ECONOMYNEXT – Sri Lanka has seen initial interest by at least one foreign investor in rupee bonds, data shows as interest rates went up and the external sector started to show stability with reduced money printing.
In the week to September 14, foreign holdings of rupee bonds went up by about 3 billion rupees to 7.9 billion US dollars.
Sri Lanka saw a mass-exit of rupee bond holders amid increased monetary instability seen under flexible inflation targeting with the rupee falling from 131 to 182 to the US dollar from 2015 to 2019 an unusual liquidity injections from 2020 for monetary stimulus.
Sri Lanka has a 70-year history of using central bank tools to suppress rates as domestic credit picks up and creating balance of payments deficits. Sri Lanka defaulted for the first time in 2022 after becoming a market access country.
Market rates are around 25 to 30 percent. Sri Lanka struck a staff level deal with the IMF in September and is negotiating with creditors to re-structure debt.
The central bank has now allowed market rates to go up and efforts are also made to reduce public sector credit with tax hikes and market pricing prices of state enterprises, bringing some stability to the external sector.
Soft-pegged central banks which collect reserves, which do do not raise rates in step with the US to curb domestic credit are now seeing pressure on their currencies as the US raises rates.
Sri Lanka saw the first forex shortages in from around 1951 as the Fed raised rates under Wade McCade at the instigator of Marriner Eccles, leading to the first BOP deficits and tightened exchange control laws in 1952. Sri Lanka set up a soft-peg in 1950 with US technical support.
It is not clear whether the interest seen in Sri Lanka rupee bond is an isolated or the start of a trend.
Sri Lanka is re-structuring its debt and there are concerns that it will spread to domestic bonds which has seen values fall by half due to depreciation.
The resulting inflationary revenues (so-called Inflation and Financial Repression effect) bring automatic debt sustainability at the expense of the rupee bond holders and the general public’s disposable income.
There has also been some inflows into stocks. (Colombo/Sept23/2022)