Friday, December 27, 2019

Sri Lanka holds rate, tax cuts, loan freeze to boost growth

    Sri Lanka's central bank maintained its accommodative monetary policy stance and its key interest rates, saying the government's tax cuts and its moratorium on the repayment of bank loans by small and medium-sized enterprises (SMEs) "are likely to provide further impetus to the economy."
      The Central Bank of Sri Lanka (CBS), which has cut key interest rates by a total of 100 basis points in 2019 and lowered the reserve requirement for banks by 250 basis points since November 2018, added the president's policy statement on Jan. 3 will also provide further clarity as to the economic and fiscal policy in the medium term.
     It was the first monetary policy decision by CBS since economist and academic Weligamage Don Lakshman assumed the duties of governor on Dec. 24, replacing Indrajit Coomaraswamy who stepped down on Dec. 20 for personal reasons.
     The appointment of Lakshman as governor was one of the main economic appointments by Gotabaya Rajapaksa, who was elected president on Nov. 16.
     Rajapaksa, a former defense chief who oversaw the military defeat of Tamil separatists under his brother and then president Mahinda Rajapaksa 10 years ago, has said he will call a parliamentary election to consolidate his power.
     But Rajapaksa has already announced several measures to stimulate the economy, including cutting the value-added-tax on most goods to 8.0 percent from 15 percent as of Dec. 1 and an extension of the one-year moratorium on the repayment of bank loans of up to 300 million rupees by SMEs.
     "The decision by the monetary board is consistent with the aim of maintaining inflation in the 4-6 per cent range while supporting economic growth to reach its potential over the medium term" CBS said, adding the current accommodative policy stance was appropriate and there was "ample space for market lending rates to reduce without further adjustment in policy rates."
     The central bank's Standing Deposit Facility Rate (SDFR) stands at 7.0 percent, the Standing Lending Facility Rate (SLFR) at 8.0 percent and the Statutory Reserve Ratio (SRR) at 5.0 percent.
     Sri Lanka's economy and its tourism sector is gradually recovering from the Easter Sunday suicide bombings, which killed more than 250 people, with annual growth accelerating to 2.7 percent in the third quarter from 1.5 percent in the second quarter.
     CBS said political stability and short-term measures to stimulate the economy will revive economic activity and it expects momentum to be sustained through the introduction of structural reforms in the medium to long term.
     As part of the cut to VAT on Dec. 1, tourism-related services will pay no VAT.
     Sri Lanka's inflation rate eased to 4.4 percent in November from 5.4 percent in October and CBS said further softening of inflation could be expected to the tax cuts and a reduction in some administered prices but it still projects inflation will remain in the 4-6 percent range in the medium term.
      Sri Lanka's rupee has been buffeted by the Easter Sunday bombings and political instability but has still managed to rise this year to trade at 181.3 to the U.S. dollar today, up 0.9 percent this year.

     The Central Bank of Sri Lanka issued the following press release:

"The Monetary Board of the Central Bank of Sri Lanka, at its meeting held on 26 December 2019, decided to maintain its accommodative monetary policy stance with the Standing Deposit Facility Rate (SDFR) and the Standing Lending Facility Rate (SLFR) of the Central Bank remaining at their current levels of 7.00 per cent and 8.00 per cent, respectively. The Board arrived at this decision following a careful analysis of current and expected developments in the domestic economy and the financial market as well as the global economy. The decision of the Monetary Board is consistent with the aim of maintaining inflation in the 4-6 per cent range while supporting economic growth to reach its potential over the medium term.

The pace of monetary policy easing in advanced economies appears to be slowing
Most advanced economies, which followed a monetary easing path owing to the general economic slowdown and muted inflation expectations, appear to have paused further monetary easing. However, most of the emerging market policymakers remained open to further accommodation in the period ahead in order to stimulate activity in their economies.

Domestic economic activity to recover gradually
As per the provisional estimates released by the Department of Census and Statistics, the Sri Lankan economy grew at the slow pace of 2.7 per cent during the third quarter of 2019 following the growth of 1.5 per cent in the second quarter of the year. Agriculture related activities grew marginally by 0.4 per cent, while Services and Industry related activities expanded by 2.8 per cent and 3.3 per cent, respectively. Going forward, a steady revival of economic activity is envisaged, supported by improved political stability and short term measures to stimulate the economy. It is expected that this momentum will be sustained through the introduction of appropriate medium to long term structural reforms.

Inflation to remain at low single digit levels in the near term, and stabilise within 4-6 per cent in the medium term
Headline inflation, as measured by the year-on-year change in both Colombo Consumer Price Index (CCPI) and National Consumer Price Index (NCPI), decelerated in November 2019 driven by the slowdown in food inflation. Further softening of inflation could be expected in the period ahead mainly due to the impact of the downward tax revisions and the reduction in selected administratively determined prices. Nevertheless, weather affected food price movements could result in increased volatility in inflation in the near term. Projections indicate that inflation is likely to remain in the range of 4-6 per cent over the medium term, with the gradual closing of the negative output gap and well anchored inflation expectations.

Relatively stable external sector amidst challenging economic conditions
Performance on the trade front continued to improve during the first ten months of 2019 with imports contracting considerably and merchandise exports recording a modest growth, thereby leading to a cumulative contraction in the deficit in the trade account. Provisional data suggests a significantly lower current account deficit in the first nine months of 2019 compared to the corresponding period of 2018. The tourism sector, which suffered a setback following the Easter Sunday attacks, has since recorded a faster than expected recovery. Workers’ remittances were somewhat low, while outflows of foreign investment were observed from the Government securities market and the equity market during the year. Nevertheless, the Sri Lankan rupee appreciated against the US dollar by 0.7 per cent thus far during 2019, with mixed movements being recorded throughout the year. Meanwhile, gross official reserves remained at US dollars 7.5 billion by end November 2019, which were sufficient to cover 4.5 months of imports.

Growth of monetary and credit aggregates expected to accelerate in 2020
Although a steady expansion in credit disbursed to the private sector in absolute terms was observed during the four month period commencing August 2019, the year-on-year growth of private sector credit continued to decelerate thus far during the year. Driven by low credit expansion, the year- on-year growth of broad money (M2b) also continued to moderate. Going forward, money and credit aggregates are expected to recover gradually, with the expected continued decline in lending rates, and other mechanisms that are being introduced to revive economic activity.

Market lending rates, which continued to decline, are expected to reduce further
Market lending rates continued to adjust downward in response to monetary and regulatory measures taken by the Central Bank. However, the observed reduction thus far has been less than envisaged, and financial institutions are expected to meet the stipulated reduction in lending rates in the period ahead.

Policy interest rates maintained at current levels
In consideration of the current and expected macroeconomic developments as highlighted above, the Monetary Board, at its meeting held on 26 December 2019, was of the view that the current accommodative monetary policy stance is appropriate, and that there is ample space for market lending rates to reduce without further adjustment in policy rates. The Monetary Board also noted that the already announced tax relief as well as the proposed moratorium on capital repayments of bank loans for the SME sector are likely to provide further impetus to the economy. In addition, His Excellency the President is expected to announce the government’s policy statement on 03 January 2020, which will provide further clarity to the broad economic policy framework as well as the fiscal policy direction for the medium term. In this context, the Monetary Board decided to maintain the Standing Deposit Facility Rate (SDFR) and the Standing Lending Facility Rate (SLFR) of the Central Bank at their current levels of 7.00 per cent and 8.00 per cent, respectively."


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