Sri Lanka forex market uncertainty returns; no two way quotes yet

August 27, 2007 (LBO) – Expectations that two-way quotes would resume and exporters would start selling in Sri Lanka’s forex markets were dashed early Monday after official interventions spread unease among dealers. Banks stopped quoting two-way in the interbank forex market after the central bank started intervening and terrorizing dealers a few weeks ago.

Heavy central bank intervention backed up by money printing to prevent a liquidity crunch known as ‘sterilized intervention’ had put pressure on the Sri Lanka rupee in recent weeks.

Though the authorities reduced intervention on Thursday and did not call dealers Friday and stayed out completely, the market remained one sided with bids and offers being made by different market participants.

Dealers were earlier expecting two-way quotes to start just under 113 rupees to the dollar and selling pressure from exporters to emerge a little later allowing large import bills to be covered easily.

So far petroleum led import bills have been kept out of the market.

Early on Monday, a state bank sold spot dollars at 112.65 rupees, five cents below the Friday closing of 112.70, upsetting market sentiment and spreading unease that a cycle of intervention and currency pressure would resume.

Several dealers were gaining enough confidence about the rupee to resume two-way quotes in the market.

“The situation must be worse than we thought,” a dealer said.

“We were hoping to quote two-way under 113 rupees but now we are having second thoughts with interventions coming back. We don’t want to quote two-way if the central bank is also thinks it is going out of control.”

Two-way quotes show that a dealer is willing to buy and sell at the same time indicating that one sided pressure has left the system and a dealer is comfortable with buying as well as selling dollars.

Of late two way quotes are rarely seen and trades happen only when someone has excess dollars, or when someone badly needs dollars which tend to be two separate market participants.

Dealers are also unaware whether authorities are engaging in sterilized intervention, a practice which worsens currency pressure and eventually causes a crisis, or non-sterilized intervention which will push up domestic interest rates but will not undermine the currency.

However in the overnight repurchase deals were at around 15.50 to 16.00 percent indicating that cash conditions were not tight.

Until last week the Central Bank was engaging in sterilized intervention which economic analysts say had caused three currency crises in Sri Lanka in the last decade.

Before the interventions started two months ago two-way quotes were available for all maturities at any given time.

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