July 27, 2012 (LBO) – Sri Lanka’s rupee weakened to 132.20/30 levels Friday after opening around 131.20/50 as excess liquidity remained at record after tens of billions of rupees were dumped on money markets a day earlier. On Thursday excess liquidity rose to 58 billion rupees as part proceeds of a dollar bond was converted to repay short term borrowings.
Analysts had warned that the Central Bank will either have to defend the rupee with unsterilized dollar sales or rapidly sell down its Treasury bill stock outright, to keep the exchange rate from depreciating.
Until the massive liquidity shock on Thursday, monetary policy had been supportive of the rupee peg for almost three weeks and sentiment in forex markets were strong.
Market participants also expected at least a part of the bond proceeds to be sold in the forex markets, but instead billions of rupees were injected as new rupee reserves into the banking system through the settlement of short term loans.
In an attempt to mopping up a part of the liquidity the Central Bank on Friday called a term repo auction 8 billion rupees for one week and 12 billion rupees for two weeks.
Sri Lanka’s Central Bank has a credit ceiling of 18 percent for 2012 which could in theory push more banks to buy government debt as the ceiling is reached.