ECONOMYNEXT – Sri Lanka’s Finance Ministry has serviced debt of 1,358.6 million US dollars in the first half of 2025, while inflows to the Treasury were only 547.5 million dollars, with the balance being purchased from the central bank for rupee cash, official data showed.
The Treasury had got the balance from the central bank, a Mid-Year Fiscal Report said.
The central bank bought dollars in 2025 kept the liquidity unsterilized (except for coupon payments on its bond stock) and gave dollars to the Treasury in unsterilized sales to the Treasury who gave back the liquidity.
However, the central bank did not redeem the rupees from private importers who used the excess liquidity usually through the credit system as loans and continued to over-purchase dollars, leading to a steady depreciation of the rupee.
Up to June the Finance Ministry repaid 863.6 million US dollars in principal payments, and 495.3 million dollars in interest.
“However, the issue emerged concerning foreign debt repayments, primarily attributable to a shortage of US Dollar proceeds of the government,” the Treasury report said.
“Consequently, the cash flow buffer was utilized by obtaining US dollars from the Central Bank of Sri Lanka to fulfill these obligations.”
The IMF had given 350 million dollars in its fourth tranche under its program and ” significantly contributed to alleviating” US dollar pressures, the report said.
“This sequence of events highlights the critical dependence on external financial support to sustain external debt service commitments and underscores the importance of strategic liquidity management in the context of limited foreign exchange reserves,” the report claimed.
However, analysts have pointed out that there is no critical need to make fresh foreign borrowings to repay maturing dollar loans at all.
Not Critical
The Treasury is forced to borrow dollars now because it has been blocked from buying dollars for rupees which any other importer including Ceylon Petroleum Corporation that has rupee revenues, has the economic freedom to do as a routine practice.
Macro-economists have also blocked the Treasury from getting taxes in US dollars, which it can easily do by breaking the central bank’s money monopoly and it will no longer be hostage to the central bank for dollars.
Analysts have urged the Treasury to set up its own trading desk or give rupees to state banks to buy dollars in the market (from tax revenues or rupee borrowings) instead of repaying dollar borrowing with more dollar borrowings.
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Such practices lead to dollar interest being paid by dollar borrowings and the year-end debt stock rising by a magnitude greater than the annual dollar financing of the deficit.
Inflationary Policy
Similar claims were made after 2015 with maturing debt and interest being repaid with commercial borrowings including international sovereign bonds and a syndicated loan from China, leading to rapid ratcheting up of debt.
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Analysts have warned that a central bank with a political policy rate which runs inflationary policy (reverse repo auctions) to cut rates under flexible inflation targeting or potential output targeting will lose the ability to build reserves or give any to the Treasury, leading to a second default.
The Treasury said it had used a ‘cash buffer’ to repay both foreign and domestic debt.
Analysts had warned that the use of domestic cash buffers to manipulate rates will only be successful to the extent that the buffer is deposited as excess liquidity in the central bank.
Buffer Warning
The use of such liquidity will lead to a loss of foreign reserves, whether local or foreign debt repayments are made. Any other ‘cash buffer’ on-lent by state banks to other customers or to banks or even re-loaned to the government cannot bring down rates.
While use of excess liquidity to buy dollars from the central for foreign debt service will only lead to a loss of reserves, use of excess liquidity in state banks for local debt repayments will lead to currency depreciation since the central bank has followed a practice of only intervening for government liquidity use.
RELATED : Sri Lanka central bank makes over $750mn unsterilized forex sales to govt
While depositing excess cash flows in the central bank posed no problems before the central bank was created and was a routine practice under the Board of Commissioners of Currency during British rule, the same cannot be done by a central bank with a policy rate, analysts have pointed out.
That is because under a policy rate central bank interventions (dollar sales) are not always un-sterilized and will lead to a re-injection of liquidity (a sterilized forex sale) to stop liquidity tightening and overnight rates from going up.
In 2025 however interventions for debt payments were un-sterilized. After reverse repo auctions were halted, the interbank market has become activated, borrowings from the central bank has been only for clearing purposes (scarce reserve system). (Colombo/Nov04/2025)
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