Rising state debt and money supply add pressure to foreign exchange market

The shortage of US dollars in the Maldives is often attributed to seasonal fluctuations in tourism or concerns over the repatriation of tourism earnings. However, recent data released by the Maldives Monetary Authority (MMA) indicate that fiscal and monetary factors are playing a significant role in the pressure on the foreign exchange market.

According to the latest central bank figures, growth in government borrowing and the expansion of money supply have coincided with increasing demand for foreign currency and declining reserve levels.

MMA data show that commercial banks have extended more credit to the government than to the private sector.

Credit provided by commercial banks to the government has reached MVR 54 billion, while total credit extended to private businesses and individuals stands at MVR 41.1 billion.

Economists commonly refer to this phenomenon as "crowding out", where increased government borrowing absorbs available financing that could otherwise be directed towards private sector investment and economic activity.

The central bank's direct lending to the government has also increased. Credit extended by the MMA to the government currently stands at MVR 13.1 billion, representing an increase of MVR 421 million, or 3 per cent, since the current administration took office.

In addition, the MMA has provided MVR 3.7 billion to commercial banks, largely through liquidity support and guarantees linked to government treasury bill financing.

The MMA's latest monetary statistics show that broad money (M2), a key measure of money circulating within the economy, increased by 22 per cent compared with the same period last year. This represents a rise from the 21 per cent annual growth recorded in May.

According to the central bank, several factors contributed to the increase, including:

The figures indicate that the volume of rufiyaa within the economy continues to rise at a faster pace than in previous years.

The interaction between money supply growth and foreign currency availability has implications for the exchange market.

As the volume of rufiyaa in circulation increases, demand for foreign currency also rises as businesses and individuals seek dollars to pay for imports, debt obligations and other overseas transactions.

At the same time, official foreign exchange reserves have declined, reducing the amount of foreign currency available through the banking system.

This imbalance between demand and supply has contributed to higher dollar prices in the parallel market and increasing pressure on the rufiyaa.

While fluctuations in tourism receipts can affect the flow of foreign currency into the economy, the MMA figures suggest that domestic monetary and fiscal conditions are also contributing to foreign exchange shortages.

The data point to a broader challenge involving government expenditure, borrowing and liquidity within the banking system.

Analysts note that addressing pressure on the exchange rate may require measures beyond improvements in tourism arrivals or seasonal increases in foreign currency earnings.

Such measures could include fiscal consolidation, reduced reliance on bank financing for government expenditure and policies aimed at moderating growth in money supply while strengthening foreign reserve levels.

The latest MMA figures indicate that the foreign exchange pressures facing the Maldives are linked not only to the availability of dollars but also to the growth of rufiyaa liquidity within the economy and the government's increasing reliance on domestic borrowing.