ECONOMYNEXT – Sri Lanka’s bank lending to private borrowers has outpaced credit to the government for the fourth month running in November 2024, central bank data showed, as budgets got better and loan demand grew.
Banks loaned 96 billion rupees to private borrowers in November, up from 88 billion in September and 74 billion rupees in October, after a surge of 135 billion rupees in August.
Meanwhile, credit to the government from banks contracted absolutely in August and September, but expanded by only 8.8 billion rupees in October and 28.4 billion rupees in November.
Private credit also tends to outpace government credit during currency crises when a (pegged) central bank deploys inflationary open market operations to suppress interest rates and offset reserve sales.
When reserves are borrowed by the central bank through swaps (or ACU loans) and the interventions are sterilized with open market operations, private credit continues to surge over government credit, driving up investments and capital and intermediate goods imports.
Inflationist macro economists who target policy rates however, usually blame budget deficits for monetary instability, not inflationary open or direct market operations.
Money is usually printed for inflation targeting (5 percent inflation) without a floating rate or ‘independent’ monetary policy, before that, triggering external trouble analysts have shown.
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Open market operations ‘monetize’ past year deficits by taking back securities held in bank balance sheets and private savers from legacy deficits through outright or term liquidity operations.
When stabilization policies are deployed to save the currency, after confidence (credibility of the peg) has been lost due to rate cuts, bank credit to government outpaces private credit, which tend to shrink.
In the stabilization year, the deficit is usually bigger than in the year the currency crisis was triggered by suppressing rates with liquidity tools.
Currency depreciation from rate cuts, (exchange rate as the first line of defence) which push up losses of state petroleum and energy utilities will also create credit demand from state enterprises, until tariffs are adjusted to match.
As private credit recovers (banks focus on private borrowers) and a central bank engages in open market operations to inject money to keep rates down, net credit to government from banks can fall.
Given previous experience in targeting a mid-corridor rate under ‘flexible’ inflation targeting with excess liquidity, analysts have warned against inflationary open market operations to target a single policy rate, as it may trigger reserve losses and reduce the ability to service debt.
When excess liquidity is used up including through margin trading, stock prices can go up, while other commodities including food prices can go up especially if they are non-traded, analysts say. (Colombo/Jan14/2025)