Sizeable policy rate cuts expected in first half of 2023 to prop up growth

• FCR assigns one-fifth of a probability for a cut in SRR by today’s monetary policy review announcement to ease liquidity conditions

While the Central Bank is largely expected to keep the key rates unchanged at the monetary policy review scheduled to be announced today, First Capital Research (FCR) expects the current pause in the policy rate hike seen since July could be followed by sizable rate cuts in the first half of next year, to support growth. 

 
After aggressively hiking rates through July by a cumulative 950 basis points so far this year to tame runaway inflation, the Central Bank paused the tightening process to review the data as to what its aggregate actions had done to cool down the economy before changing course. 

Taking a sanguine approach, FCR said the economy would return to complete normalcy with the country being able to activate the International Monetary Fund deal unlocking other multilateral and bilateral funding while potentially regaining access to global capital markets. 

“Thus, the complete stabilisation of economic indicators may give rise to a possibility of sizable rate cuts towards 1H2023, with a significant probability to fast-track the revival of the economy,” FCR said in its customary pre-policy analysis released ahead of the monetary policy. 

Its view is largely consistent with what it expressed ahead of the October monetary policy meeting, where it expected a pivot in the monetary policy by the first quarter to salvage the economy before going downhill beyond redemption. However, it expects the Central Bank to stay pat at today’s monetary policy review, for which it assigned a 65 percent probability, with a 30 percent probability for a 25-basis-point cut.

“As per our view, at the upcoming policy meeting, there is a high probability for the CBSL to maintain the rates at its current levels, allowing further strengthening of key economic indicators, along with a lower probability for a dovish stance to relax its policy rates in order to prevent a major economic downturn as well as to signal the market participants a clear direction on the way ahead,” FCR said.

However, considering the persistent negative liquidity in the banking system, FCR expects banks’ statutory reserve requirement to be cut by between 50 to 100 basis points for which it assigned a 20 percent probability. 

The Central Bank last week said it would intervene to address the interbank money market liquidity shortage and thereby ease the short-term rates.