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Sri Lanka cuts policy rates by 50bp to 6.50-pct

ECONOMYNEXT – Sri Lanka’s central bank said it had cut the policy rate at which it injects printed money to markets by 50 basis points to 6.50 percent and the rate at which excess money is take out to 5.50 percent.

In practice the monetary authority injects large volumes of money to target an overnight rate in the middle of the corridor.

Sri Lanka’s private credit is expected to fall amid the shock of Coronavirus lockdowns but state credit is set to expand.

A key problem with Sri Lanka’s monetary policy is not so much the rate but a recent practice of targeting the middle of the policy corridor with large volumes of excess liquidity, which leads to bouts of monetary instability, analysts have said.

Large volumes of excess liquidity is required to target the middle of the policy corridor when there are spikes in credit demand, leading to uncontrolled expansions of the monetary base, out of sync with the balance of payments.

The central bank’s earlier rate cuts starting from January as credit was starting to pick up slightly, liquidity injections from February, triggered pressure on the currency and has helped the country earn a credit downgrade as fears about external sustainability increased.

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The full statement is reproduced below.

Economic Research Department
06.05.2020

The Central Bank of Sri Lanka Further Reduces Policy Rates
to Support Economic Activity

The Monetary Board of the Central Bank of Sri Lanka, at a special meeting held on 06 May 2020, reviewed the current monetary policy stance and decided to reduce the Standing Deposit Facility Rate (SDFR) and the Standing Lending Facility Rate (SLFR) of the Central Bank by 50 basis points to 5.50 per cent and 6.50 per cent, respectively, effective from the close of business on 06 May 2020.

The Board arrived at this decision considering the necessity to further support the economy to weather the adverse economic impact caused by the COVID-19 pandemic, given subdued inflationary pressures.

With this decision, policy interest rates of the Central Bank have been reduced by 150 basis points thus far in 2020, in addition to the other measures taken to ease monetary conditions in the market.

The Monetary Board noted, with disappointment, that market lending rates have not declined in line with the series of measures taken to ease monetary policy and monetary conditions thus far during the year. Therefore, financial institutions are urged to reduce lending rates without further delay, failing which, the Central Bank will be compelled to take appropriate regulatory action to bring down market lending rates. 2