Moody’s Investors Service does not see room for further rate cuts by Sri Lanka’s Central Bank as further easing in yields at home could threaten capital outflows from government securities, which will in turn put pressure on the currency and foreign reserves.
Sri Lanka’s Central Bank surprised the markets in April by cutting its Standing Lending Facility Rate (SLFR) by 25 basis points to 8.50 percent.
Most emerging and Asian central banks raised their benchmark rates in recent months to fend off pressure on their currencies and thwart further exit of foreign investments in response to the strengthening of the dollar and rising treasury yields in the United States.
By the end of last week, foreigners had withdrawn a net Rs.47 billion from the Sri Lankan government securities market and Rs.771 million worth of equities have been sold by the foreigners in the Colombo Stock Exchange.
“We do not expect further rate cuts, as rising external interest rates may threaten capital outflows”, Moody’s said this week in their latest banking system outlook.
The pressure on emerging market currencies became intense as they felt the spillover effects from the Turkish currency crisis. The United States imposed higher import levies on Turkish steel and aluminum among others in a diplomatic row with the import dependant nation.
Turkish lira, Argentine peso, Indonesian rupiah and the Indian rupee are amongst the worst hit emerging market currencies.
In Asia the rupiah has fallen by 9.0 percent so far this year to 15,000 rupiah to a dollar and the rupee has sunk the most by 11 percent to 72.1050 to a dollar – worst performer in Asia.
Meanwhile, the Sri Lankan rupee is also setting record lows as of late and has weakened 5.8 percent so far this year to 162.25 on Wednesday – its 12th straight session of decline against the US dollar.
The Central Bank has to guard against three important things—fiscal excesses, private sector credit growth going out of control and inflation which hit a 7-month high in August.
Further, Sri Lanka’s treasury yields have also been coming down defying the fundamentals. Forex dealers say the Central Bank’s debt office may be getting State banks to bid lower to maintain the rates low to keep the government’s borrowing costs under check.
But the money market liquidity has come down significantly in recent times and almost all banks are on the borrowing side which should reverse the course of the interest rates in the government securities sooner than later.
The banks’ deposit rates are on the up while some large lenders are seen quoting unfathomable levels of premiums to woo deposits, demonstrating their desperation for customer deposits.
Moody’s maintains a ‘Negative’ outlook on the Sri Lanka banking system amid asset quality deterioration and weak indicators of the overall economy.
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