Central Bank of Sri Lanka Tweaks Policy to Promote Faster Bank Lending

September 23, 2014

A quarterly monetary policy review released today applauds Sri Lanka’s buoyant growth and benign inflation but expresses disappointment with the pace of bank lending in spite of previous reductions of the central bank’s key interest rates.  The central bank lending rate (a.k.a. reverse repo rate) and its repo rate were sliced by 25 basis points in December 2012 and 50 bps in both May and October of 2013.  The reverse repo rate but not the repo rate was cut by another 50 bps at the start of this year.  Since then, the lending rate has been 8.0%, and the deposit rate had been at 6.5%.

Today’s statement observes,

the Monetary Board has observed in recent months that the credit extended to the private sector by commercial banks has remained modest in spite of the continued easing of monetary policy, resulting in the accumulation of a large amount of excess liquidity in the domestic money market. In this regard, the Monetary Board has been of the view that such liquidity must ideally be utilized for productive economic activities instead of remaining unutilized for a considerable length of time in the system. The Board has also noted that these excess funds have been placed by several commercial banks on a continuous basis with the Central Bank under its standing deposit facility window, although such window has been essentially designed to provide an opportunity for OMO participants to deposit their excess liquidity at infrequent intervals to tide over temporary liquidity excesses. In that background, the Monetary Board was of the view that an appropriate monetary policy action needs to be implemented to address these concerns, particularly in view of continued low levels of inflation and benign inflation expectations.

In the future, therefore, banks will earn the 6.5% return on only the first three usages of the standby deposit facility in any given calendar month.  Beyond that, the interest rate will drop to 5.0%.

Real GDP in Sri Lanka expanded 7.7% in the first half of this year, while officials with this statement revised downward projected CPI inflation to a range of 3-4% from 4-5% projected previously.

Copyright 2014, Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.

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