SL Central Bank Interest Rate Cut, A 5 Year Low to Boost Growth

18th November 2009, www.bloomberg.com, By Anusha Ondaatjie

Sri Lanka’s central bank cut its benchmark interest rates to a five-year low to spur credit demand and support a recovery in the island’s economy.
The Central Bank of Sri Lanka lowered the reverse repurchase rate to 9.75 percent from 10.5 percent, according to a statement on the Colombo-based bank’s Web site today. The repurchase rate was reduced to 7.5 percent from 8 percent.

Sri Lanka will conduct monetary policy “cautiously” to keep inflation below 10 percent while sustaining an economic recovery after the end of a 26-year civil war, the central bank said in a publication this month. Consumer prices in the capital, Colombo, rose 1.4 percent in October from a year earlier, the fastest pace in five months.

“Risks to inflation are biased to the upside, on account of commodity price movements and an improved growth outlook,” said Prakriti Sofat, an economist at Barclays Plc in Singapore.

Central Bank Governor Nivard Cabraal said Oct. 6 that consumer prices will probably rise as much as 5 percent this year, and between 5 percent and 6 percent in 2010. The central bank has room to cut interest rates if inflation remains “persistently low,” he said.

Cabraal had slashed borrowing costs to spur spending and make up for slowing exports.

“Although inflation is expected to rise moderately in 2010 due to the gradual decline of the base effect of low inflation in 2009, it is expected to remain relatively subdued,” the central bank said in its statement today.

Civil War

The central bank expects the island’s $41 billion economy to grow as much as 6 percent next year after expanding about 3.5 percent in 2009, helped by rebuilding efforts after the government defeated the separatist Liberation Tigers of Tamil Eelam rebels in May.

The end of Sri Lanka’s civil war has buoyed Colombo’s All- Share Index, which has outperformed all other benchmarks in Asia this year with a 98 percent gain.

Mark Mobius, who oversees about $25 billion of emerging market assets as chairman of Templeton Asset Management Ltd., told Bloomberg News last week that he is seeking private equity or strategic investments on the island.

The central bank on Sept. 11 lowered the reverse repurchase rate to 10.5 percent from 11 percent, and cut the repurchase rate to 8 percent from 8.5 percent.

‘Appropriate Measures’

The central bank said today it will take “appropriate measures to reduce the level of excess liquidity to a more desirable level.”

The bank said market interest rates had dropped amid easing monetary policy “albeit with a time lag,” while commercial banks’ lending rates had also started to decline sharply.

The government will maintain fiscal and monetary stimulus through 2010 to stoke an economic recovery, Deputy Finance Minister Sarath Amunugama said Nov. 9.

President Mahinda Rajapaksainstructed state banks to slash lending rates by about 7 percentage points from Oct. 28 to government employees, farmers, small businesses and industries including fisheries and tourism.

The International Monetary Fund said on Nov. 9 the release of a second payment in its $2.6 billion loan to Sri Lanka indicates a strong performance and fiscal commitment from the South Asian island economy.

The central bank this month began draining funds from the local financial system using currency swaps after auctioning its own securities for the first time in October to absorb surplus funds. Excess money typically fuels inflation.

Sri Lanka’s foreign reserves have risen to unprecedented levels since the IMF loan was approved in July and the end of the civil war.

To contact the reporter on this story: Anusha Ondaatjie in Colombo at anushao@bloomberg.net.