16 July, 2019

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Has CBSL Facilitated Another Scandal ? – Arbitraging & Increase In Money Supply

By Hema Senanayake

Hema Senanayake

Hema Senanayake

The country must be unified to stop paying homage to political leaders elected to power or thrown out of power. They must be respected for what they have done or what they have been doing for the country. The character of the nation must be to stand up against any wrong doing professes by any leader. It is because of this character that Mr. Arjuna Mahendran had to leave the office of Governor of the Central Bank of Sri Lanka (CBSL) even though Prime Minister Ranil Wickremesinghe strongly stood by him.

CBSL which is erroneously listed under the purview of Prime Minister is on the spot light again. As a result, P.M. himself is under the same spot light. It may be true that Prime Minister is clean but it has no meaning if his professional judgement is wrong in administering the institutions which comes under the purview of the Ministry. Out of those institutions which come under his purview, the central bank is the most important one. Here, in this article, we are going to investigate a serious monetary mismanagement done by the central bank under the watch of Prime Minister.

Arjuna Mahendran

Arjuna Mahendran

Previously, it was about a bond scandal purportedly done under the watch of Governor Arjuna Mahendran by Perpetual Treasuries Limited (PTL) of which the main man was the son-in-law of the former Governor Arjuna Mahendran himself. This time it was again about PTL abusing the temporary payment settlement mechanism of CBSL in order to boost the company’s profit. There is nothing wrong if a company tries to increase its profits. But it is wrong if CBSL happens to be a partner in helping any primary dealer like PTL or even a commercial bank to make undue profits jeopardizing the monetary system. All these have now been revealed by a leaked internal document of CBSL.

In the year 2015, PTL posted a profit of Rs. 5.1 billion and it is an increase by 430% in compared to the previous year. Auditor General has once again confirmed that the government has incurred a loss amounting to Rs. 1.6 billion from the most infamous bond scandal by accepting bids of PTL with higher interest rates. In general some body’s loss is somebody else’s profit. If the government lost money, PLT would have made undue profit. Most of the rest of the PTL profits might link to the abuse of CBSL payment method set up for the primary dealers. Earning undue profit is a point that people should concern, but the nation must have a bigger concern if such practice leads to the gross mismanagement of monetary system. I think it has happened. Let us investigate it.

Colombo Telegraph has recently reported that a highly confidential document by the Department for the Supervision for Non-Bank Financial Institutions of the Central Bank has been leaked.

The leaked CBSL report says that, “PTL had a practice of bidding off-market rates.” This means they quote higher rates than prevailing market rates in bidding for bonds. This was the exact point observed by the Auditor General in calculating the loss made by the government from the bond scam. Keep this in mind and let us continue with our investigation.

CBSL operates a system call the Real Time Gross Settlement System (RTGS). Under this system all institutions that deal with the Bank’s Domestic Operations Department are permitted to maintain accounts with the Bank. Accordingly commercial banks are permitted to maintain accounts. Since, Primary Dealers (PDs) like PTL have to settle their obligations to Public Debt and settle balances among themselves and with commercial banks they too have been allowed to operate accounts. As far as I have been enlightened, only the outside body which is not a primary dealer or a commercial bank that has been permitted to operate a settlement account is EPF.

Now, settlements among these institutions are made on a gross basis. As such they should have sufficient funds in their accounts since they are not permitted to overdraw the same. If any institution finds that it does not have sufficient funds, it is given a temporary lending facility by CBSL so as to borrow against government securities which such institution pledges with CB under its REPO system. This lending facility is called “Intra-day Liquidity Facility (ILF).” Since, it is an Intra-day Liquidity Facility, they are supposed to bring money at the end of the day and settle their balances. But like an Over Draft facility, they can continue to borrow and settle it and make it a permanent feature.

When primary dealers use Intra-day Liquidity Facility, the applicable interest rate is the Standing Lending Rate of the CBSL, which rate stood at below 7.5% until last month. Therefore, primary dealers got an opportunity to borrow at 7.5% from CBSL under its Intra-Day Liquidity Facility and invest in government securities at higher interest rates at around 12 -13%. As was mentioned in the leaked report of CBSL and was observed by Auditor General, PTL had won bids quoting higher rates in buying bonds.

It seems PTL has posted a huge capital gain of over Rs. 4 billion in April and May 2016 by trading the bonds purchased from primary auctions. As was reported by Colombo Telegraph, the leaked report now explains that, “These securities were purchased mainly using Central Bank’s liquidity assistance available to market participants (borrowing from Reverse Repo and using ILF). By the memo dates 08.04.2016, Domestic Operations Department has highlighted their observation on the excessive use of re-repo facility by Primary Dealers. As informed by the Domestic Operations Department, from 1st to 8th April from the total borrowed amount of Rs. 89 billion by all PDs, out of which PTL had borrowed Rs. 66 billion (75%).”

Interesting! Isn’t it? PTL has borrowed Rs. 66 billion from CBSL at 7.5% or so, in order to pay for the CBSL for the purchase of government bonds of which interest rate is 12 to 13% or higher.

Dr. W.A Wjewardena who is a former Deputy Governor of CBSL had previously pointed out that this process of borrowing at 7.5% from the Central Bank under its Intra-Day Liquidity Facility and invest in government securities at higher interest rates at around 12 -13% is defined as arbitraging and has been happening. He pointed out that this was unethical and must be prevented. I learnt that CBSL issued a press statement refuting him. However, now the leaked report has confirmed what he had pointed out. When a learned economist who performed as a Deputy Governor of CBSL pointed out certain irregularity of CBSL, how should any Minister who oversees the institution respond? The respective line Minister might have missed the point made to media by Dr. Wijewardena but the Ministry cannot miss the press statement issued by the CBSL refuting Dr. W. Wijewardena’s allegation of arbitraging.

There is no argument that arbitraging is unethical and must be stopped. Also there is no argument that arbitraging cannot continue without at least the passive support of CBSL officials. But what I am interested most is whether this process of arbitraging leads to increase the money supply in the country. If that happens, it means that CBSL actively has involved in increasing money supply so as to facilitate the PTL and other primary dealers to make huge undue profits. This is a gross mismanagement of monetary system. This must be thoroughly investigated.

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Latest comments

  • 4
    0

    simply put CB gave money at 7.5% and same funds given back to CB AT 12.5%.
    NO WONDER RUNNING A FACTORY EMPLOYING 1200 WORKERS DONT MAKE SO MUCH PROFITS.
    THE RIGHT FIL IS THE TRICK.

  • 5
    0

    Borrowing billions at low rate of interest and “lending” the borrowed amount to the same entity – in this case, the Central Bank – at a higher rate of interest – does this happen in central banks of other countries?
    How can this be justified?
    This appears to be what Perpetual Treasuries controlled by son-in-law of the Governor of the same Central Bank has done – and made a profit of Rs. 5.1 Billion !!!
    If such massive borrowing and re-lending had not occurred earlier, this is/was a planned scam of monumental proportions, allowed by the governor and by the shadowy figures who actually conducted the Bonds auction, who would have known that they ‘sold’ bonds in excess of amounts/interest rates advertised, to the dealer who had borrowed massive sums earlier from the bank itself – on what “proven ability to repay”, is not known.

    This “arbitraging” was/is a massive scam but the minister is silent.
    Have the “auctioneers” and the Minister been ‘looked after’?

    This is what citizens wish to know.

  • 5
    0

    to give perpetual 66 billion of taxpayers money as loans in unbelievable.What if they default completely one day and not buy our bonds at all.then instead of 5 billion we will be losing 66 billion won’t we?

    BTW can i get a loan of about hmmmm let us say 100000 rupees from the CB?will write to Mr.coomarasamy explaining my financial difficulties(temporary ones of course),he seems a kindly old man and definitely might help me.actually i want to buy a air fryer because i can reduce my oil consumption w/o deep fryer.

    health is wealth.

  • 4
    0

    i find it funny, the more the jargon used the more it borders on stealing.
    (arbitrage???)
    made for white collar criminals to masqurade as some legitimate business.
    without colatteral can you get a loan for 66 billion????
    nepotism. out-right farud, fil & sil should be in jail with the CEB officials who facilitated this fraud. money and all assets should be confisticated.
    crime is crime.

    • 3
      0

      Jehan,

      Technically, there are collaterals but collaterals themselves could be originated/created when the crime continues. Since, nobody can fight against this crime as not having collaterals. In other words collaterals themselves are part of the crime. On the mere point of collaterals they are clean. Those who want to defend culprits may say that the company had submitted enough collaterals. I wish if CT readers understand the complexity of this crime. The nation cannot let this type of crimes happen however complex they are. Thank you for your concern.
      Hema Senanayake

      • 1
        0

        There is a remedy available within the grasp of Parliament to pass a restrospective law declaring that the transactions carried out by or on behalf of the FIL/SIL duo is illegal and mandating punishment as appropriate.

        No doubt if the proposed legislation is presented to Parliament preferably by the Prime Minister, but any MP will do, it will definitely become law with over a 2/3rd majority.

        It is time anyway, to test the Mister Clean. Come on, guys!

  • 5
    0

    But the fat lady in Bribery is busy canvassing for back wages and pursuing MR’s supporters for use of extra vehicles while Mahendran with his Son in law flies away to Singepore in the New Chopper they bought with Rs.14b in luggage hold.

  • 1
    0

    i agree with the complexity, but do we need this complexity which leads to massive losses to the country, by white collar criminals. its like opening the Gold shop without a guard or manager or staff. just come and take. because nobody is there to watch. only a mindless cctv camara. just a example. but crime is a crime. this is worse as i see colusion of CB staff to facilitate this crime, as well as system in place to legalize theft. Most probavly CB staff were paid handsomly abroad, or there childrens schooling taken care of. Arbitrage as far as i know is making profit on a fraction of pricing difference in currencies in different markets or stock, real time. not where taking money at 7.5% and giving back to cb at 12% and using the short term ac as a od ac. who comes up with this type of nonsense. The system itself is a crime- and all responsible should be in jail.

  • 0
    0

    Arbitrage

    Loading the player…
    What is ‘Arbitrage’
    Arbitrage is the simultaneous purchase and sale of an asset to profit from a difference in the price. It is a trade that profits by exploiting the price differences of identical or similar financial instruments on different markets or in different forms. Arbitrage exists as a result of market inefficiencies.

    BREAKING DOWN ‘Arbitrage’
    Arbitrage provides a mechanism to ensure prices do not deviate substantially from fair value for long periods of time. With advancements in technology, it has become extremely difficult to profit from pricing errors in the market. Many traders have computerized trading systems set to monitor fluctuations in similar financial instruments. Any inefficient pricing setups are usually acted upon quickly, and the opportunity is often eliminated in a matter of seconds. Arbitrage is a necessary force in the financial marketplace. To understand more of this concept, read Trading The Odds With Arbitrage.

    A Simple Arbitrage Example
    As a simple example of arbitrage, consider the following. The stock of Company X is trading at $20 on the New York Stock Exchange (NYSE) while, at the same moment, it is trading for $20.05 on the London Stock Exchange (LSE). A trader can buy the stock on the NYSE and immediately sell the same shares on the LSE, earning a profit of 5 cents per share. The trader could continue to exploit this arbitrage until the specialists on the NYSE run out of inventory of Company X’s stock, or until the specialists on the NYSE or LSE adjust their prices to wipe out the opportunity.

    A Complicated Arbitrage Example
    Though this is not the most complicated arbitrage strategy in use, this example of triangular arbitrage is more difficult than the above example. In triangular arbitrage, a trader converts one currency to another at one bank, converts that second currency to another at a second bank, and finally converts the second currency back to the original at a third bank. The same bank would have the information efficiency to ensure all of its currency rates were aligned, requiring the use of different financial institutions for this strategy.

    For example, assume you begin with $2 million. You see that at three different institutions the following currency exchange rates are immediately available:

    Institution 1: Euros/USD = 0.894

    Institution 2: Euros/British pound = 1.276

    Read more: Arbitrage http://www.investopedia.com/terms/a/arbitrage.asp#ixzz4Mhyy9CbU
    Follow us: Investopedia on Facebook

  • 1
    0

    New York Traders, Giving CBSL run for it’s money!

    Hema: Look into to the currency market too,

    We need to bring people from overseas to track these thieves!

    Even in England, traders were found manipulating LIBOR and Forex rates.

    CBSL stands helpless like a virgin, getting raped by PTL!
    I don’t think our politicians have a clue!

  • 0
    0

    Hold the minister completely responsible.

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