Sri Lanka holds policy rates unchanged as inflation eases

central bank of sri lanka

Aug 03, 2017 (LBO) – Sri Lanka’s central bank held key policy rates unchanged on Thursday with inflation falling to 4.8 percent in July and likely to fall further later in the year.

“Inflation is expected to ease further towards the end of 2017 and stabilise thereafter due to the tight monetary policy stance maintained since the end of 2015 and the dissipation of the ‘one-off’ impact of the tax structure on inflation,” the central bank said in a statement.

The Standing Deposit Facility Rate (SDFR) was held at 7.25 percent, and the Standing Lending Facility Rate (SLFR) of the Central Bank at 8.75 per cent. The Statutory Reserve Ratio (SRR) was maintained at 7.50 percent.

“The Sri Lankan economy is expected to record a modest recovery in the forthcoming quarters following the low growth witnessed in the first quarter of 2017,” the statement added.

“The recovery of the agriculture related activities and the positive performance of the industry and services related activities together with the reinstatement of GSP+ facility are expected to contribute to economic growth.”

The World Bank expects Sri Lanka’s growth to improve to 4.7 percent this year, from 4.4 percent in 2016, and accelerate further to five percent in 2018.

External front, which has been under pressure in recent months, has benefited from an international sovereign bond and an IMF support facility. As a result, gross official foreign reserves improved to US dollars 6.7 billion as at end July 2017, the central bank said.

Central Bank policy statement:

The Monetary Board, at its meeting held on 02 August 2017, was of the view that the
current monetary policy stance is appropriate and decided to maintain the policy interest rates of the
Central Bank of Sri Lanka at their present levels.

In arriving at the above decision, the Monetary Board took into consideration current and
expected developments in the domestic and international macroeconomic environment and the need
to maintain inflation at mid-single digit levels over the medium term.

The outlook for global growth appears to be firming according to the latest update of the
World Economic Outlook of the International Monetary Fund (IMF) in July 2017. The Sri Lankan
economy is expected to record a modest recovery in the forthcoming quarters following the low
growth witnessed in the first quarter of 2017. The recovery of the agriculture related activities and
the positive performance of the industry and services related activities together with the
reinstatement of GSP+ facility are expected to contribute to economic growth.

The Colombo Consumer Price Index (CCPI, 2013=100) and the National Consumer Price
Index (NCPI, 2013=100) based headline inflation (year-on-year) moderated at a faster pace in the
recent months, in spite of supply side disruptions encountered in May 2017, mainly on account of
the floods. A similar trend was observed in core inflation as well during this period. Inflation is
expected to ease further towards the end of 2017 and stabilise thereafter due to the tight monetary
policy stance maintained since the end of 2015 and the dissipation of the ‘one-off’ impact of the tax
structure on inflation.

However, monetary expansion continued to remain high in May as well as in June 2017.
While monetary growth was mainly driven by the expansion in domestic credit, net foreign assets
(NFA) of the banking system also positively contributed to this expansion. Meanwhile, private
sector credit that was growing at an elevated level during 2016 and early 2017, indicates clear signs
of deceleration in recent months, although at a slow pace. In view of high nominal and real interest
rates prevailing in the market, it is expected that growth of monetary and credit aggregates would
moderate further during the remainder of the year. The recent decline in the yields on government
securities is expected to gradually transmit to other market interest rates in the forthcoming period.

In the external sector, export performance continued to improve in May 2017 led by
agricultural exports. However, the continued increase in expenditure on imports has caused a
further widening of the cumulative trade deficit. Tourist arrivals and earnings from tourism
improved in June 2017, albeit at a slower pace, while workers’ remittances continued to slow
during the first half of 2017 on account of prevailing economic and geopolitical uncertainties in the
Middle East. Nevertheless, the capital market, both government securities and the Colombo Stock
Exchange (CSE), witnessed a noticeable influx of foreign funds (on a net basis) from March 2017.

Meanwhile, Sri Lanka received the third tranche of the IMF-Extended Fund Facility (EFF)
amounting to US dollars 167.2 million. Reflecting these developments, gross official reserves stood
at US dollars 6.7 billion as at end July 2017. Renewed investor confidence and anticipated direct
investment inflows are expected to further strengthen the external sector outlook. Meanwhile, the
Sri Lankan rupee depreciated against the US dollar by 2.6 per cent by end July 2017.
In view of the above, the Monetary Board decided to maintain the Standing Deposit Facility
Rate (SDFR) and Standing Lending Facility Rate (SLFR) of the Central Bank at their current levels
of 7.25 per cent and 8.75 per cent, respectively.

The release of the next regular statement on monetary policy will be on 26 September 2017.