Sri Lanka must control aid flow to halt currency rise, IMF Says

Sri Lanka must slow the flow of overseas aid into the country to prevent its currency from further rising against the dollar and the yen, said Raghuram Rajan, chief economist at the International Monetary Fund. Sri Lanka must slow the flow of overseas aid into the country to prevent its currency from further rising against the dollar and the yen, said Raghuram Rajan, chief economist at the International Monetary Fund. Sri Lanka’s rupee was the world’s best performing currency last week against the dollar and yen, as a freeze on overseas debt repayments by Japan and the U.K. after a Dec. 26 tsunami that killed more than 30,000 people on the island, meant the government won’t have to buy foreign currencies.

Aid from the U.S., Japan, Germany as well as private donations from international humanitarian groups and businesses running into hundreds of millions of dollars may further increase demand for the Sri Lankan rupee, strengthening the currency and hurting exports that make up a third of the country’s $18 billion economy. Sri Lanka needs about $1.5 billion for reconstruction, Foreign Minister Lakshman Kadirgamar said Jan. 6.

“With aid coming in, there has to be some thinking — there must be a process to sequence the flow of aid,” Rajan told Bloomberg News in an interview on Jan. 8 in New Delhi. “You have the aid commitments made, but it is not necessary to draw that aid into the economy quickly if it cannot be used immediately.”

Sri Lanka’s central bank said on Jan. 6 it won’t drain money from banks by selling government bonds for a certain time, ensuring there is enough supply of rupees in the banking system to stem the appreciation of the local currency.

Sri Lanka’s rupee rose 5.7 percent to 98.95 against the dollar last week, its biggest advance since Aug. 25, 1989, according to Bloomberg data. The currency also surged 7.5 percent against the yen, 7.6 percent against the British pound, and 8.2 percent versus the euro during the week.

Tourism, Tea

Sri Lanka’s economy, which is driven by tourism and exports of textiles, tea and farm products, may expand 2.8 percent in 2005 instead of 4.5 percent, Standard Chartered Plc economists Gerard Lyons and Gavin Redknap forecast.

“I don’t think there is an immediate need to cut interest rates or loosen the fiscal policy to boost economic growth,” International Monetary Fund’s Rajan said. “In this case, there are specific sectors, such as fishing, where problems have taken place. It’s more useful to target solutions to these problem sectors rather than aim for overall expansion of the economy.”

Sri Lanka’s central bank will unveil its monthly monetary policy on Jan. 13. To curb inflation, the bank left its key interest rates unchanged last month after raising it 50 basis points in November, the first time in 2004.

Emergency Loans

Sri Lanka is in talks with the International Monetary Fund, World Bank and Asian Development Bank on debt restructuring and emergency loans after the tsunami, triggered by a magnitude-9 earthquake off the coast of western Indonesia. The disaster has left more than 830,000 people homeless in Sri Lanka.

Japan and the U.K. said they will let nations hurt by the tsunami delay loan payments. About 460 billion yen ($4.4 billion) of Sri Lanka’s total overseas debt must be paid to Japan. The moratorium reduces the need for the island to sell rupees.

Sri Lanka owed about $10 billion, almost equal to half the size of its economy, to other countries at the end of 2004, according to the U.S. Central Intelligence Agency’s Web site. The International Monetary Fund’s board may approve within the next two weeks, an aid package of about $260 million, spokeswoman Gita Bhatt said on Jan. 5.

The island’s rupee hasn’t risen a single year since 1979, according to Bloomberg data. Sri Lanka’s benchmark stock index was the world’s best performer last week, gaining 9.97 percent in U.S. dollar terms, on expectations foreign aid will help the island rebuild. – Bloomberg