Sri Lanka rupee dips to new low

Feb 16, 2009 (LBO) – The Sri Lanka rupee hit a new low of 114.30 against the US dollar with aggressive buying from a state bank Monday, while another state name which usually acts for the central bank was offering spot dollars at 113.85 rupees, dealers said. Last week the central bank’s t-bill stock, which denotes the volume of liquidity injections or printed money, was at 163 billion rupees from almost nothing in mid-September.

However, some of the pressure from the liquidity injections has been relieved by a contraction in the monetary base as well as depreciation of the rupee from 108.00 to current levels.

The widening gap between the tom and spot dollar rates has allowed an odd type of ‘dual exchange rate’ to develop with some exporters being able to negotiate a higher rate for their dollars, while some importers are getting forex at a lower rate.

The rupee has been steadily depreciating after the country abandoned a ‘hard peg’ or currency board, which has kept the exchange fixed till 1950 and established a money printing central bank, which made the dollar peg ‘soft’ or ‘non-credible.’

In the past, when high levels of money printing caused a ‘shortage’ of dollars, Sri Lanka has resorted to so-called dual exchange rates, exchange controls and import controls which eventually culminated in a ‘closed economy’ in the 1970s. The gap between the controlled ‘spot’ US dollar rate (settlement done two days after trade), cash (same day) and tom (one day after trade) has widened in recent days.

The majority of trading is usually done in ‘spot’ deals in normal times but the market has started to watch tom deals as the market benchmark in recent days.

Monday’s low of 114.30/35 rupees against the US currency compares against 114.10/20 levels seen last week.

To buy spot dollars at 113.85 rupees – where the monetary authority is trying to defend a peg – a commercial bank has to disclose information on specific import bills.

The Sri Lanka rupee has been under pressure from around mid-September due to liquidity injections from the Central Bank to cover dollar interventions.

The monetary authority has also steadily lost foreign reserves. Official reserves fell from around 3.4 billion dollars in September to 2.0 billion dollars in November.

The liquidity drain from foreign reserves has been offset by printing domestic money, setting off a depreciation and liquidity injection spiral.

Since November more than 600 million dollars of liquidity injections have been made.