Inflation could breach CB’s upper limit, warns ICRA Lanka

• August inflation touched CB’s upper bound of desired medium-term inflation range set at 4-6%
• ICRA says it may take a month or two to calm domestic inflation
• Expects CB to follow more tightening tilt going forward in its monetary policy
• Believes more rate hikes may still be on cards

The current trajectory of the consumer inflation is likely to go past the medium-term inflation target of the Central Bank, forcing it to lean towards its hawkish stance, which it set off in August to stem any more likely pressures on prices, according to ICRA Lanka Limited. 

Sri Lanka’s consumer prices started soaring since April this year in tandem with the beginning of the virus-related restrictions causing supply chain disruptions. 

This condition was shortly exacerbated by the shortage created in foreign currency, making imported goods both in short supply and expensive, due to the sharp fall in the rupee against the dollar, which defied the formal rate set by the Central Bank by at least 15 percent. 

In August, inflation measured by the Colombo Consumer Price Index, the widely used consumer price gauge, rose by 6.0 percent from a year ago, reaching an 18-month high, from 5.7 percent in July. 

August inflation in fact touched the Central Bank’s upper bound of its desired inflation range set at between 4-6 percent for the medium term. 

“The current inflation trajectory may breach the CBSL’s inflation target in the medium term,” ICRA Lanka said in its monthly review of the status of the economy. 

“At the global front, prices have retreated but historically domestic prices are relatively downward inelastic.

Therefore, it may take a month or two to calm domestic inflation,” the rating agency added. 

ICRA Lanka in its mid-year economic review issued in August forecasted higher inflation during the second half of the year compared to its first half, citing several reasons from rising global commodities prices, possible shortages of imported goods caused by the tightened import controls, weaker rupee and the potential supply shocks on agricultural produce. 

Under these worrisome conditions, ICRA Lanka is of the belief that the Central Bank will have to stand guard against these likely persistent price pressures and therefore expects it to follow a more tightening tilt going forward in its monetary policy.  

Denying the claims of demand-driven inflation and persistent inflationary pressures, the Central Bank tightened its monetary policy in August, citing the move as a pre-emptive tactic to contain any possible future inflationary pressures among other things. 

“We doubt whether we have seen the end of the current monetary tightening. Therefore, more rate hikes may still be on the cards,” ICRA Lanka said.