Former Central Bank Governor Arjuna Mahendran told the Presidential Commission of Inquiry on the controversial bond issuance yesterday that a confidential International Monetary Fund (IMF) report in his possession had revealed that in 2014 bills amounting to Rs. 1.2 trillion had not been paid by the then Government.
The previous administration, said the Former Governor, had suppressed these arrears in an attempt to “camouflage the problem” and “pretend everything was hunky dory.” Money had not been paid, he said, to, among others, the Road Development Authority (RDA), SriLankan Airlines, and “all sectors of the economy.” All of these bills, however, had been settled by 2015, he said subsequently.
Mahendran brought this to light in response to questions raised by Senior State Counsel Shaheeda Barrie on the Central Bank of Sri Lanka (CBSL)›s decision to forgo the hybrid system of private placement and auctions and replace it with a totally auction-based system on 27 February 2015.
Questioning the witness, Barrie noted that over 80% of the Government›s debt requirement, prior to this decision, had been raised through private placements. Mahendran, however, opted to call it a lopsided system rather than a hybrid one.
Commissioner Justice Prasanna Jayawardena asked Mahendran if he had expressed his views concerning private placements, as Governor, to relevant parties and in what fora.
The witness testified that he had made his views clear to primary dealers, CBSL›s Monetary Board and CEOs of banks at various meetings. He also recalled conveying his position to the Prime Minister, the then Minister of Finance and other Ministers at the Cabinet Subcommittee on Economic Affairs meeting held on 23 February 2015. However, he said he did not meet with primary dealers prior to the 27 February auction.
Senior State Counsel Barrie put it to the witness that minutes taken at a 23 February meeting held with Monetary Board members did not reflect any form of discussion about direct placements and auctions.
Mahendran responded that two or three sentences in the minutes refer to a desirability of extending the yield curve, which he claimed was an abbreviated way of saying that the market determination of interest along the yield curve had to be pursued.
«That sentence speaks volumes to the thinking of the Monetary Board,» he said, adding that given that the Government had a pressing debt bunching problem, with a lot of short term debt coming in and huge debt repayments coming from 2018 onward, it was indeed desirable to extend the yield curve.
Barrie, however, maintained that evidence previously led by Monetary Board members had indicated that there was no discussion pertaining to doing away with direct placements or the desirability of one system over the other.
Evidence from a former Deputy Governor had indicated, she said, that direct placement was used to achieve a degree of fiscal monetary policy coordination. She also pointed out that Mahendran had agreed that coordination was important. The evidence was that in early 2015 and before, direct placements were used as a tool to achieve, she further said, asking Mahendran if he did not know about this.
At this point, Mahendran said: «Let›s be blunt about what was happening,» testifying that the Government was borrowing too much to service its debt.
«Our Government was over-borrowed,» he said, adding that the «people the Learned Counsel referred to» had tried to suppress interest rates, which meant more money could not be raised. The statistics would testify to this, he said.
On top of this, the Government had announced a Rs. 10,000 salary increment for the public sector, he added.
In this context, said Mahendran, some analysts in the market had proposed controlling interest rates and suppressing them in order to lessen the debt service burden. His view, however, had been that this was not sustainable.
Chairman of the Commission Justice K. T. Chitrasiri at this point asked if this had not come up before, at which point the witness brought up the confidential IMF report, which he claimed to own a copy of.
«Rs. 1.2 trillion of arrears from 2014 were suppressed. The Government simply stopped paying to try and camouflage the problem,» he said, adding that, at the same time, it had reduced the borrowing and reduced the interest rate.
«I was terrified [in early 2015]. We had to resort to extraordinary measures,» he said, hence the rush to Washington seeking assistance from the World Bank and other institutions.
The other suggestion, he said, was to go back to the market system.
«Sure enough, it was a magnificent response from the local market,» he said, resulting in what he called spectacular auctions. The first auction alone attracted 220 bids, he added.
«We found a solution. If we had continued with private placements, we wouldn›t have been able to raise that money and the Government would›ve come to some sort of gridlock,» said Mahendran.
Barrie, once again pointing out that the witness had agreed that private placement was being used as a tool, asked what he had done to review the system objectively before suspending it.
«You were just one month in the job. You couldn›t have studied the data very well at that stage,» she said.
Mahendran responded that Sri Lanka had been implementing a policy of financial repression since around 2005, trying to suppress interest below what the market would determine to be a realistic level. The former CBSL Chief also attributed the GoldenKey incident to this policy.
There was consensus from the Prime Minister downward, said Mahendran, that private placements were undesirable and, more importantly, the system was not generating results.
There was no luxury of time to debate the issue when the Government needed «so much money in such a short period of time,» he said.
Justice Jayawardena observed that the unrecognised arrears amounting to Rs. 1.2 trillion in the IMF report would not have entered into the Treasury›s calculations of public debt for the month of March 2015.
«The report has nothing to do with whatever sum of money required by the Treasury in March,» he said, adding that it was something that had to be done in the future.
«Yes, and we were gearing ourselves to meet that demand in the future,» agreed Mahendran.
As far as February was concerned, continued Justice Jayawardena, the amount required was what had already been set out in the cash-flow sent to CBSL by the Treasury.
The Commissioner then asked the witness if he had held any discussions with senior CBSL officials including Public Debt Department and Deputy and Assistant Governors about the future of direct placements.
«Yes,» said Mahendran, explaining that he consulted as wide a variety of opinion as possible, and noted that private placements are permitted by the CBSL manual and that there is nothing intrinsically wrong with the system. His objection, he said, was to what “all sorts of embellishments” hat had grown around the procedure.
Justice Jayawardena again asked if the Former Governor had had specific discussions about the cessation of direct placements with senior CBSL officials, a few of whom were fervent proponents of the system.
«Definitely,» said Mahendran, referring to the meeting held on 23 February.
The Commissioner, however, noted that the minutes of that meeting were «less than explicit» with regard to any discussion of the cessation of direct placements. Mahendran agreed, but said that he was veering towards stopping it, and as there had been a different point of view, he was willing to give the benefit of the doubt to the Deputy Governor and his staff to prove that they could raise the money through private placements.
Then it logically follows, said Justice Jayawardena, that there was no decision taken until the dawn of 27 February to stop it – a decision taken solely by Mahendran on the morning of the auction.
The Former Governor said that at a meeting held on 06 March, the suspension of direct placements was conveyed to the Monetary Board.
The Commissioner then asked the witness, had he been in possession of specific directions given by the Minister in charge or some other superior official to stop direct placements, would he not have mentioned it at the meeting?
Responded Mahendran: «It›s not my style to bring in political authorities into Monetary Board conversations,» adding that the Board had enough powers of its own to decide on such matters.
Countering that there had been a furor about the previous auction, Justice Jayawardena said that it would›ve been in Mahendran›s interest to mention it at the meeting.
«The minutes do not suggest you did that,» he said.
PTL market share up since 2015
Senior State Counsel Shaheeda Barrie yesterday suggested to Former Central Bank Governor Arjuna Mahendran that proportions of the market share of primary dealer Perpetual Treasuries (Pvt) Ltd (PTL) had increased since the Central Bank had replaced the hitherto hybrid system with an exclusively auction-based system.
In 2014, said Barrie leading evidence at the Presidential Commision of Inquiry on the controversial bond issuance, the Employees’ Provident Fund (EPF) had a 27.3% share, while Bank of Ceylon (BoC) had 16%, National Savings Bank (NSB) had 17%, while other dealers had a very much smaller share.
“At the time you took over, it was the EPF and other government owned banks that were strong players in the debt market,” she said.
Mahendran countered that the situation prevails to this day, adding that the secondary market in Sri Lanka is “very primitive.” A proper trading platform in the bond market similar to that of the stock market was needed, he said, to make it more efficient.
Regardless, continued State Counsel Barrie, Mahendran had decided to scrap the direct placement and go for auctions, putting the fund raising mechanism at the mercy of the market.
In 2014, when the hybrid system was in place, EPF, BoC, NSB and People’s Bank had held major shares in the primary market, while PTL was at just 0.29% and Pan Asia Bank had 0%.
In 2015, however, BoC had come down to 10.98%, EPF to 24.98% and NSB to 11.06%, while PTL had gone up to 4.52% and Pan Asia Bank to 3.09%. This, she said, was a significant increase in market share for PTL.
In 2016, she continued, EPF had gone down further to 18.66%, while PTL had shot up to 15.45% and Pan Asia Bank, who had placed bids on behalf of PTL, was at 2.84%.