Sri Lanka likely to record highest ever BOP deficit this year

• Seven-month BOP deficit eclipses deficit recorded in the whole of 2020

Sri Lanka is on course to record its highest ever Balance of Payments (BOP) deficit in 2021 as the first 7-month deficit in the overall foreign inflows and outflows surpassed the deficit recorded in the entirety of 2020. 

Sri Lanka recorded a BOP deficit of US$ 2,755 million in the seven months to July 2021 compared to US$ 939 million in the same period last year and US$ 2,328 million deficit recorded in the entirety of 2020, when the pandemic had a severe toll on the country’s merchandise exports and direct investment flows while the tourism trade, which had the capacity to generate over US$ 4.5 billion came to a standstill from March onwards. 

Meanwhile, the country’s external sector started contending with some fresh worries over the discernible slowdown in the pace of worker remittances since June onwards, contributing further to the expanding BOP deficit amid heavy foreign debt repayments, which were honoured from the country’s foreign reserves. 

However, some sections argue that the record high liquidity injections made by the Central Bank since the onset of the pandemic last year for deficit financing and also to provide liquidity into the banking system exacerbated BOP troubles as a part of such moneys created were used to pay State sector salaries while creating cheap credit.

As a result, a considerable part of that moneys were spent for consumption of foreign made goods and services i.e. imports, making the gap between outflows and the inflows of foreign exchange wider, which is referred to as the BOP deficit. This created foreign exchange shortages causing the rupee to shed its value sharply when the Central Bank stopped providing convertibility for foreign currency bills through its dwindling reserves.

In a bid to ease the pressure on the currency and foreign assets, the Central Bank on August 19 raised its key policy rates and did away with the ceiling rate on Treasury bill yields, last week. 

At the first bill auction held on Wednesday free of yield controls, the yields across 3, 6, and 12-month bills rose by between a sharp 30 basis points to 38 basis points with the 12-month treasury bill rate climbing to 6.50 percent from 6.12 percent at the previous auction, signalling further increase in market interest rates.