Sri Lanka Treasury bill yields up; rupee eases to new low

August 22, 2007 (LBO) – The Sri Lanka rupee slipped to a new life low and three month treasury bill yields edged up 10 basis point to 17.55 percent Wednesday as the Central Bank stayed off the primary market, dealers said. Authorities have also been using heavy moral suasion to stop dealers from buying dollars at high rates.

The government debt office raised 5.7 billion rupees and retired 3.1 billion rupees worth of bills at the auction with 5.3 billion rupees worth bids being accepted in 3-month bills indicating heavy investor preference for the short end.

The Central Bank re-opened its discount window to primary dealers, after overnight rates shot up to 49 percent.

The bank had earlier closed the window due to its abuse by some dealers who used it to fund asset purchase rather than to meet unexpected liquidity problems.

However the discount window is lending money at 12.00 percent when market rates are much higher, giving arbitrage opportunities for dealers.

Sri Lanka’s money markets have been hit by liquidity shortages forcing due to heavy official intervention in the currency markets in a failed bid to preserve the dollar rupee rate.

Analysts have warned that the practice, known as sterilized intervention will lead to more pressure on the exchange rate as new liquidity is injected to the banking system to stave off a credit crunch.

Similar actions have led to the collapse of many pegged exchange rates and a steep loss of foreign reserves.

Economists such as Guillermo Calvo & Carmen Reinhart have labelled the tendency of emerging market authorities to intervene and maintain what are called non-credible pegs as the ‘Fear of Floating’.

The rupee traded at a new low of 112.20 against the greenback Wednesday and closed with offers at 112.24 in a day of muted official intervention.