Sri Lanka has been able to end 2016 with gross official reserves just above US $ 6 billion after reserves hit their lowest levels in 5 years in June, the latest Central Bank data showed.
The gross official reserves have improved to US $ 6.06 billion by December 30, 2016 from US $ 5.64 billion by the end of November, supported by a couple of swap arrangements entered into with domestic banks, grants from Japan and a concession loan from the World Bank, the Central Bank Governor told the media last week.
Also, the limited intervention by the Central Bank by way of dollar sales to defend the rupee may have also helped to prop up the dwindling reserves.
Meanwhile, the foreign holdings in Sri Lanka’s government securities have reversed its course during the first week of the New Year as the rupee value of treasury bill and bond holdings by foreigners had increased to Rs.260, 581 million by January 4 from Rs. 260, 137 million a week ago.
However, the reserves were still down by US $ 1.3 billion since January when the total stock was US $ 7.3 billion at the beginning of the year (2016).
Sri Lanka gross official reserves sank to US $ 5.3 billion in June 2015, lowest in five years, due to accelerated outflows from the government securities market, higher imports and continued dollar selling to keep the rupee from falling.
However, subsequent to the appointment of Dr. Indrajit Coomaraswamy as the Governor, the Central Bank limited its intervention in currency market and steadily sold down its treasury bill stock, building up its foreign exchange reserves.
Since January 2016, the Central Bank was seen injecting liquidity through excessive money printing by purchasing treasuries to keep the interest rates artificially low, creating loanable money for the banks over and above their deposits.
This fueled imports and created inflation, which later had to be dealt with by selling the dollars to keep the rupee from falling.
Dr. Coomaraswamy does not see it is sensible to defend the rupee squandering foreign reserves, as it anyway leads to depreciation of the currency.
“It doesn’t seem sensible to spend large amounts of reserves defending the currency if you are going to depreciate,” he told the reporters after unveiling the Central Bank’s mid-term monetary and financial sector policies, last week.
Sri Lanka spent almost US $ 1.0 billion in reserves in 2016 to defend the rupee but the currency weakened by 3.8 percent.
In 2015, when the country was plunged into a balance of payment crisis for the second time since the end of the separatist conflict. Sri Lanka spent US $ 2.1 billion in reserves but busted the currency by 9.0 percent—from Rs.134 to Rs.145 a dollar.
During Sri Lanka’s first BoP crisis in 2011-2012 since the end of the conflict, the Central Bank sold US $ 4.1 billion in reserves but the rupee ended up depreciating by 14 percent.
Since the economic liberalization in 1978, Sri Lanka has had a perennial problem of higher fiscal deficits, higher nominal interest rates, higher inflation and an overvalued exchange rate, which made Sri Lankan exports less competitive in comparison to its trade partners.