Searching for: Sri lanka rupee floating
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According to some news sources12, Sri Lanka’s rupee has opened stronger against the US dollar after a surrender rule was relaxed, reducing central bank purchases. The rupee was buying at 351.72 and selling at 362.95 against the U.S. dollar on Wednesday2. This is the highest rupee value against the U.S. dollar in 10 months2.
However, some experts say that allowing greater flexibility in exchange rates will lead to the depreciation of the Sri Lankan rupee in the long run3. The central bank governor said that Rs230 per US dollar is a guidance and not a peg4.
Searching for: why Sri Lanka decided to float its currency
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One of the main reasons was that Sri Lanka’s foreign reserves had fallen to a very low level due to its crushing external debt1. By floating the currency, Sri Lanka hoped to reduce its import bill and increase its export competitiveness2.
However, some analysts say that this decision was not a wise thing to do at this moment because it could lead to higher inflation, social unrest and political instability34. They argue that Sri Lanka should have maintained a stable exchange rate regime with prudent fiscal and monetary policies3.
Sri Lanka's external debt situation
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Sri Lanka has a high level of external debt that often leads to serious balance of payment issues1. By the end of April 2022, its total outstanding external debt was US$ 34.8 billion2, which is about 90% of its GDP.
Sri Lanka’s external debt problem is caused by structural weaknesses such as low exports, low tax revenue, and low foreign direct investment1. It also faces challenges in servicing its debt due to high interest rates, currency depreciation, and global shocks such as COVID-191.
In April 2022, Sri Lanka announced that it was suspending payments on its foreign debt for six months to preserve its foreign reserves3. This decision raised concerns about its credit rating and its ability to access international markets in the future3.
Searching for: how floating affects inflation
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A floating exchange rate is when a currency’s value is determined by market forces of supply and demand. A floating exchange rate can have both positive and negative effects on inflation.
On one hand, a floating exchange rate can help reduce inflation by allowing a currency to appreciate when there is strong demand for it. This makes imports cheaper and lowers the cost of living for consumers1.
On the other hand, a floating exchange rate can also worsen inflation by causing a currency to depreciate when there is weak demand for it. This makes exports more competitive but also makes imports more expensive. This can lead to higher production costs and higher prices for consumers1.
Searching for: Sri Lanka currency depreciation inflation
Searching for: Sri Lanka currency depreciation inflation
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Sri Lanka’s currency, the rupee, has been depreciating against the US dollar since 2021 due to weak economic conditions, high external debt, low foreign reserves and global shocks such as COVID-191. In March 2022, Sri Lanka devalued its rupee by 10% to 230 per dollar1.
The currency depreciation has increased inflation in Sri Lanka by making imports more expensive. This has especially affected food prices, which account for a large share of consumer spending. Sri Lanka’s food inflation reached 25.7% in February 20222. The overall inflation rate was 50.6% in February 20233, one of the highest in the world.
The currency depreciation has also eroded the purchasing power of consumers and businesses, reducing their real income and profits. This has hurt domestic demand and economic growth.
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