Macro Analysis /
Sri Lanka

Sri Lanka Monthly Macro Round-Up

    Lakshini Fernando
    Asia Securities
    1 August 2019
    Published by

    July 2019: Economy holds steady; alliances form ahead of Presidential nominations

    Key policy rates were left on hold in July, in line with our expectations, as market rates continued to taper down. Average overnight repo rates were down by 6bps mom, while overnight excess liquidity averaged LKR28bn (although by 30 July, this stood at LKR 45bn), down by c10.6% mom. Credit growth for May came in at 9.2% yoy. Meanwhile, premium fuel and 92 Octane prices were reduced, in line with global oil price movements. The LKR continued to strengthen in July, recording a 0.2% mom appreciation. With import demand continuing to grow at a slow pace, we expect this to be favourable to the LKR in the near term. Meanwhile, the weak government revenue collections from Jan-April 2019 signals a worsening of the fiscal deficit for 2019. Looking ahead, we expect the Presidential candidate nominations, which are expected in August, to help ease political uncertainty to some extent. However, we continue to expect policy uncertainty to remain heightened. We forecast GDP growth of 2.5% yoy in 2019 and 3.8% yoy in 2020 and LKR to appreciate by 2.1% to end 2019 at LKR 179.00.

    Reserves strengthen on US$2.0bn ISB; looks strong at 5.1 months of imports

    Sri Lanka’s official reserves position for June ended at US$8.9bn, up 31.7% mom (-4.1% yoy). The stronger reserves position comes on the back of the successful US$2.0bn International Sovereign Bond issuance (which was oversubscribed by three times). This issuance came under a bill passed in parliament in June allowing the central bank to raise LKR480bn equivalent from either local of foreign sources, specifically to meet debt repayments of US$3.0bn pa over 2020-2029. In our view, the central bank was also a net buyer of US$ during the month, further increasing reserves by US$200mn. Official reserves now cover c5.1 months of imports, improving from 3.9 months in May.

    Fiscal deficit widens on low revenue collections and higher expenditure

    The fiscal deficit for 4M CY 19 amounted to LKR363bn, c2.3% of GDP (compared with 1.7% of GDP for 4M CY 18), up by 45.0% yoy for the period. Government revenue was c3.9% of GDP (4.3% in 4M CY 18), down by 3.9% yoy, while tax revenue was down by 3.3% yoy. Non-tax revenue dipped by 10.3% yoy. Meanwhile, overall expenditure was up by 10.1% yoy for the 4M CY 19, amounting to c6.2% of GDP (compared with 6.0% of GDP for 4M CY 18). Expenditure on salaries and wages increased by 3.9% yoy for the period under review, a largely populist policy usually undertaken during a volatile political environment.

    Outflows from government securities continue; yields taper down

    Net foreign outflows YTD stood at US$66.9mn by the week ending 17 July 2019, since peaking in early June to US$86.3mn. Overall, government securities held by foreign investors reached US$830mn, down by 50.1% yoy. In our view, the low foreign holdings is mainly factoring in the policy and political uncertainty. While we note that that foreign bond holdings are its YTD average of US$0.9bn, we do not expect a significant pick up until political uncertainty recedes and investor sentiment improves. Meanwhile yields on Sri Lanka Government bonds have tapered down by c200bps across the curve since spiking up following the constitutional crisis in October 2018. The spike was mainly due to the curve pricing in the uncertainty and rating downgrades. Furthermore, 3M yields have dropped by 31bps yoy, while the longer end of the curve depicted by the 10y bond yields have dropped by 20bps yoy.