The Sri Lanka rupee opened the week sharply weaker compared to the previous Friday, reflecting renewed pressure in currency markets. Analysts say recent movements highlight the growing tension between policy choices, liquidity trends and bond market signals.
Sri Lanka rupee weakens from last week as shifting policy signals unsettle currency markets
The Sri Lanka rupee opened trading on Friday at 307.90 to 308.00 against the US dollar in the spot market, slipping notably from last week’s levels despite a marginal improvement from the previous day’s close. Dealers described the currency’s trajectory as increasingly strained, with the week-on-week depreciation from 305.50 to 306.00 highlighting persistent vulnerabilities in the broader macroeconomic environment. Although the currency showed a fractional recovery on a day-to-day basis, the wider trend remains one of gradual weakening.
The rupee’s slide comes against a backdrop of unusual economic conditions. Despite record current account surpluses and a sharply reduced budget deficit over the past year, the domestic currency has continued to lose ground. In December 2024, the rupee traded at 292.58, meaning the currency has dropped significantly throughout 2025 even as indicators traditionally associated with stability have improved. Macro-economists who previously pointed to budget deficits and external shortfalls as the primary triggers of currency depreciation now face a more complex landscape where several long-standing theories are being tested.
Historically, policymakers and economists have blamed import categories such as oil, vehicles and gold as key drivers of downward pressure on the currency. Exiting foreign investors from the rupee bond market, combined with interest-rate cuts and credit expansion fueled by liquidity injections, were also cited as destabilizing factors. But analysts now argue that the current depreciation cannot be fully explained by those earlier patterns. Instead, the rupee’s weakening is being linked more directly to the operational features of the flexible exchange rate framework implemented in recent years.
Commentators caution that the so-called flexible exchange rate, a system often associated with countries emerging from default, allows excessive discretion to monetary authorities. As private credit recovers from prior crises triggered by rate adjustments, the currency becomes more prone to volatility. Analysts had repeatedly warned that depreciation was likely under this model, particularly if monetary authorities continued to intervene selectively in ways that distort natural market adjustments. These concerns are now gaining renewed attention as the Sri Lanka rupee continues to fluctuate.
Throughout 2025, the central bank has engaged in dollar purchases on the strong side of the exchange rate, signaling that it has not lost control of the peg. In several months, the policy mix even appeared mildly deflationary. However, the broader depreciation trend may be tied to what analysts describe as selective or restricted weak-side convertibility. According to this view, dollars were returned only to the government in exchange for unsterilized rupees, rather than to private market participants who generate import demand. This imbalance, they argue, has created distortions that contributed to the rupee’s decline despite stabilizing efforts on other fronts.
Central bank operations such as interest coupon payments on bonds it holds, portfolio sales, and dollar purchases at lower rates later resold at higher levels also contribute to deflationary outcomes. Yet such actions coexist with liquidity injections through buy-sell dollar swaps, blurring the policy landscape. The result is a currency that remains under pressure even as monetary tightening occurs episodically. Analysts point out that when the central bank refrains from returning dollars to the private sector once credit begins expanding, import demand rises without a parallel increase in foreign exchange liquidity, leading to depreciation.
Bond market performance offered little relief to sentiment. Yields on government securities across multiple maturities were broadly steady. The 15.03.2028 bond held at 9.00 to 9.05 percent, while the 15.12.2029 maturity edged slightly upward to 9.48 to 9.50 percent. The 01.07.2030 bond traded at 9.55 to 9.60 percent with minor movement, and the 15.12.2032 allocation stood at 10.24 to 10.28 percent. These stable but elevated yields reflect the measured caution of investors awaiting clearer indicators of policy direction and currency stabilization.
Equity markets mirrored the cautious sentiment. The Colombo Stock Exchange opened in negative territory, with the ASPI slipping 0.15 percent to 23,069 and the S&P SL20 dipping 0.04 percent. Though modest, these declines reflect the broader sense of hesitation surrounding the country’s financial trajectory as the Sri Lanka rupee weakens and monetary policy signals remain mixed.
Telegraphic transfer rates further illustrated the shifting currency environment. The US dollar ranged between 304.50 on the buying side and 311.50 on the selling side, while the British pound stood between 397.27 and 408.63. The euro traded between 348.93 and 360.29. These variations add another layer of complexity to corporate planning, import decision-making and consumer purchasing power.
Several analysts note that the rupee’s steady decline throughout 2025 cannot be attributed to traditional explanations alone. Despite a contracting budget deficit—something previously believed to strengthen currency positions—depreciation has persisted. This development has revived long-standing debates about whether discretionary monetary systems such as flexible exchange regimes inadvertently introduce inflationary biases and weaken currencies even when macroeconomic fundamentals appear strong.
Under the IMF’s Second Amendment, central banks worldwide were historically discouraged from engaging in discretionary depreciation. Sri Lanka’s deviation from that model, combined with flexible inflation targeting, may be contributing to the currency’s ongoing vulnerability. Although the central bank has met its 5 percent inflation target using largely deflationary measures, analysts warn that depreciation can still raise the cost of essential imports, pressure domestic businesses, and strain household budgets, especially through higher energy and food prices.
The unfolding situation leaves policymakers facing a delicate balancing act. While the Sri Lanka rupee continues to navigate the turbulence of changing monetary conditions, the public and investors alike will be watching closely for signs of policy consolidation, improved liquidity management and renewed confidence in the exchange rate framework.