Credit Problem

Apr 24, 2011 (LBO) – Sri Lanka’s banks loaned 40.6 billion rupees to business in February pushing loan growth to 29.7 percent from a year earlier, while the credit to the state including printed money spiked by 41 billion rupees, amid rising inflation. Printed money is immediately disbursed to the economy by the state, usually through state salaries, firing demand and prices. Sri Lanka has a flawed monetary law where the finance ministry can force the central bank to print money despite high inflation.

The printing of money came despite excess liquidity in the banking system which is causing concern and inflation rose to 8.6 percent in March, partly due to transient supply shocks. The Central Bank has said vegetable prices in particular may come down.

The Central Bank raised the statutory reserve ratio by 100 basis points last week, draining about 15 billion rupees from the banking system which is less than the amount printed in the past two months.

Sri Lanka’s rupee is pegged to the US dollar and the country is exposed to US levels of inflation through the peg. Additional money printing, and even discount window activity can create higher levels of inflation that the US.

Sri Lanka’s inflation is higher than most other soft dollar pe