StanChart says no room for further monetary easing

5 October 2015 03:57 am

Says external vulnerabilities mounting with US$ 3bn debt redemption over next 12 months

Taking an apparent ‘U turn’, from its stance in June this year, Standard Chartered Bank (StanChart) last week said they do not see any room for further monetary easing in Sri Lanka given the higher external vulnerabilities as the country is nearing debt redemptions to the tune of US $ 3 billion over the next 12-months. 

“We expect no policy rate cuts for the remainder of 2015, despite low inflation, as external-sector vulnerabilities remain high,” StanChart said in its newest ‘Global Focus’ issued for the fourth quarter of 2015. 

In its ‘Global Focus’ issued in June this year, StanChart forecasted another 50 basis point cut in key policy rates after Central Bank surprised the markets with its 50 basis point cut in April 2015. 

Apart from the possible external liquidity squeeze likely to be faced by the government over its debt repayments, the StanChart said risks had further increased due to declining foreign reserves, the pick-up in import growth and higher foreign borrowing by the state. 

The government received close to US $ 1 billion in May this year through a combination of a sovereign bond issue (US $ 650 million) and a syndicated loan. 
Sri Lanka also received proceeds from Reserve Bank of India through a US $ 1.5 billion currency swap the two central banks had entered into. 

The future dollar borrowings by the Sri Lankan government is unlikely as the StanChart expects a 100 basis point hike in US treasury yields by the end of this year, a measure that is expected to toughen conditions for borrowers. 

Though an extended fund arrangement with the International Monetary Fund (IMF) for Sri Lanka’s impending balance of payment (BoP) problem seems to be the last option for the Central Bank, Finance Minister Ravi Karunanayake has made it clear that the country would not hesitate to ask IMF for assistance.

The Central Bank seems to be in a dilemma whether to ‘raise or not’ as the core-inflation has begun to creep up though headline inflation remains at benign levels. Concerns also remain on the cost of state borrowings and the potential impact on economic growth. 

Further, a decision to hike policy rates should also be evaluated in the context of corporate balance sheets which are highly leveraged as a result of relaxed monetary policy that has been prevailing since the beginning of the year.

If rates are jacked up, these corporates are likely to face difficulties in servicing their debt piles, a phenomenon that will lead to asset quality concerns in the banking sector and eventually pose a systemic risk.

Due to historically low government securities (G-Secs) yields, foreign exits from G-Secs have been estimated at $ 800 million this year up to September 9. 
The foreign institutional investor (FII) ownership in G-Secs has declined considerably to 8 percent by September 9 from 11.4 percent in January 2015. FIIs can hold up to 12 percent in Sri Lankan G-Secs. 

“While the political environment has stabilised, external vulnerabilities persist and domestic rates remain low. As a result, we do not expect further interest cuts, which could exacerbate foreign outflows.

We maintain our ‘Negative Outlook’ on T-bonds. Supply dynamics remain unfavourable, and foreign investor sentiment towards T-bonds is weak. Net issuance of T-bonds and T-bills has been high, and the continuing exit of FIIs has led to a bear steepening of the T-bond yield curve. 

We remain bearish on the LKR, as fundamentals remain weak; we forecast USD-LKR at 140.0 by end-2015,” StanChart noted.