Central Bank rubbishes Nomura report

The Central Bank yesterday slammed a report by Nomura Holdings Inc., which placed Sri Lanka among the countries most vulnerable to an exchange rate crisis, largely based on erroneous data and seemingly flawed research methodology. 

Quoting the Nomura report, foreign media had reported that Sri Lanka’s short-term external debt is as high as US $ 160 billion.

“As Sri Lanka’s short-term external debt is nowhere near this figure, the Central Bank of Sri Lanka requested Nomura to correct the errors in their computations,” the Central Bank said in a statement yesterday. In response, according to Bloomberg, Nomura has corrected its ‘Damocles’ report to fix Sri Lanka’s short-term debt figure to be US $ 7.5 billion in an emailed statement to media. 

Senior Deputy Governor Dr. Nandalal Weerasinghe also last week had sent a letter to Nomura Holdings seeking a correction on the external debt figure.

Further discrediting the content of the report pertaining to Sri Lanka, the Central Bank noted that Nomura’s error in relation to short-term external debt figure itself showed that the said report had not undergone a thorough review before publication. 

“Indeed, the rigorousness of any analysis based on the predictive power of an index, which cannot differentiate between short-term debt of US $ 7.5 billion and US $ 160 billion, in an economy with a GDP of around US $ 90 billion and gross official reserves of around US $ 8.6 billion, is questionable.  

Therefore, the investors and the public are advised to form their own informed opinion with regard to Sri Lanka’s macroeconomic conditions and potential,” the Central Bank said.

However, despite correcting the external debt figure, the Central Bank said Nomura kept its ‘Damocles score’ for Sri Lanka unchanged.  
The Central Bank termed the ‘Damocles score’ published by Nomura as a “rudimentary attempt” to build up an index based on eight indicators and threshold values for selected indicators. 

“The score is then used to show the likelihood of crisis in a country in the period ahead. A score of above 100, according to Nomura, suggests a country is vulnerable to an exchange rate crisis in the next 12 months, while a reading above 150 signals that a crisis could erupt at any time. 

Nomura has computed Sri Lanka’s score at 175, while assigning lower values to countries that are currently facing severe economic and financial strains. 

Any methodology that yields outcomes whereby Sri Lanka’s score is substantially worse than countries like Argentina, Turkey and South Africa does not appear to be sufficiently nuanced to capture market realities and dynamics.”  

Meanwhile, the Central Bank said a closer look at Nomura’s Damocles score for Sri Lanka shows that it has remained above 100 continuously since 2012, except for a few months in 2013/14. At times, the ‘score’ has even hit the upper bound of 200. 

“Therefore, it is evident that in the case of Sri Lanka, this rudimentary index cannot be considered an indicator/predictor of crisis. 

It is because the score does neither consider a particular country’s distance from the threshold values nor the country-specific circumstances, that Sri Lanka is listed as a country that is at greater risk of crisis than countries like Argentina and Turkey. 

For example, in the Nomura analysis, the short-term external debt to exports ratio includes goods only. Services, including tourism and remittances, are excluded. By not focusing on all current account flows, the ‘score’ exaggerates the country’s vulnerability. 

Moreover, the broad money to foreign reserves ratio does not properly interpret the cause of the increase in the former. 

The recent increase in broad money was due to an increase in the net foreign assets of the banking system, which has, in fact, reduced the country’s external vulnerability. The real short-term interest rate indicator for Sri Lanka is also marginally above Nomura’s threshold. 

This has been caused by a reduction in inflation rather than an increase in interest rates. These examples demonstrate how the binary methodology used by Nomura could be misleading,” the Central Bank said.