Financial Times

Seylan Bank crisis was more about overall financial market management

By Natasha Gunaratne

Some economists feel the situation at Seylan Bank, precipitated by the unfolding drama with the Golden Key Credit Card Company, has nothing to do with the global financial crisis. Instead, it is about the mismanagement of the financial market in Sri Lanka in which the Central Bank (CB) should take responsibility for, according to senior lecturer and head of the Economics Department at the University of Colombo Dr. Athula Ranasinghe. He said the CB is the only authority that can handle situations such as this. At the same time, given the global changes that have taken place in financial markets over the years and the thousands of new instruments and innovations entering the market, the present Monetary Act is not sufficient and does not give enough authority to the CB to regulate the industry. Dr. Ranasinghe said the Act must be amended.

Dr. Ranasinghe believes Sri Lanka will take an indirect hit from the global economic crisis because it has not fully opened its financial markets. At the moment, it is through trade that Sri Lanka is feeling the impact of the global financial crisis. "It has virtually collapsed for all the buyers of our products, especially garments and tea which are our major exports. They have virtually collapsed because no one is buying our products. We are without a market for our goods," he said.

Dr. Ranasingh explained that when any kind of shocks take place in the rest of the world, they will be absorbed in the domestic economy. There are two ways in which this can happen, either through Sri Lanka's capital account or trade account. As the capital market is not fully liberalized as yet, there are restrictions and Sri Lanka is protected on that front. As a result, most of the economies of Sri Lanka's buyers have collapsed. Dr. Ranasinghe said Sri Lanka will continue to have a trade problem if the financial crisis drags on for the next several months.

He said there is a cost of living problem in the country and addressing the problem is to have a stable and healthy financial system in the country with regulations and legal bodies. With the fraud that is taking place in the financial markets today, people will be hesitant to invest. "Trust is most important in the markets and the government and the CB have to make sure that trust is there."

Managing Director of Amba Research Ravi Abeysuriya said the global recession which may become a depression will certainly impact Sri Lanka because it is a trading country and exports a substantial amount of commodities. Declining commodity prices, will impact local industries and businesses which will scale down production and hire less, particularly in the tea and rubber industries. He said Sri Lanka is somewhat insulated because its top revenue generator is foreign remittances. Despite plunging oil prices, migrant workers have a large presence in the Middle East and the employers overseas will be able to afford to continue hiring the workers.

However, Dr. Abeysuriya said a recent development is the new financial crisis in Sri Lanka which was instigated by the Golden Key Credit Card Company situation. The fallout has led to a slowdown in the finance leasing industry which supports all the vehicle hiring. Some companies that are offering interest like Golden Key - 24 to 28% returns to investors – would be in difficulty as Golden Key would have had to generate so much more to cover their overheads through very high risk investments.

Dr. Abeysuriya said there will be problems for the Ceylinco Group which will have a huge impact on the financial system but not the banks. He said banks are protected with the CB being the centre of last resort, even for other registered financial institutions. Banks are much more regulated and controlled than finance companies so the CB will help out banks much more than finance companies. If finance companies do collapse, it will take a long time for depositors to get their money back.

However, there is a confidence crisis among people. In the case of Golden Key, customers had some belief that Ceylinco Chairman Lalith Kotalawela would come and rescue them. The bigger the company, the bigger the problem and the more difficulties there are in finding money.

The oil hedging debacle may have also created a liquidity crisis in some banks because they will have to raise money on their own. Mr Abeysuriya said banks which have significant exposures such as Standard Chartered Bank and Citibank may have some problems but they have probably covered that risk with other correspondents. Even Commercial Bank which has estimated it will have to make a payment of close to US$9 million due to the hedging contracts will be able to meet its obligations. He said it is an insignificant amount when taken in the larger context of Commercial Bank's performance.
Another issue which has been raised by the collapse of Golden Key is that the public is driven to invest in high risk instruments such as Golden Key and Sakvithi due to the high cost of living and it is common for many investors to live off the interest. Mr Abeysuriya said the only solution is to reduce the cost of living so people will not have to resort to putting their money in such risky ventures. He added that Golden Key is not the usual method, such as in finance companies, of taking money. Treasury bills and bonds give around 20% without the risk of default.

Mr Abeysuriya said the CB has to step in to tackle the financial crisis and so far, they have reacted fast. However, the bigger issue is the financial system or the systemic crisis which is happening in the US and in countries like Ireland. Sri Lanka needs to prevent that crisis of confidence from taking place because that is when big institutions start failing and the impact will be huge. The global crisis has hit Sri Lanka but the government's role should be to mitigate it from spreading into other institutions, he said. There is a risk where smaller financial institutions are concerned. When depositors ask for their money, these financial institutions have to get funds through various sources which is much easier for large institutions that have backup funds.

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