Harsha gives thumbs up for Nivard but says risks remain

UNP MP, its spokesman for the economy and Consultant Economist Dr. Harsha de Silva yesterday gave thumbs up to Central Bank Governor Nivard Cabraal for the latter’s dual move of hiking interest rates and depreciating the currency, though insisted risks and challenges remain.

“The Central Bank Chief must be commended for finally realising that there is a problem.  Depreciating the currency and increasing policy rates as a signal to hike lending rates, aimed at curbing import credit are welcome moves. Though it is very early to come to conclusions, both moves are positive. However we will have to wait and see the actual progress,” Dr. De Silva said.

“I am cautiously optimistic,” added the UNP MP who has been the most consistent and vocal critic of Cabraal but the initial kudos over latest monetary policy revisions is akin to ‘giving the devil his due.’

However, Dr. de Silva said that he would have preferred a slightly sharper depreciation but admitted that the Central Bank could be testing the correct equilibrium. This was in reference to a depreciation of 20 cents each on Friday and Monday. “It is important for the rupee to find its real value in the market and we hope the Central Bank will not continue to sterilise its intervention,” the UNP MP added.

The latter aspect was with regard to Central Bank defending the exchange rate by releasing Dollars and in the process mopping up liquidity and thereafter releasing more rupees to keep the interest rates intact.  

The delay in implementing the twin move was previously described by analysts as “kicking the can further down the road,” but a hike in interest rates also comes despite certain sections of the Government including the Treasury having the view that interest rates could have come down further earlier on. They are of the view that interest rates need to be lower especially for the non-trade sector of the economy.

Dr. De Silva said the Central Bank needs to have an economic perspective to boost growth than having an accounting mindset. This is an apparent dig at Cabraal who by profession is a chartered accountant.

Whilst the Central Bank’s challenge is realising that it cannot please all its masters, the rise in interest rates could have a check on much needed investments as cost of funds will be expensive going forward. “This puts a greater onus on the Government to lure a higher degree of direct foreign investment,” Dr. de Silva opined. “Investment is the fuel for the engine of economy,” he added.  “We feel that due to the negativities of the Expropriation Bill, foreign investments will think twice,” the UNP MP noted.

According to other analysts, the twin moves of Central Bank could have a zero effect on exports. Interestingly despite record low interest rates, exporters have shunned going for loans in 2011 (banks credit for export activity was up only 8% as per Central Bank). This could be either due to exporters using their own proceeds for working capital or not finding interest rates attractive enough to borrow. Analysts said in the event exporters borrow, higher cost of finance consequent to rate hike would negate any benefits of recent depreciation.

The Budget 2012-driven depreciation of three rupees when announced was viewed as insignificant given the long-regime of keeping the rupee artificially high. However to the Government’s credit exports have done well in 2011, growing by over 20% to an estimated $ 11 billion though chances may be very slim to repeat the same growth this year. Central Bank expects exports to grow by only 14% but from a higher base.

A more disturbing trend is the sudden spike in borrowing by state entities. Credit granted to public corporations declined by around Rs. 3.6 billion during the first nine months of 2011. Credit granted by Domestic Banking Units to public corporations reduced by around Rs. 21 billion during the first nine months of the year following partial settlements made by the CPC, while credit granted by Overseas Banking Units increased during this period with increased disbursements to the CPC. However end-November data show a total change. Credit to corporations had increased by 30% to Rs. 179 billion from Rs. 138 billion a year ago. This has been largely from the Foreign Currency Banking Units, up by 107% to Rs. 110 billion from Rs. 53.2 billion in November 2010. Net credit to Government had increased by 42% to Rs. 801.5 billion in November from Rs. 564 billion a year earlier. Monetary authorities lending to Government had risen by 163% to Rs. 216.4 billion whilst that from DBUs was up 21.7% to Rs. 473 billion and FCBUs it was up 20% to Rs. 112 billion.

Private sector credit had grown by 33.5% to Rs. 1.94 trillion by November 2011 with import related credit up 34%.