historic high of 5% of its GDP.rn

rnThe current account deficit was historically paid for with private investment flows.rn

rnNow, its Asian Central Banks that are buying dollars to keep their currencies down and preserve the pegs, which are making up the deficit.rn

rnThe very same pegs are also preventing a trade contraction in the United States.rn

rnWith the US government and its industries getting increasingly restive, pressure on Asian countries to abandon pegs is rising, with China being the key target so far.rn

rnSome economists are predicting increased protectionist actions from America if the problem persists.rn

rnThe possibility of targeted trade barriers against countries that maintain pegs or artificially push down their currencies is also a somewhat distant possibility.rn

rnIn this light pushing the rupee down artificially could also undermine Sri Lanka
quote s attempts to sign an FTA with the United States.rn

rnTrade experts say what is really needed is clever trade policy that will seek preferential access to key markets and for the government to facilitate the reduction of input costs.rn

rnCritics argue that exporters should also look at other areas like productivity improvement to get the edge.rn

rnThere is also a role for the government to play by bringing down input costs like utility costs, revamping the rigid labor laws and facilitating world class infrastructure. rn

rnSri Lanka
quote s export competitors in Asia have done a better job in reducing input costs of exporters.rn

rnIndustries could also capitalise on the growing consumerism by catering more to the local market and competing with imported products.rn

rnTop officials of Central Bank including its Governor and Deputy Governor, departed from tradition and has virtually assured the markets that the rupee will keep parity with the dollar in the near future.rn

rnExporters may have to be happy with that.rn

rnIn the short term, Central Bank expects the export recovery to continue despite a stronger rupee.rn