COLOMBO: Sri Lanka’s Central Bank has bought $257.9 million from forex markets in April 2017, with no sales, after also being a net buyer in March, official data show. When a central bank buys dollars, the rupee is prevented from going up. When a central bank buys dollars, rupees are printed into interbank markets. Unless the rupees are mopped up by selling down the Central Bank’s Treasury bill stock, the rupee will be loaned to bank customers and imports will eventually be generated. In April, demand for cash goes up as customers withdraw money for the New Year (expanding the monetary base), and most rupees created in April will be drawn out of banks in a so-called ‘private sector sterilization’ and banks will not be able to lend the money.
The Central Bank’s Treasury bill stock went up from 263 billion rupees on March 31 to 339 billion rupees on April 09, with no excess liquidity in the interbank system as people withdrew cash. Liquidity started to build up again and rose to 48 billion rupees by April 20 as money came back into banks after the festival season, and the Treasury bill stock also fell as borrowings from liquidity windows fell. Liquidity had also been boosted by dollar purchases. The central bank is usually able to buy dollars in April as export firms convert dollars to pay festival advances. It is also usually for money to be printed to pay state sector salary advances, which helps boost inflation and creates forex losses in the ensuing weeks.
Liquidity suddenly disappeared on April 28, with the Treasury bill stock also rising, which is usually indicative of a large dollar repayment. Data shows that the Central Bank’s foreign reserves fell to 5,045 million rupees in April from 5,117 million rupees in March despite the dollar purchases. In May, the Central Bank’s Treasury bill stock came down from 307 billion rupees to 222 billion rupees by April 23, indicating that dollars have been purchased by the Central Bank. Excess liquidity has climbed to 19 billion rupees by May 23 from 2 billion rupees short on May 15, indicating that only part of any dollars bought have been mopped up or sterilized. Other than transactions that affect the domestic monetary base and reserve money, the Central Bank also makes ‘monetary policy neutral’ foreign exchange deals that can make reserves go up or down.
Repayments to the IMF can make foreign reserves go down without affecting liquidity. Earnings from forex reserves will also expand them without affecting domestic liquidity. When credit demand goes up, Sri Lanka’s Central Bank has a tendency to cut rates to print money, adding fuel to the fire, generating a balance of payments crisis and capital flight, and requiring higher than normal interest rates to correct the imbalance and devaluing the rupee sharply. The current credit cycled started in the last quarter of 2014, but rates were cut in April 2015, generating a balance of payments crises. Critics have said that liquidity injections carried out by the Domestic Operations Department (DoD) of the Central Bank is the root cause of most of the post-independence economic troubles of the country, including currency depreciation, inflation, foreign exchange shortages and capital flight, all of which ultimately make Sri Lankans poorer.
