Sri Lanka to Scale Back Rupee Intervention, Allow the Exchange Rate to Become More Market-Determined

12th November 2009, www.bloomberg.com, By Anusha Ondaatjie

Sri Lanka will scale back intervention in the rupee and allow the exchange rate to become more market-determined as investment picks up following the end of a 26-year civil war, a central bank official said.

The rupee traded within a range of 114.18 to 115.10 per dollar over the past two months as policy makers sought to cap gains in the currency. Sri Lank is seeking to support export growth in items such as tea and textiles and aid an economic recovery.

“Given the high inflows, we will continue to purchase the excess in the market,” K.D. Ranasinghe, head of the Central Bank of Sri Lanka’s economic research department, said in an interview today from Colombo. “But the rupee can go either way and will depend on market conditions here and overseas.”

Sri Lanka’s foreign-exchange reserves will surpass an unprecedented $5 billion once the nation receives the second part of a $2.6 billion loan from the International Monetary Fund, the central bank said Nov. 7. The holdings will increase further as investor confidence improves, it said. The bank said last month it purchased $2.5 billion from the market from the end of March 2009 through to Oct. 15.

The rupee traded at 114.46 per dollar as of 2:06 p.m. in Colombo, according to data compiled by Bloomberg. It is up 0.3 percent from the end of last week and set for its best weekly gain in two months.

”It’s good not to have authoritarian measures to artificially control the market,” said Romesh Gomez, head of treasury at Asia Capital Plc in Colombo. “Foreign investors in rupee bonds would like to see appreciation, and that is likely going to be the currency’s direction in the short-term. The central bank is still keeping safeguards for exports.”

‘Sensible Policy’

Sri Lanka’s $41 billion economy may expand as much as 6 percent next year after growth of about 3.5 percent in 2009, central bank Governor Nivard Cabraal said Oct. 6. The IMF raised its forecast for this year on Sept. 22, predicting gross domestic product will grow 3.5 percent compared with a July estimate of 3 percent.

Sri Lanka, which has been purchasing gold for the last seven months, will continue buying the metal as a hedge against volatility in currency markets, Cabraal said Nov. 6.

The central bank’s policy of adding to reserves by accumulating foreign flows and preventing a sharp appreciation of the currency “has been a sensible policy,” Koshy Mathai, the IMF’s resident representative for Sri Lanka, said Nov. 9.

In return for the IMF loan approved in July, Sri Lanka agreed to reduce its budget deficit to 5 percent of GDP by 2011, from 7 percent this year, and maintain flexibility in the exchange rate in order to build foreign reserves to cover 3 1/2 months of imports and bolster the economy.

The central bank’s Ranasinghe said this week’s faster appreciation of the rupee had no connection to the IMF agreement.

To contact the reporter on this story: Anusha Ondaatjie in Colombo at anushao@bloomberg.net.