Expected Cut

The Central Bank Thursday lowered its key short-term rates with immediate effect, signaling an improvement in macro economic fundamentals.
The bank cut its repurchase rate by 50 basis points to 9.75 percent and the reverse repurchase rate by 100 basis points to 11.75 percent.rn

rnCommercial banks and other financial institutions are also expected to reduce their prime lending rates accordingly, Central Bank said.rn

rnThe Repurchase rate is the rate at which commercial banks and primary dealers can invest their surplus funds in Treasury bonds and Treasury bills held by the Central Bank.rn

rnThe Reverse Repurchase rate is the rate at which commercial banks and primary dealers can obtain funds from the Central Bank against the collateral of Treasury bills and bonds.

These two rates are the leading indicative policy rates in the money market.rn

rnEconomic developments since July have warranted a review of these rates.

Inflation has been decreasing steadily in 2002. Measured by the 12-month moving average of the Colombo District Consumer Price Index (CDCPI), inflation, which declined from 10.3 per cent in December 2001, to 8.8 per cent in July 2002, further fell to 7.8 per cent in October 2002.

Following a same trend, inflation measured by the Colombo Consumers
quote Price Index (CCPI), declined from14.2 per cent in December 2001 to 11.1 per cent in July 2002.

It further declined to 9.9 per cent in October 2002. All these measures indicate that the inflation has declined by 2.5 endash 4.3 percentage points thus far this year, depending on the measure of inflation used.

Inflation is expected to decline further in the balance part of 2002 and in 2003.rn

rnEconomic activity is gradually picking up from the recession in 2001.

The first two quarters of 2002 have recorded increasingly positive growth, in contrast to the economic contraction experienced in the last three quarter of 2001.

This growth has to be facilitated by appropriate policies and the Central Bank
quote s gradual reduction of interest rates has been geared towards this end.rn

rnThe government
quote s resort to domestic financing has been restrained, reducing pressure on domestic interest rates. External sector developments have been encouraging.

The balance of payments recorded a surplus of US$ 110 million in the first half of 2002.

The country
quote s external reserve position has improved with gross official reserves (excluding ACU liabilities) rising from US$ 1,200 million (equivalent to 2.5 months of imports) at end December 2001, to around US$ 1,400 million (equivalent to about 2.9 months of imports) at present.

The foreign exchange market has been stable, and perceptions have improved, as reflected by increasing activity in the forward market and declining forward premia.

The rupee has depreciated against the US dollar by about 3.5 per cent this year, and by about 10 endash 15 per cent against other major currencies such as the euro, pound sterling and yen, due to cross currency movements. rn

rnMonetary growth has been declining from a peak in June and is expected to be around 15 per cent at end 2002.

Although monetary expansion has been slightly higher than initially anticipated, this has been primarily a result of increased economic activity in the North and East, and hence is unlikely to create inflationary pressure.

Short-term interest rates have declined by about 100 endash 200 basis points thus far in 2002, but some lending rates still remain high and are a discouragement to increasing investment. International interest rates have declined recently.

The US Federal Reserve Bank
quote s benchmark, the Fed Funds rate was reduced by 50 basis points, from 1.75 per cent 1.25 per cent, on 06 November, while the Reserve Bank of India reduced its Bank Rate from 6.50 per cent to 6.25 per cent on 29 October.rn

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