Sri Lanka rupee depreciation accelerated in November after the central bank purchased 90 million US dollars to build reserves, a move that expanded domestic liquidity and contributed to renewed pressure on the currency in the spot foreign exchange market.
Sri Lanka rupee depreciation follows $90mn reserve purchases in November
Sri Lanka’s currency weakened further in November as the central bank continued to accumulate foreign exchange reserves through large-scale dollar purchases, raising fresh concerns about monetary expansion and exchange rate management under the current policy framework.
Official data show that the Central Bank of Sri Lanka bought 90 million US dollars during November 2025, while returning only 16.5 million dollars to importers who had initially supplied foreign currency to the system. On a net basis, the authority absorbed 74.3 million dollars in November, following a net purchase of 45.5 million dollars in October. These interventions coincided with a steady depreciation of the rupee in the domestic foreign exchange market.
In October, the rupee weakened from around 302 to 304 per US dollar. The downward trend continued in November, with the currency sliding from approximately 304.40 to close to 307.80 per dollar in spot trading, as the central bank absorbed dollars from the market to build reserves.
Unlike private market participants, a central bank creates new domestic money when it purchases foreign currency. This mechanism, first articulated by Sri Lanka’s inaugural central bank governor John Exter, is known as the monetisation of the balance of payments. By injecting newly created rupees into the system in exchange for dollars, the authority expands liquidity unless offsetting measures are taken.
Economic analysts argue that this process makes reserve accumulation by a central bank fundamentally different from saving by households or fiscal authorities. EN’s economic columnist Bellwether has noted that while individuals and treasuries can build reserves by cutting spending, a central bank inevitably creates new money when it acquires foreign exchange, altering domestic monetary conditions.
Unless the newly created rupees are absorbed or extinguished, the recipients of that liquidity—such as exporters, remittance beneficiaries, or bank customers accessing credit—are likely to spend it. A portion of that spending typically leaks into imports, generating renewed demand for foreign currency. If the central bank does not recycle dollars back into the market, the rupee eventually comes under pressure as the excess liquidity “boomerangs” back into the foreign exchange system.
To prevent this outcome, central banks must sterilise liquidity by selling securities held on their balance sheets, such as Treasury bills or bonds. This process absorbs rupees and prevents excess money from fuelling import demand and currency depreciation.
Data for 2025 highlight the scale of the challenge. During the year, the central bank purchased approximately 1.625 billion US dollars but returned only 89.3 million dollars to the public. While some foreign exchange was transferred to the government, partly to reduce excess liquidity, analysts note that this mechanism does not fully neutralise the inflationary and exchange rate impact of sustained reserve accumulation.
In contrast, during 2023 and 2024, the central bank retained large volumes of foreign exchange by selling down its Treasury bill holdings, effectively sterilising liquidity and supporting a balance of payments surplus. This deflationary policy stance helped stabilise the currency despite significant reserve accumulation.
However, under the revised International Monetary Fund programme in 2025, the central bank was no longer required to sell down its bond stock. As a result, its ability to conduct deflationary operations was constrained, with liquidity absorption largely limited to interest coupon payments made by the Treasury on outstanding bonds.
Against this backdrop, analysts have challenged claims that the rupee is fully “market determined.” They argue that active exchange rate policy is evident whenever the central bank intervenes to purchase dollars for reserve accumulation or transfers foreign exchange to the government. Such actions directly influence supply and demand dynamics in the foreign exchange market.
Exchange rate outcomes, economists note, depend fundamentally on the monetary regime in place. In a clean floating system anchored by a domestic inflation target, monetary policy alone determines the exchange rate. In a hard peg, exchange rate policy dominates. In contrast, a flexible or discretionary regime, where both monetary and exchange rate policies are applied inconsistently, often produces volatile and unpredictable currency movements.
Warnings about these risks had been issued earlier in the year. Analysts cautioned that reserve accumulation would be difficult to sustain unless the central bank was willing to sell down its bond stock or otherwise sterilise liquidity. Additional pressure emerged in May, when the central bank cut interest rates despite concerns that domestic credit growth was already accelerating.
The rate cut was widely viewed as being out of line with prevailing credit conditions, contributing to increased borrowing and a rise in investment-related imports. This further amplified demand for foreign exchange, compounding the pressures created by reserve purchases.
In December, Sri Lanka submitted a request for an additional IMF loan, dampening expectations that the current programme would be the country’s final engagement with the Fund. The move underscored ongoing vulnerabilities in the balance of payments and the complex trade-offs facing policymakers as they attempt to balance growth, stability, and reserve adequacy.
As Sri Lanka rupee depreciation continues to reflect these underlying dynamics, economists stress that consistent monetary discipline will be essential to stabilise the currency and avoid renewed external imbalances.