Sri Lanka to give one month money to banking system

Mar 05, 2009 (LBO) – Sri Lanka’s central bank said it will extend the term of its liquidity facilities, which are now limited to only overnight money, to one month for commercial banks and primary dealers who have persistent liquidity shortfalls. In the United States Federal Reserves system, excess reserves, which were around 2.0 billion US dollars a day before the crisis, started to rise steeply after September and peaked at 843 billion dollars in January.

This helped strengthen the US dollar and trigger deflation despite massive new ‘printing’ of money as the effective monetary base narrowed.

In February excess reserves had fallen to under 700 million US dollars. If the trend continues the US dollar may now start to weaken against other major floating rate countries.

Most other floating currencies, with relatively less damaged banking systems, fell against commodities and the US dollar when rates were cut.

The monetary authority operates an 11.75 percent window with restricted access and a 16.50 percent window with free access which now sets the ceiling on short term rates.

“Institutions that need liquidity on a longer term can use this facility, instead of coming to us everyday,” Central Bank Governor Nivard Cabraal told LBO.

Sri Lanka’s 3-month Treasury bill rate was 15.73 percent at this week’s auction, but one-year bills were 17.73 percent.

The overnight 10.25 percent repo window where banks deposit excess reserves was also restricted to 100 million rupees a day.

In recent weeks many banks, especially foreign ones, had cut limits to others which were seen as risky, and were parking money at the central bank, who was effectively lending to others and acting as a central counterparty.

“We want the banks to lend to each other, not us,” Cabraal said.

Rising excess reserves is sign of high risk perceptions and an unwillingness to lend to other market participants or the broader economy.

By curtailing lending and the effectiveness of monetary policy, excess reserves can help strengthen a currency, though it is an overt sign of central bank impotence.