Growing concerns about rapidly increasing government securities held by Central Bank

by Sanath Nanayakkare

The Central Bank was again forced to pump massive amounts of liquidity into the government, as the state coffers were running dry as the authorities reimposed travel restrictions and state tax revenue took another beating, analysts say.

According data, the Central Bank holdings of government securities or the printed money stock had surged by Rs.34.51 billion since travel restrictions came into effect on May 21 through June 18, 2021, bringing the total outstanding printed money stock to Rs.896.24 billion, they say.

“Now there is serious concern about growing holdings of government securities by the Central Bank, which is also referred to as printed money in the system by certain quarters as excessive liquidity has the effects of destabilising economy by stoking inflation, balance of payment crises and asset bubbles. However, the proponents argue that the economy, which is significantly battered by the virus, can and should be supported through easy money, until it reaches its equilibrium as the economy still remains subdued. And the Central Bank has repeatedly said it was willing to take its foot off the gas if it saw significant excesses as a result of the current monetary policy.”

“As the government will continue to have to rely on the Central Bank liquidity amid depleted tax revenues, it could keep the domestic interest rates low to support the government financing as well as to support lending to the private sector.”

“On the other hand, the government, which has limited options to raise foreign currency funding to bridge its budget gap, could also resort to the banking sector for borrowings, potentially leaving less money for the private sector – a scenario known as ‘crowding out effect’, albeit the possibility remains less of that happening, they said.

Sri Lanka is bracing for back-to-back years of blow out budget deficits in 2021, potentially reaching double-digit levels as a percentage of its gross domestic product (GDP) as it crimped its revenues through lockdowns while confronting with unexpectedly high expenditure on virus containment measures. 

The fiscal deficit can also look higher than it actually appears when the output gets compressed as authorities have lost nearly a trillion rupees in GDP since April 23, 2021. they say.