VZCZCXRO3085
RR RUEHBI RUEHLMC
DE RUEHLM #0215/01 0571019
ZNR UUUUU ZZH
R 261019Z FEB 09
FM AMEMBASSY COLOMBO
TO RUEHC/SECSTATE WASHDC 9459
INFO RUCPDOC/DEPT OF COMMERCE WASHDC
RUEHNE/AMEMBASSY NEW DELHI 2706
RUEHKA/AMEMBASSY DHAKA 1377
RUEHIL/AMEMBASSY ISLAMABAD 8378
RUEHKT/AMEMBASSY KATHMANDU 6595
RUEHKP/AMCONSUL KARACHI 2447
RUEHCG/AMCONSUL CHENNAI 9020
RUEHBI/AMCONSUL MUMBAI 6355
RUEHC/DEPT OF LABOR WASHDC
RUEATRS/DEPT OF TREASURY WASHDC
RUEHLMC/MILLENNIUM CHALLENGE CORPORATION

UNCLAS SECTION 01 OF 02 COLOMBO 000215 
 
SENSITIVE 
 
SIPDIS 
 
STATE FOR SCA/INS AND EEB/IFD/OMA 
STATE PASS USTR FOR ADINA ADLER AND VICKY KADER 
TREASURY FOR ANNE ALIKONIS 
 
E.O 12958: N/A 
TAGS: ECON EFIN PGOV KMCA CE
SUBJECT:  SRI LANKA: MORE STIMULUS 
 
Ref:(a) COLOMBO 22 
(b) 08 STATE 134459 
(c) 08 COLOMBO 1133 
(d) 08 COLOMBO 1123 
(e) 08 COLOMBO 922 
 
¶1. (U) SUMMARY:  In addition to a Rs 16 billion (USD 140 million) 
stimulus package announced in December 2008 (ref a), the GSL 
recently announced several steps to provide support to its economy, 
introducing a Rs 4.2 billion (USD 36 million) stimulus package for 
finance and leasing companies, interest rate cuts, and export 
subsidies.  While the interest rate cuts and the export "rebate 
scheme" are intended to directly address problems arising from the 
global economic crisis, the government hopes its actions to provide 
assistance to the leasing and finance sector will restore public 
confidence following major local scandals from unregulated finance 
companies.  End summary. 
 
RATE CUTS 
--------- 
 
¶2. (U) Hoping to help stimulate the economy, on February 11 the 
Central Bank (CB) reduced its key interest rates, lowering both the 
repurchase rate and reverse repurchase rate by 25 basis points to 
10.25 percent and 11.75 percent, respectively.  This is the CB's 
first interest rate cut in repurchase and reverse repurchase 
instruments since February 2007. (Note:  Borrowing is restricted to 
three times per month.  End note.)  The Central Bank also cut its 
penal interest rate from 17.0 percent to 16.5 percent.  This cut 
follows a 200 basis point rate cut in January.  In its public 
statement, the CB said its reductions are expected to "pass through 
to other market interest rates soon and lead to significant 
reductions in the cost of borrowing, resulting in economic activity 
being stimulated in the face of adverse conditions brought on by the 
global economic slowdown."  On February 24, hoping to further 
improve liquidity, the Central Bank announced a reduction in the 
statutory reserve ratio (SRR).  The SRR will be reduced by 75 basis 
points to 7.0 percent starting on February 27.  This move is 
expected to add Rs 9 billion (USD 78 million) to the banking 
system. 
 
¶3. (U) Meanwhile, since January 1 Treasury bill rates have been 
reduced by about 150 basis points to 15.76% (3 month) and 17.73% (1 
year).  Nevertheless, prime lending rates, at which banks lend to 
key customers, continue to hover above 19%. 
 
PRODUCTIVITY SCHEME TO MAINTAIN EXPORTS 
----------------------------------------- 
 
¶4. (U) On February 19, the government announced a subsidy 
arrangement for all exporters, expanding the coverage of an earlier 
program that was restricted to apparel and leather products 
exporters (ref a).  Under the scheme, companies able to maintain 
export earnings at 2008 levels will be given a government-funded 5% 
rebate in Sri Lankan rupees (SLR).  Companies maintaining earnings 
between 90-99% will be given a 3% rebate in SRL.  Exporters must 
also maintain 2008 employment numbers (no lay offs) and meet 
yet-to-be-determined value addition criteria for each industry. 
Companies' performance will be reviewed, and "rebates" given, on a 
quarterly basis.  Rebates will be free of corporate tax.  Businesses 
with a three-year track record of exports are eligible to 
participate. 
 
SUPPORT FOR FINANCE AND LEASING COMPANIES 
------------------------------------------ 
 
¶5. (U) Acknowledging waning public confidence in registered finance 
companies and leasing companies following local scandals involving 
unregulated companies, on February 20 the Central Bank announced a 
Rs 4.2 billion (USD 36 million) package for the sector.  The 
package, which is to be implemented "soon," aims at addressing 
liquidity and funding problems in this sector, which accounts for 
around 9% of the overall financial sector in country.  The package 
contains two key features.  First, finance and leasing companies 
will be able to sell part of their land stock to a government bank 
(Rs 2 billion).  The government-owned Lankaputra Bank will offer to 
 
COLOMBO 00000215  002 OF 002 
 
 
purchase land from finance and leasing companies at a maximum of 67% 
of the land value.  Payment will be in government bonds, which may 
then be discounted in the secondary market to raise cash.  Second, 
the Central Bank will guarantee credit provided by commercial banks 
to finance and leasing companies (Rs 2.2 billion). 
 
¶6. (U) At the same time, the CB also announced plans to reduce the 
liquidity requirement of finance companies.  In return, the finance 
and leasing companies will be asked to reduce interest and lending 
rates by 2%.  (Note:  The Central Bank proposed that vehicles and 
equipment seized by these companies be returned to the original 
customers; however, it did not detail this as a requirement.)  The 
Central Bank plans to strictly monitor companies receiving 
assistance under this package and to impose restrictions on 
incentive payments to top management.  As is too often the case, 
there was no clear indication as to how the government will fund the 
package, although a CB press release said that it will consider the 
release of funds available in a medium and long term credit facility 
to support the package. 
 
COMMENT 
-------- 
 
¶7. (U) The above financial sector assistance measures are likely to 
ease the local liquidity shortage.  In particular, the finance and 
leasing sector package is viewed as a lifeline to the sector. 
According to finance industry sources, about 75 percent of the 
companies in the finance and leasing sector are facing difficulties 
and will take the Central Bank offer.  This action will also help 
restore confidence in a sector badly damaged due to major scandals 
in unregulated finance houses. 
 
¶8. (SBU) The effectiveness of the export subsidy scheme remains 
uncertain.  Exporters report it will be difficult to maintain export 
incomes when both export volumes and prices are falling.  As a 
result, few will likely be able to reap the benefits on offer.  Some 
see the subsidy as an attempt to make up for the overvalued rupee. 
Although the SLR has depreciated by about 6 percent against the 
dollar in the last twelve months, it appreciated sharply against 
most other currencies, lowering the competitiveness of Sri Lanka's 
exports.  (Note:  According to a Central Bank index, Sri Lanka's 
real effective exchange rate has appreciated by 22 percent in the 
twelve months to November 2008.)  Exporters face a tough year ahead 
as many try to determine if and how they can maintain profitability 
in the current economic downturn.