Sept 27, 2010 (LBO) – Sri Lanka’s rupee soared above 112.00 rupees to the greenback Monday the highest since December 2008, when the country was in the midst of a balance of payments crisis, dealers said. The central bank has high policy rates compared to its anchor US currency allowing it to push the currency up easily and withdraw rupees from the market. The rate at which money is drained from the market overnight is 7.25 percent compared to almost zero in the US.
Despite high policy rates, Sri Lanka’s rupee had depreciated against the US dollar in the past mostly due to Treasury bill purchases outside the overnight open market process to finance government deficits.
Exporters have expressed concern at the strengthening of the rupee. According to a real effective exchange rate index, the rupee is 125.25 to the dollar, 25 percent overvalued.
The spot US dollar was quoted at 111.90/112.00 rupees in early morning trade Monday, up from 112.15 levels seen Friday. The International Monetary Fund approved 212 million US dollar tranche late Friday.
The rupee was last seen at these levels in December 2008, when the country was in the middle of a balance of payments crisis.
The crisis ended around April 2009 when the central bank floated the rupee ahead of a formal deal with the International Monetary Fund in May 2009.
The rupee fell close to 120.00 to the greenback when the float took effect.
Under a balance of payments crisis, a central bank sells dollars in forex markets to maintain a pegged exchange rate and prints money into money markets to offset liquidity shortages (sterilize) created by rupees it buys in exchange for dollars.
The cycle of ‘sterilized intervention’ ends when the pegged currency is floated and dollar sales are halted. After the float takes effect the central bank can start purchasing dollars and also withdraw the rupees that it sells from the money market effectively reversing the cycle.
Before the balance of payments crisis started in August 2008, the rupee was at 108.00 to the US dollar.