Analysts call Central Bank’s rate cut ‘impulsive’

Market participants are trying to comprehend what the Monetary Board’s emergency rate cut this week would mean and doubt its firepower to combat the economic fallout of COVID-19, Mirror Business learns. 

The Monetary Board convened an emergency meeting on Monday and decided to cut policy interest rates by 25 basis points and reduced the mandatory reserve requirement for banks by 100 basis points.

The bank said the rate cut was aimed at supporting economic activity with the rapid global spread of the COVID-19 pandemic and its possible further spread in 
Sri Lanka. 

The Central Bank’s decision was preceded by policy rate cuts by US Federal Reserve and Bank of Korea by 100 basis points and 50 basis points, respectively.
But Sri Lankan market participants doubt the ability of the monetary stimulus by the Central Bank to rev up the economic activities and supporting the struggling 
equity market.      

“The hurriedly prepared Central Bank statement and its shallow content also reflect the decision is driven largely by impulse, other than anything else,” an analyst commented on Monday’s monetary policy action. 

Sri Lanka’s stock market was closed for the third consecutive day yesterday, although the banks were kept open.

The Central Bank’s Monday statement was also full of what the bank had already done in January and February to spur economic activity, which included the credit support scheme and the 50 basis point cut in policy rates on January 30, instead of forward-looking measures. 

In response to the previous monetary easing and the most recent interest rate cut in January, the Average Weighted Prime Lending Rate (AWPR) and Average Weighted Lending Rates (AWLR) are on the decline.  

“While the 100 basis point cut in the SRR will release some additional liquidity to the market, which may help in providing liquidity support to the businesses that may be in need, the situation doesn’t warrant a policy rate cut as the market lending rates were already on the decline in response to the previous 
policy easing.

If the Monetary Board needs to support the businesses, which may have been hurt by the pandemic, they need to come with a targeted policy response,” an economist on the grounds of anonymity told Mirror Business.  

“Unless the Central Bank takes some stronger macro-prudential measures, such as rigorous lending rate caps, it is uncertain how the monetary policy transmission can be sped up from its usual course,” he added. 

The statement was also less specific on how confident the Monetary Board of inflation expectations to remain within the desired 4 to 6 percent band, after the February inflation went past the upper band. 

However, forward inflation expectations may have provided some space for the Monetary Board to cut rates due to largely muted demand-driven inflation. But supply-side price pressures could mount, if the disruptions to the global value chains persist beyond March. 

However, as China, where the virus originated, has largely brought it under control and the workers have started returning to the factories closed for close to two months, things could return to normalcy than expected.

The new epicentre of the virus has shifted to Europe and the US, with Latin America and Africa too having seen some cases. 

According to some analysts Mirror Business spoke to, the only way the Monetary Board’s policy rate cut would make sense is, it could help lowering the government funding cost. 

President Gotabaya Rajapaksa’s administration is hamstrung for fiscal spend as the opposition refused to support the funding bill presented in February. 

But the Monetary Board’s move could largely help the administration to raise funds by issuing government securities at a lower cost than before. 

As the efficacy of the Monetary Policy confronting a virus directly is limited, the governments around the world have sought to loosen their purse strings to fight the spread of COVID-19. 

While some believe that the government has already exhausted its ability to extend a fiscal stimulus with the tax cuts announced last November.

However, President Gotabaya Rajapaksa on Tuesday ordered banks to suspend collecting loans for six months and provide working capital for business loans at 4 percent. 

He also imposed maximum retail prices on dhal and canned fish, which undoubtedly would be relief to daily-wage earners and other low-income earners.

US President Donald Trump on Tuesday announced plans to send money to Americans immediately to ease the economic shock from COVID-19.