LNP – Central Bank likely to maintain surplus liquidity in rupee money markets

• Speculation was rife that bond payment could create a shortage in rupee liquidity market
• But CB purchased T-bills worth Rs.123.1bn on Oct. 2, to keep overnight rates from rising
• Also, open market operations auctions were conducted on same day, showing commitment 
• Fitch expects higher pressure on foreign currency liquidity due to heightened refinancing risks and weaker sovereign profile 
• Seventh Monetary Policy scheduled for Oct. 16 and Monetary Board likely to stay pat

Fitch Ratings Lanka Limited failed to see any near-term pressure on rupee liquidity, as the Monetary Board of the Central Bank could stay its key policy rates ‘lower-for-longer’, which provides direction as to how the lending rates are priced in other markets underneath. 

Sri Lanka’s money market liquidity fell by Rs.47.63 billion on Friday, in one of the largest single-day declines to Rs.139.4 billion, as the Central Bank repaid a billion dollar sovereign bond due on October 4. 

There was speculation building up leading up to last week’s sovereign bond settlement by the Central Bank, as it could create a shortage in the rupee liquidity market. But the Central Bank purchased Treasury bills to the tune of Rs.123.1 billion on October 2, to facilitate the bond repayment and to keep the overnight rates from rising. 
The Central Bank conducted its open market operations auctions on the same day, in a further indication that it remains committed to maintain surplus liquidity in the rupee money markets.

The rupee liquidity backed up fast by Rs.23.75 billion on Tuesday to Rs.160.02 billion. 

The seventh Monetary Policy is due on October 16 and a broader section of economists and analysts expect the Monetary Board to stay pat, as the earlier actions taken to bring down the rates are fast taking route in the lending markets. 

“We do not expect pressure on rupee liquidity in the near term, due to the Central Bank of Sri Lanka’s accommodative monetary policies,” Fitch Ratings said in a recent rating report on Nations Trust Bank (NTB). 
Affirming NTB’s national long-term rating at ‘A’, with a stable outlook, the rating agency said the bank’s loan-to-deposit ratio had slipped to 94 percent by end-1H’20, albeit it could rise with the resumption of lending activities. 
Sri Lanka’s banks ramped up lending from June, surpassing the pre-pandemic levels around July while the outstanding private sector credit grew by Rs.78.3 billion in August, signalling a recovery in economic activity.
However, the resurgence of the virus could stall the gains made.

The loan-to-deposit ratio fell in most banks, as there was a larger build up of deposits during March through July, since people and firms left moneys in their bank accounts, while the growth in loans was anaemic during lockdowns. 

However, with the banks resuming lending, the ratio could rise, as the banks could rely on medium-term non-deposit funding to match asset and liability maturities, Fitch ratings said. 

While Fitch does not expect the rupee liquidity to come under pressure, it expects higher pressure on foreign currency liquidity, due to heightened refinancing risks and weaker sovereign profile. 

“However, we expect elevated pressure in terms of access to and pricing of foreign-currency funding due to heightened refinancing risks from the weaker sovereign profile,” the rating agency added.