Sri Lanka can loosen monetary policy amid fiscal tightening: economist

Jan 14, 2010 (LBO) – Sri Lanka could loosen monetary policy if it is balanced by tightening fiscal policy to manage inflation, a senior World Bank economist said South Asian nations struggled with large deficits and high inflation from past loose policy.

Sri Lanka has a pegged exchange rate where the country’s inflation is externally anchored to that of the US dollar with relatively little room for active monetary policy.

Global commodity prices, including however have been rising amid loose US monetary policy. Burns said recent Treasury bill purchases by the European Central Bank to help countries like Portugal may also impact developing countries negatively.

In the past the central bank has printed money to finance deficits (quantity easing) driving up inflation to levels much higher than that of the US requiring excessively high interest rates to bring stability back.

The printing also created ‘foreign exchange shortages’ and constrained external borrowing contributing sustained high interest rates.

Countries in Asia that do not have an active policy rate including Hong Kong and Singapore have historically managed with much lower inflation and interest rates than Sri Lanka.

Countries like India which deficit spent for ‘st