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Sri Lanka low interest bubble seen bursting

10 November 2015 02:56 am - 0     - {{hitsCtrl.values.hits}}

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By Chandeepa Wettasinghe
Sri Lanka’s low interest bubble appears to have begun bursting with the country’s commercial banks seen steadily increasing their interest rates on fixed deposits (FDs). 

Sri Lanka’s largest bank Commercial Bank of Ceylon PLC has increased its 12-month FD rates to 7 percent while NDB Bank PLC increased its 12-month FD rate to 7.5 percent.

DFCC Bank PLC has been offering 7.5 percent since last month while Seylan Bank PLC has increased its three-month FD rate to 7 percent and 12-month FD rate to 7.25 percent.

“Banks have been stepping up in the hunt for cash and current and savings accounts (CASA) bases. The relatively low levels of bank liquidity and the competition for lower funding costs within the industry may be pushing the rates up,” Bartleet Religare Securities Manager Research Nikita Tissera said.

He noted that as interest rates get higher, a small portion of equity investments will withdraw from the market as funding becomes more expensive.

Despite bankers accepting high interest rates, Finance Minister Ravi Karunanayake called on the Central Bank of Sri Lanka (CBSL) to cut rates, which economists criticized, as the rupee, which was recently let go, would face even more pressure and inflate the import-driven economy.

Tissera said that the bond yield curve has shifted up, which shows the market rate for interest.

Analysts said that a rate cut could affect the bond market but there is time to correct the situation before new bonds are issued next year. 

The CBSL has been continually increasing its guidelines on FD rates, which has now increased to 7.33 percent since a 50-basis point cut in April, which had led to the guideline rate falling to 6.87 percent.

The government had cut rates in April to stimulate lending for businesses, which has been slowing down since a spike in December last year.

The current lending rates are around 11-13 percent despite a Central Bank guideline of 11.03 percent, showing that commercial banks lend at higher rates than the guideline and take deposits at lower rates in order to maintain profitability. However, the margins between the two rates have been falling in recent years, and banks usually adjust lending rates immediately.

“It’s likely that the banks have pushed lending rates and leasing rates first as generally assets get re-priced faster than the liabilities do,” Tissera said.

However, due to the rate cut, as well as the populist measures brought in during the interim budget in January, people had increased consumption instead of saving, leading to the dry up of funds, as Tissera mentioned. The recent results of banks and financial companies show that credit is starting to dry up again, which may have led to the Finance Minister calling for a 100-200 basis points. Usually, central banks are supposed to be operationally independent and use the numerous economists under their employment to adjust the economy, and the UNP brought the previous regime under criticism for not allowing such independence. 

An analyst who wished to remain anonymous said that the increase in interest rates now shows that commercial banks are taking matters into their own hands, so that an eventual rate cut through political influence is mitigated. “When they see that there is going to be a rate cut, they increase interest rates over time. For example, they will increase rates by 50 basis points if there is going to be a 75-basis point cut, so the pain felt will be just 25 basis points,” the analyst said. During the recently held Sri Lanka Economic Association annual sessions, senior economist Dr. Saman Kelegama cautioned against an interest rate cut and instead stressed that the interest rates should go up.  According to him, there is no room for further reduction in interest rates as the exchange rate is bearing a heavy burden.

“In my opinion, there is no room for a further reduction in the interest rates but the interest rates should go up in the coming months,” Dr. Kelegama said.
 
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