Resolute Central Bank cuts policy rates by 50bps

Amidst calls by various quarters to hold on to the current monetary policy stance due to possible inflationary fears, the Central Bank (CB) surprisingly cut its key policy rates by 50 basis points (bps) yesterday.

This is the third instance the monetary authority cut the policy rates since last December and as a result both the repurchase and reverse repurchase rates were reduced to 6.50 percent and 8.50 percent respectively.

“The main risk we had with inflation seems to be under fairly good control and that means we can now take a more bullish view about growth,” the Central Bank Governor Ajith Nivard Cabraal told Bloomberg TV in a brief interview yesterday.

The Census and Statistics Department data showed Sri Lanka’s inflation easing to 6.2 percent in September from 6.3 percent in August.

The rate cut came amid many local and international economic think tanks and agencies including the International Monetary Fund (IMF) repeatedly insisting the Lankan authorities to hold the policy rates.

“In the light of the risks facing Sri Lanka, the mission recommends the policy rates remain on hold which will also give time to assess the impact of recent easing,” said IMF Mission Chief for Sri Lanka Todd Schneider during his recent visit few weeks ago.

However, Central Bank’s action yesterday showed the Governor Cabraal keeping to his words as he told Wall Street Journal a couple of months back that there would be another round of monetary easing in September-October, provided inflation continued to fall.

“So we believe this particular 50bp cut would leave out speculation for the next few months,” Cabraal told Bloomberg yesterday.

Speaking on the growth he said, “This year it is very likely that our growth be very close to the 7.5 percent mark.” The economy grew 6.4 percent on average during the first half of 2013.

Meanwhile there has been a sharp moderation in the credit obtained by public corporations from the banking sector in August 2013 due to improved financial performance in these institutions, leaving more money for private sector investments.

The Central Bank further said the broad money supply in August was in line with the 15.0 percent projection for the year.

Meanwhile talking to Reuters, Cabraal downplayed the risk posed to Sri Lanka by the Fed’s expected tapering, though foreign selling of government debt had helped push the rupee to a record low of 135.20 per dollar on August 28.

I don’t think Fed tapering will have an impact on us as we have already factored in, Cabraal said. “In the event of tapering, I don’t think we will have outflows, because those investors did not come due to QE (Quantitative Easing).”

Sri Lankan authorities have been using the monetary policy to accelerate growth or to put breaks, and Sri Lanka’s economic history demonstrated these stopgo policies had not brought sustainable solutions to the fundamental economic issues the country had been facing.

However the monetary policy as the only lever to stimulate the economy without tough structural reforms, has proved ineffective as the country went into a balance of payment (BoP) crisis in 2011 as a result of an overheated economy.