Exchange rate standoff as IMF visits SL

Reuters: Sri Lanka and the International Monetary Fund (IMF) meet this week amid a standoff over the Central Bank’s defence of the rupee currency, which has cost $ 2.6 billion in foreign exchange reserves since July – the same amount the global lender has pledged to loan.

Bucking all its Asian peers, Sri Lanka has propped up the rupee since the second half of 2011 to prevent depreciation, which prompted the IMF in September to withhold the latest $ 400 million loan tranche.

The central bank spent more than $1.02 billion keeping the exchange rate steady since a three per cent devaluation on 21 November, after spending a net $ 1.61 billion from July-October to keep depreciation at bay.

That has cost it nearly a third of its record reserve total of $ 8.1 billion, held at the end of July.

Sources close to the IMF have told Reuters that a flexible exchange rate will be the key to move forward with the loan, which along with the end of a 25-year war in May 2009 has helped the $ 59 billion economy boost global investor confidence.

But the Central Bank has refused to stop defending the currency, arguing it has the reserves to pay for it in anticipation of inflows in the first quarter that will stem depreciation pressure.

The visiting IMF mission will review the country’s economic performance to see if it could recommend Sri Lanka to the Fund’s executive board to disburse the eighth tranche.

Central Bank Governor Ajith Nivard Cabraal said this review visit should not be focused solely on the exchange rate, but the overall progress in tightening fiscal policy.

“The objective is not the numbers. The objective is something else,” Cabraal told Reuters. He said Sri Lanka had achieved many of the targets set by the IMF.

According to the letter of intent signed in July 2009, the objective of the programme was to cushion the impact of the financial crisis on the Sri Lankan economy, to maintain strong economic growth and consolidate inflation-trimming efforts.

The programme, which was originally expected to be completed by 2011, envisaged fiscal adjustments sufficient to bring down the fiscal deficits to five per cent by 2011, flexibility in the exchange rate, and building up reserves to at least 3.5 months of imports.

The IMF last year revised the targets on Sri Lanka’s request with a one-year extension.