CB widely expected to maintain policy rates tomorrow

• Pressure is gradually building on CB to support faster recovery and reboot growth 

The Central Bank is widely expected to keep the policy interest rates at the current levels while skewing a bit more towards a dovish stance at the monetary policy meeting scheduled for today, after the softer than expected inflation prints, which came during the last three weeks. 

This year’s eighth and final monetary policy announcement is expected on Thursday (24) morning. 
In a precursor to what could be expected at the upcoming policy meeting, Central Bank Governor Dr. Nandalal Weerasinghe last week said interest rates might have peaked and the Central Bank may intervene to ease the liquidity conditions in the interbank money market, which could put downward pressure on short-term rates.
“The recent rise in interest rates should turn around because the inflation has turned around,” Weerasinghe told a post-budget forum, filled with bankers and financial sector executives, last week. 

The short-term government securities yields promptly responded to the governor’s remarks, as some were looking for a pivot in the interest rates policy amid easing inflation. As of late, calls have been growing louder to support economic recovery and growth before the downturn becomes entrenched, causing irreparable damage to the economy. 
After aggressively raising the key policy rates, taking the cumulative hike in rates to 950 basis points this year through July, the Central Bank paused to see if its actions were sufficient to break the relentless cycle of runaway inflation. 

The official headline inflation, which peaked at just shy of 70 percent in September, decelerated to 66 percent in October, potentially setting off a disinflationary path ahead.  While the job of combating inflation is nowhere near its completion, the slight ease seen provides the Monetary Board some wiggle room to consider policies to support growth. Meanwhile, the external sector is showing some stability, with the authorities managing the outflows reasonably well, with what the country receives from exports and remittances. 

Hence, this relative calm in the domestic foreign exchange market would provide the Central Bank the space to refrain from being hawkish and consider cutting rates towards early next year.  The activation of the deal with the International Monetary Fund for a US $ 2.9 billion, four-year economic stabilisation package would really bolster the case for the Central Bank to cut rates, as a potential deal would unlock foreign inflows from other multilateral and bilateral sources.  The likely debt deferment for at least a couple of years as part of a potential deal with the country’s creditors would also not put pressure on foreign exchange sector liquidity until the debt servicing kicks in.  Sri Lanka expects to raise about US $ 2.8 billion in 2023 from foreign currency to bridge its budget gap.