Yields To Rise

Upward pressure on the Treasury (T) Bill primary market will continue, with short term rates expected to rise by another 10-15 basis points at this week’s auction due to state banks entering the money market last week,  market sources who didn’t want to be named told The Sunday Leader.
There appears to have had been an outflow from government funds, either to meet certain bills, or settlement of government securities sold by foreigners, to replenish that stock, the government seems to be borrowing from the market, they said.
Liquidity in the banking system which was a high of Rs. 40 billion two months ago, has since come down to Rs. 5-8 billion, indicating that the depreciation was due to it having to meet certain commitments, the sources said.
Contraction in liquidity does not help to contain rates.
But they are not investing such borrowings to buy foreign exchange, hence there is no pressure on the exchange rate, they said.
It may have been due to settlement of bills or monies flowing out from the government securities market, the sources said.
However such state banks’ demands will continue to push yields up at this week’s auction, they said. Last week’s T Bill primary auction saw T. Bill rates for three and six months bills, week on week going up by 12 and six basis points to 8.38% and 9.12% respectively, while that of the benchmark 364 day T Bill remained unchanged at 9.47% due to controlled selling by the Central Bank of Sri Lanka (C.B.S.L.) in order to check its rise.
Though originally C.B.S.L. was billed to offer Rs. 4.700 million of the 364 day tenure to the market, it ended up offering only a little more than 10% of the same, an amount of Rs. 590 million in order to prevent yields from going up by controlled selling of T Bills, the sources said.
The Government is borrowing short-term, they said.
The totality that was originally on offer to the market was Rs. 11 billion, of which only Rs. 9.7 billion was ultimately offered, meaning that the balance Rs. 1.3 billion was subscribed by C.B.S.L., resulting in new money flowing into the system, causing demand side inflationary pressure on the economy. When inflation rises, it’s the poor and the fixed wage earner who suffer.
As a result of speculative trading by banks with the expectation of a further increase in interest rates, daily foreign exchange (forex) volumes which was averaging around U.S.$ 20 million doubled to U.S.$ 40 million last week,  the sources said.
The market borrows in rupees to buy forex. “C.B.S.L. was allowing the dollar to operate in a band ranging from between Rs. 114.25-114.75 in spot trading, and, until Wednesday, it was operating at the higher end, i.e. at the Rs. 114.65 levels, thereby virtually forcing exporters to encash their dollars due to C.B.S.L.’s protection of the rupee, resulting in the dollar depreciating by 30 Sri Lanka cents on that day due to the influx of forex inflows,” the sources said.
The U.S. dollar to the rupee in spot trading was going at Rs. 114/30/35 on Wednesday. It lost a further five Sri Lanka cents on Thursday, but held on to the Rs. 114/20/25 levels till the week-end.
Expectations of a rise in interest rates and the suspension of the I.M.F. standby arrangement (s.b.a.) had also caused forward premiums going up by as much as 50 cents over spot rates in certain instances last week. The I.M.F. last month suspended the release of the U.S.$ 330 million tranche in its U.S.$ 2.6 billion standby arrangement to Sri Lanka due to budgetary over-runs. The Government last year promised the I.M.F. to contain the budget deficit at 7% of g.d.p., but, according to provisional estimates, it ended up with a deficit of 10%.
The I.M.F. said that they will take a second look at the programme after the presentation of “Budget 2010,” due, after the conclusion of next month’s parliamentary elections. They told the press recently that the primary cause for this over-run appeared to be borrowing from domestic banks, which had overshot by 1½-1¾% of g.d.p. (1% g.d.p.=Rs. 50 billion). “As Government payments of petroleum bills have been deferred and the need for the import of defence stores have been curtailed due to the war end, at least in the short term the pressure on the dollar to appreciate may be curtailed. But if the I.M.F. arrangement is totally abandoned, then it may well mean a different story,” the sources said. Forwards were commanding premiums over spot, of Sri Lanka cents 60, Rs. 1.10 and Rs. 1.60 for one, two and three months bookings respectively, last week.