Higher inflows of tsunami related aid and private remittances from countrymen residing overseas helped swell Sri Lanka's BOP to record a US$501 million surplus in 2005.
Gross official reserves of the Central Bank have risen to US$2.7 billion (3.6 months of imports) by end February 2006, while the country's total reserves have topped US$4.2 billion (5.6 months of imports) as at end January 2006, the bank said.
The island's trade deficit – the broadest measure of international trade – may widen this year, weighed down by hefty import bill, but higher inward remittances (up 26 percent to US$ 213 million in January 2006), will help contain the current account deficit.
Meanwhile, the bank left policy rates at current levels, as it expects the 25 basis point hike last December to put the brakes on money supply growth.
"The Monetary Board has decided to maintain the policy interest rates of the Central Bank at their current levels and to continue with the conduct of open market operations to decelerate the monetary expansion to the desired path," the statement said.
The repurchase rate is the return on cash deposited by commercial banks with the Central Bank and the reverse repurchase rate is the cost of borrowing from the Central Bank.
However, persistent excess liquidity in the system has increased the importance of the repurchase rate.
Investors were not surprised by the bank's decision as authorities continue to maintain that inflation will 'moderate' this year.
"With inflation still on a downward trend, there is little immediate pressure to increase rates, and the Central Bank will be keen to maintain the growth momentum provided by low interest rates," says Economist Channa Amaratunga of Boston Asset Management, a boutique firm that offers fund management services.
While a rate hike could curb economic growth, a rate cut could fuel inflation, in a country which has weak fiscal policies and loss-making state corporations driving credit growth.
Inflation in this tropical island of 19.5 million people, has been fuelled by expansionary fiscal policy and loose monetary policy since 2004.
However, the country's inflation rate slipped to 10.3 percent in February from 11.1 per cent in January, based on the 12-month moving average.
"Given the declining inflationary scenario, inflation should further drop in March due to seasonal factors and supply improvements that would help the food index to take a breather," says Hasitha Premaratne, Head of Research at HNB Stockbrokers.
"In 2006, inflation is expected to remain within the projected levels while the country would continue with its growth momentum," the statement said.
The bank expects inflation to average under eight percent this year from a high of 10 percent in 2005.
However, the island's money supply growth remains high, fueled by credit expansion and improving foreign reserves.
Broad money, which peaked at 21.5 percent in October 2005 as a result of the higher credit expansion to the private and public sectors, has declined to 20.0 percent by January.
"We expect it [broad money] to decelerate further with the continuation of the current monetary policy stance. This would help mitigate inflationary pressures further," the statement said.
The next monetary policy announcement is scheduled for April 12.
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