{"id":46780,"date":"2016-05-20T00:19:11","date_gmt":"2016-05-20T04:19:11","guid":{"rendered":"http:\/\/dbsjeyaraj.com\/dbsj\/?p=46780"},"modified":"2016-05-20T00:19:11","modified_gmt":"2016-05-20T04:19:11","slug":"central-bank-governor-arjuna-mahendran-counters-allegations-against-him-in-interview","status":"publish","type":"post","link":"https:\/\/dbsjeyaraj.com\/dbsj\/?p=46780","title":{"rendered":"Central Bank Governor Arjuna Mahendran Counters Allegations Against Him In Interview"},"content":{"rendered":"

By C. A. Chandraprema<\/strong><\/p>\n

Central Bank Governor Arjuna Mahendran<\/strong>\u2019s term of office ends in June<\/strong> this year. There have been calls from opposition politicians as well as good governance activists for the government to investigate alleged malpractices<\/strong> in the issuance of treasury bonds<\/strong> during his tenure before reappointing<\/strong> him for another term. One of the bond issues was investigated by the parliamentary Committee on Public Enterprises (COPE) <\/strong>but parliament was dissolved just before the day on which the report of the COPE sub-committee headed by D. E. W. Gunasekera<\/strong> was to be tabled inP. In this exclusive<\/strong> interview with The Island,<\/strong> Governor Mahendran<\/strong> contests the allegations against him.<\/em><\/p>\n

Q. If you look at the front page of The Island today (Wednesday), Mr D. E. W. Gunasekera has called for an investigation into what he refers to as the \u2018bond scams\u2019 before your term is extended in June this year. He calls this the biggest scam in Sri Lankan history. Aren\u2019t all these problems due to the fact that you started going in for bond auctions instead of direct placements as was the earlier practice?<\/strong><\/p>\n

<\/p>\n

A.<\/strong> All I can say is that the Supreme Court has vindicated me in the fundamental rights petition that was filed by Mr Chandra Jayaratne and two others on the same issue. Mr D. E. W. Gunasekera has a very outdated impression of how the economy works. In the modern economy the government can\u2019t manipulate market prices.<\/p>\n

One of the issues that I took up after I became Governor was that the determination of interest rates had not been left to market forces. It was being done administratively by the people in the Central bank. The rate of interest should be determined at an auction. That is the way it is done everywhere in the world. The members of the previous regime say that the interest rates under that previous system were lower than at the auctions. But that is beside the point.<\/p>\n

My critics are accusing me of arbitrarily raising interest rates whereas the whole purpose of having auctions is to determine at what price the market will provide those funds to the government. The government had to borrow vast amounts of money to pay the salary increases that were announced, both by Mahinda Rajapaksa and subsequently by President Maithripala Sirisena\u2019s government. In the past they were using the EPF, the Insurance Corporation and the state banks to fund the government\u2019s borrowing and artificially set interest rates at whatever level they wanted to. The problem with that system is that firstly, the EPF contributors were being short-changed. They can get a much better rate of interest for their investments if there is an auction. Secondly, the banks who should be lending this money to private borrowers were instead lending that money to the government. In Mr Gunasekera\u2019s scheme of things the government as in a communist state would manage the flow of lending throughout the economy. That system has now been discredited and is only practiced in North Korea. Even Cuba has given up that system.<\/p>\n

Q. You have told COPE that you introduced auctions to attract more money to the government and that you wanted to avoid going for a Sovereign bond issue and to generate more money locally so as to reduce our dependence on foreign borrowing. But when the interest rate goes up that creates a whole raft of problems. It increases the government\u2019s debt burden and dampens private borrowing leading to a slowing of the economy.<\/strong><\/p>\n

A.<\/strong> Private borrowing has not gone down so far. At the moment private borrowing is growing at 25%. Increases in interest rates have done nothing to reduce private borrowing. On the contrary we are worried that private borrowing is too high and that is why we are tightening up.<\/p>\n


\nQ. What about the fact that the rising interest rate increases the debt burden on the government?<\/strong><\/p>\n

A.<\/strong> The point is that if the government is to pay higher salaries it has to get the money from somewhere. I increased the size of the auctions. Earlier auctions were for one billion and amounts like that. I made it 10 billion and we immediately got the money. There is enough money in Sri Lanka. All I did was to get it from the public, instead of robbing the EPF, the state banks and the Insurance Corporation.<\/p>\n

Q. You have referred to an \u2018explosion\u2019 in government spending which made it necessary to attract more money into the system. You have, in particular, mentioned the mini-budget in January last year at the COPE inquiry.
\n<\/strong><\/p>\n

A.<\/strong> President Mahinda Rajapaksa also announced an increase in public sector wages in the 2015 budget.<\/p>\n

Q. But not to the same magnitude.<\/strong><\/p>\n

A.<\/strong> You can argue the point. But, Since the announcement of the presidential election in 2014, there was a ramping up of government spending and there was a cut in the price of petroleum products. The previous CB Governor had left a 500 million USD bond to be repaid in February 2015. We didn\u2019t have enough money to pay that and I had to reach out to the Reserve Bank of India and borrow some money. We were in a parlous situation where the bills were accumulating. The immediate reason why we went for that big auction at the end of February 2015 is that the RDA had informed the cabinet sub-committee that they needed Rs. 75 billion. That is why I went to the Public Debt department on the day of the auction and asked how much we could raise because the government needed more money. They said there was 10 billion available even though we had advertised only for Rs. one billion. So I said take the whole 10 billion. The interest rate we advertised was 12.5%. We didn\u2019t pay anything more than we had advertised.<\/p>\n


\nQ. This contested bond issue was for 30-year bonds. Bonds with such maturity period are taken only by long term investors like the EPF, ETF and the Insurance Corporation ……<\/strong><\/p>\n

A.<\/strong> That is complete nonsense. No primary dealer to date has contested any of these bond auctions.<\/p>\n

Q. I was not referring to primary dealers …….<\/strong><\/p>\n

A.<\/strong> I know. But, people who say that only the EPF, ETF and the Insurance Corporation invest in 30 year bonds are talking through their hat. Last week we had a bond for 15 or 20 years which was bought by foreigners and local pension funds.<\/p>\n

Q. In other words, organisations that need long term investments. Why was a direct placement system not feasible among institutions that need such long term investments?<\/strong><\/p>\n


\nA.<\/strong> Because we don\u2019t want to deprive the private pension funds of access to these bonds. The EPF has to compete with private pension funds and other fund managers in the market for this money.<\/p>\n

Q. Couldn\u2019t these bonds have been placed with the private pension funds as well the same way they were placed with the EPF and ETF?<\/strong><\/p>\n

A.<\/strong> Then there is no point in having a market. We can\u2019t go back to a Soviet Union style planned economy. Even the interest rate has to be market determined. Otherwise, we will have a shortage of money in the country.<\/p>\n

Q. What you said before COPE was that in that instance, you needed Rs. 13 billion. You managed to raise 3 billion and needed 10 billion more. Then you advertised to sell treasury bonds for Rs. one billion at 12.5% but after the bids came in you accepted 10 billion. Half of it went to Perpetual Treasuries in which your son-in-law has an interest. The three directors of the holding company that owns Perpetual Treasuries was your son-in-law, his father and the sister of previous Governor of the Central Bank. It was in other words a family owned company. Of the Rs. 20 billion in bids received, 75% or Rs. 15 billion was by just your son in law\u2019s company bidding on its own and through the Bank of Ceylon. How would that look like to an outsider?<\/strong><\/p>\n

A.<\/strong> In the Supreme Court we argued that in this auction process which is conducted electronically, nobody can decide who is going to get a preference. They all bid on the interest rate that they are prepared to pay the government. All those who had bid at the rate of 12.5% that we had asked for, got it. Those who had asked for a higher interest rate did not. So this company in which my son-in-law has an interest and by the way he had resigned from the board of directors ……..<\/p>\n

Q. But he was still in the holding company……..<\/strong><\/p>\n

A<\/strong>. In the holding company but the point is he had no day to day dealings with that company. It was being done by a professional set of managers. He had recused himself the moment I became governor just to see that there was good governance. There was no way that anybody could have anticipated that his company was going to get 50% of the bond issue because it\u2019s all automated and done electronically. That was the gist of my argument in the Supreme Court. It was just fortuitous that he managed to get that 50% by borrowing from the Bank of Ceylon and all that. That is what the primary dealers do every day.<\/p>\n

Q. Mr J. D. K. Dharmapala, who was the chief dealer in the Bank of Ceylon, said that he had taken the risk of putting in this bid on behalf of Perpetual Treasuries for Rs. 13 billion (bids of 3,5 & 5 billion) because he never expected it to be accepted. Firstly, only bonds worth Rs. one billion had been advertised and even though the advertised amount may be exceeded two or threefold, it has never before gone as high as 10 times the advertised amount. Furthermore, he said that the bids were for an interest rate of 12.50% when the going rate was 9.50%. So, he never expected any of these bids he put on behalf of Perpetual Treasuries to be accepted.<\/strong><\/p>\n

A.<\/strong> That again I completely contest. That was the first auction we had. Earlier private placements were yielding this 9.5%. So, his assertion that the earlier rate was 9.5% was complete nonsense because we announced that this was going to be an auction. This is precisely the mentality that we were trying to change. He was assuming that these private placement rates would continue in the auction. In an auction you don\u2019t agree on interest rates. Earlier they were using artificial means to suppress interest rates.<\/p>\n

Q. You have also said that you had to go for that particular bond issue because the government had tried to increase the treasury bill limit from 850 billion to 1,250 billion but that the legislation did not go through parliament. Then you were compelled to resort to issuing treasury bonds. Were you a victim of governmental incompetence?<\/strong><\/p>\n

A.<\/strong> Look, the reason why the bill was defeated in parliament was because the government did not have a majority.<\/p>\n

Q. There was also this argument that you could have borrowed at a lower interest rate. It was pointed out that two year bonds for example carried an interest rate below 7% and instead of going in for a 30 year bond, there could have been a combination of maturity periods which would have enabled the government to borrow at a lower cost.
\n<\/strong><\/p>\n

A.<\/strong> The following week after this bond issue we raised Rs. 100 billion in two or three auctions and there we had bonds maturing in 2, 5 and 7 years. We have been issuing bonds with varying maturity periods. It just so happened that on that particular day it was a 30-year bond. Pension funds need long term bonds. There are other investors who want short term bonds. So, we have to cater to diverse needs and we need to push maturities into the future so that we don\u2019t have the bunching up of repayments. In 2019 we are going to have a massive bunching up of repayments because several bonds are coming due in that year. The investors in the market already know that. So as we get into 2018, I am sure interest rates will go up not because of any economic reasons but due to the bunching up of maturities in 2019. There is something called liability management where we try and smooth out the stream of repayments of these bonds. That is the reason why we issued a 30-year bond.<\/p>\n


\nQ. One of the reasons why this particular bond issue became so controversial is because it was the first time that one primary dealer had bid on behalf of another primary dealer……….<\/strong><\/p>\n

A.<\/strong> No that\u2019s complete nonsense. There were several instances before that when primary dealers had bid on behalf of each other.<\/p>\n


\nQ. Then the fact that over ten times the advertised amount was accepted was unusual.<\/strong><\/p>\n

A. <\/strong>There had been instances in the past where the advertised amount was increased by over ten times. In March and November 2014 I pointed out two instances where bids over 10 times the advertised amount was accepted.<\/p>\n

Q. As the Governor of the Central bank which oversees the operations of commercial banks, how would you regard the fact that the Bank of Ceylon put in a bid for 13 billion on behalf of Perpetual Treasuries and it was reported to COPE that the BoC made a measly profit of just Rs. 234,000 on that transaction of Rs. 13 billion.<\/strong><\/p>\n

A.<\/strong> Work out the interest rate on Rs. 13 billion for six or nine hours. The moment they bought the bonds it would have been transferred to the books of the primary dealer and they would have given that money to the BoC. That short period where they held it on behalf of Perpetual Treasuries would have been the period for which interest was charged.<\/p>\n

Q. Perpetual Treasuries placed bids for Rs. 2 billion and the remaining Rs. 13 billion in bids was placed on their behalf by the BoC. Isn\u2019t this a case of Perpetual Treasuries making money off the BoC?
\n<\/strong><\/p>\n

A.<\/strong> That\u2019s the standard practice. The BoC has a treasury which lends money for short periods of time at high rates of interest. That is one activity of a bank. They lend surplus funds in the open market at high rates of interest instead of keeping that money tied up in an investment earning only 6%. If that money had not been lent to Perpetual Treasuries, it would have been lent to some other organisation. That happens every day in the money market. To accuse PTL of malfeasance in that regard is complete nonsense.<\/p>\n

Q. There is also this issue of institutions like the EPF, ETF, the Insurance Corporation and the government banks having to buy these bonds on the secondary market from private primary dealers. There is the allegation that the interest rates on long term bonds are being pumped and dumped on these institutional investors.<\/strong><\/p>\n

A.<\/strong> Any allegation of pumping and dumping has to be proved. There is no evidence of collusion in the market. As I said the bidding system is purely electronic. There is no way people can collude and fix this. There are about 15 primary dealers who are bidding every day including the EPF.<\/p>\n

The EPF has to see to it that they get what is required. If they can\u2019t do that then they have to go to the secondary market and buy these bonds. No other country allows institutions like the EPF to bid in the primary market. Normally, primary auctions are only open to primary dealers. But, as an exception we have allowed the EPF to be there. The EPF gets money on a daily basis from their contributors. If they keep this money in a fixed deposit they will get only 6% whereas if they buy a bond in the secondary market they will get around 8, 9 or 10%. They buy bonds in the secondary market because they can\u2019t wait for the next auction which may be two weeks away.<\/p>\n


\nQ. These auctions were started for the sake of transparency. But now there are accusations of opaqueness in the auction system. Mr Chandra Jayaratne has written to the Monetary Board asking for the names of the primary dealers who bid at the auctions held this year, and the amount of bonds that had been sold by private primary dealers through the secondary market to institutions like the EPF, ETF, the Insurance Corporation and the state banks.<\/strong><\/p>\n

A. <\/strong>Nowhere in the world are the details of the primary auctions released to the public. That will lead to a lack of confidence in the market. These primary dealers have their own clients who want confidentiality. If I were a billionaire like George Soros, I wouldn\u2019t want the whole world to know where I am investing my money. That is why we keep these details confidential. I am surprised that Mr Chandra Jayaratne with all his experience does not understand this. This is why I feel that there is a political ulterior motive in all these comments. I challenge Mr. Jayaratne or anybody else to show me a market that practices global standards of corporate governance where the details of dealers or brokers\u2019 customers are revealed to the public. That simply does not happen. It is the curse of Sri Lanka that intellectuals are trying to get us to do things which are totally unfamiliar to any organised market in the world. You will immediately drive away the significant investors in our market by even suggesting this. So they are doing a national disservice by even making such suggestions.<\/p>\n


\nQ. When the UNP was in the opposition it alleged that the figures issued by the Central Bank were cooked and that all these good indices publicised by the Rajapaksa government were too good to be true. But in the Central Bank report that you put out you have followed the same trajectory.<\/strong><\/p>\n

A. We have dramatically changed the GDP figures. What we have shown now is that the economy was growing at half the rate at what was portrayed. Up to 2014, they were saying that the economy was growing at 7 to 7.5% and nobody believed that. I was living overseas at that time and I was amazed that we could grow like that because we had a drought in 2012 and 2013.<\/p>\n

Secondly, in 2012 the Central Bank savagely cut the growth of bank credit under the IMF programme. Then they devalued the rupee which also affected consumers\u2019 incomes. Finally, there was the collapse in the price of gold. So with all that going on, for the economy to grow at 7.5% was unbelievable. When I came to the Central Bank we looked at the numbers and we issued the annual report in any case because that was all we had. It took us about six months to dig deeper and when the GDP series was rebased we issued the new numbers which indicated that in 2013 the economy grew at 3% and in 2014 it was 4.3% and in 2015 it has risen to 4.8%. But we shouldn\u2019t make this a political game. We accepted the fact that there was a misstatement of the GDP figures. But then again we don\u2019t want to show the rest of the world that we have been doctoring our figures. If we do that confidence in our markets will disappear. We have to be responsible and portray to the rest of the world that there may have been some bona fide mistakes in calculating these numbers and because of the rebasing the numbers changed. But we can\u2019t thrash the former government or indulge in political muckraking to the detriment of the national interest. We must show that there are a professional set of people who run the government irrespective of which political party is in power.<\/p>\n

Q. Sri Lanka was in an IMF programme from 2009 to 2012. Is it the case that the former government has been deceiving even the IMF with these bogus figures?<\/strong><\/p>\n

A.<\/strong> All I can say is that we found that there were several borrowings and contingent liabilities by the government in the form of guarantees given by the treasury to several institutions like Sri Lankan Airlines etcetera which even the IMF was not aware of. So much so that the IMF sent in a special forensic investigation team in February this year to investigate these findings and now we have got a better picture of all those hidden borrowings which suggest that the fiscal deficit which was reported at about 5.7% in 2014 was actually much higher than that. The government had borrowed a lot of money particularly from the NSB for road development projects. Window dressing practices were used to try and reduce the fiscal deficit number.<\/p>\n


\nQ. So the former government did mislead the IMF?<\/strong><\/p>\n

A.<\/strong> Well, it appears to be the case. There appears to have been some element of window dressing. Remember that these are not illegal practices. Within accounting standards and practices there are ways of trying to massage the numbers to make them look better than they really are. We have decided to come clean now. Last year the fiscal deficit shot up to 7.4% because we paid off a lot of these arrears. We flushed all these problems out of the system, hopefully to start 2016 on a new footing where we have absolute transparency in our numbers.<\/p>\n

Courtesy:The Island<\/em><\/p>\n

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By C. A. Chandraprema Central Bank Governor Arjuna Mahendran\u2019s term of office ends in June this year. There have been calls from opposition politicians as well as good governance activists for the government to investigate alleged malpractices in the issuance of treasury bonds during his tenure before reappointing him for another term. One of the …<\/p>\n

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