Anticipation grows for possible policy rate cut on Thursday

• Need to support economic growth, well-anchored inflation expectations seen as key supporting factors
• CB is set to announce 5th monetary policy for this year on July 06, which was originally scheduled for July 13
• FCR assigns 75% probability for a policy rate cut, with balance 25% being assigned for rates to remain unchanged
• Monetary Board is meeting this week after two key events—passage of DDO and softer than expected inflation print for June

There is a widespread expectation of an upcoming policy rate cut announcement by the Central Bank on Thursday (6th) to further relax the financing conditions in the market to support the economic recovery, as inflation expectations remain well-anchored at their desired levels.

The members of the Monetary Board are bracing for another active meeting this week, as they are meeting after two key events – the successful passage of the Domestic Debt Optimisation (DDO) proposal in Parliament and softer than expected inflation print for June, which provides them with room to relax monetary policy further.
The Monetary Board on June 01 surprised the markets by delivering a 250-basis-point cut in both Standing Deposit and Lending Facility Rates to 13.0 percent and 14.0 percent, by bringing the easing cycle at least a couple of months forward. 

The analysts at First Capital Research (FCR) believe that there is a greater possibility for the Monetary Board of the Central Bank to follow through with another rate cut this week, to support faster economic recovery. 
“We believe that there is a higher chance that the Central Bank may further relax rates from the current levels at the upcoming policy review meeting, allowing rates to come down at a faster rate, ahead of the unveiling of the Domestic Debt Restructuring (DDR) framework,” FCR said in its customary pre-policy analysis. 

It assigned a 75 percent probability for a cut in the key rates, with the balance 25 percent left for the rates to remain unchanged, allowing the effects of the June rate cut to transmit to the real economy via reduced lending rates, without causing a possible disequilibrium in the market. 

FCR broke down its 75 percent probability across four scenarios of 05 percent, 10 percent, 35 percent and 25 percent, assigning a cut of 100 basis points, 150 basis points, 250 basis points and 300 basis points each. 
Last week, First Capital Holdings PLC Chief Research and Strategy Officer Dimantha Mathew gave his thumbs up for the DDR programme unveiled by the Central Bank to the Cabinet, adding that it could bode well for the easing of the interest rates cycle at present. 

“Broadly, we feel the DDR plan is significantly favourable and pro-growth. We expect the yields to drastically come down next week and this will release the investments that had gone into government securities towards production and manufacturing, firing economic growth,” Mathew said. 

There is also a possibility for the Monetary Board to skip this week’s meeting and slash the rates at the next one, to give more time for the previous rate cut and the sentiments from the DDR to be reflected in the yields and the rates in the coming weeks. 

The Central Bank in June left the window open for more rate cuts, due to the persistently softer inflation prints and also the semblance of improvement seen in the external sector, which may get further support from the successful passage of the DDO process last Saturday.