The Monetary Board of the Central Bank left the key policy rates unchanged at the current levels as financial conditions continue to ease since the government clinched the US$ 3 billion Extended Fund Facility (EFF) with the International Monetary Fund two weeks ago.  The rate setting committee however remained dovish in its statement and hinted possible cut in rates in the next meeting or the meeting after next as they remain confident about the disinflation path continuing through the end of this year towards the single digit levels and growth to return in both private credit and the economy as early as the back half of the year. 

The Sri Lankan economy contracted by a record 7.8 percent in 2022 after the Central Bank applied quick brakes on credit and demand and reined in the foreign exchange outflows and runaway inflation. 

While the inflation turned a corner last October, foreign exchange conditions also started to stabilise from the beginning of 2023 which received further support from receipt of the IMF life line, further buttressing the economy’s turnaround.  “The Board reiterates its continued commitment to restoring price stability and remains confident that inflation would follow the projected disinflation path underpinned by the prevailing monetary policy stance, while supporting the economy to reach its potential over the medium term,” the statement from the Monetary Board said yesterday.  The key policy rates currently stand at 15.5 percent and 16.5 percent respectively for Standing Deposit and Standing Lending Facility Rates. 

The Central Bank half heartedly raised the key policy rates by 100 basis points in early March surprising the markets just to appease the IMF.

Sri Lanka’s monetary policy and its inflation are disconnected from what’s happening in the advanced economies where their central banks are still grappling with record high post pandemic inflation which they themselves created.  However, the recent banking turmoil on both sides of the Atlantic has prompted both the US Federal Reserve and the European Central Bank to take stock of the interest rate hikes they have already delivered.

Monetary policy has long and variable lags but the duration of such lags are getting shorter nowadays.  “We are getting a very favourable base effect on inflation from next month,” said  Central Bank Governor Dr. Nandalal Weerasinghe in response to a question on how confident the Central Bank is on the current trajectory of the prices to continue. 

“Last two months’ inflation has been steady despite our expectation for the February inflation to come in a little higher than January because of the power tariff hike. Next month, inflation should come down sharply and that trend will continue,” he told the post-monetary policy press conference, last evening.

Sri Lanka’s March consumer prices measured based on the Colombo Consumer Price Index came in at 50.3 percent, slightly changed from the 50.6 percent in February. 

But, the Central Bank doubled down on their projection for the inflation to return to single digit levels by the end of the year on several factors, a projection which stands in conflict with the IMF which forced the former for a rate hike in March.  The Central Bank said the improvement in local supply conditions, ease in global commodities prices combined with the appreciation of the rupee against the dollar under which most global goods and services still change hands would bode positively for the inflation to come down faster in the next couple of months.  The interest rates are already on a sharp descent from their last year highs, further narrowing the gap between key policy rates and market rates.  According to economic analysts, the current developments and the tone of the Central Bank officials at yesterday’s press conference suggested that a pivot in the monetary policy is on the horizon.

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