Sri Lanka's economy is healing as it emerges from 20 years of civil war, but the country must curb political instability and may have to raise interest rates again, the International Monetary Fund said on Friday.
"The authorities should stand ready to tighten monetary policy if the political situation deteriorates or severe budgetary pressures materialise, to head off a potential rise in inflation and sharp exchange rate adjustment," the IMF said in annual comments on the country's outlook.
The Sri Lankan central bank, which cut rates 2.75 percent last year to aid growth after a cease-fire with separatist Tamil Tigers two years ago, on Friday said it was holding the key overnight repurchase rate unchanged at 7 percent.
The IMF called for stability in the country, where a dispute between Prime Minister Ranil Wickremesinghe and President Chandrika Kumaratunga over the peace process has led to turmoil. Kumaratunga has called elections for April 2.
"If Sri Lanka is to benefit fully from the broadly positive domestic economic developments the authorities will need to make further progress in establishing a political environment that fosters lasting peace and engenders broad-based popular support for their reform efforts."
Despite a truce signed two years ago, the United States said in a recent report that there had been 36 politically-motivated killings in the last year.
The IMF also said Sri Lanka must "restore fiscal sustainability, while ensuring there are adequate resources for priority poverty reduction and post-conflict spending."
It forecast 6 percent GDP growth in 2004 after the economy expanded by 5.5 percent this year and said strong earnings from exports, tourism and money sent home by Sri Lankans living abroad should keep the current account deficit to 2-1/4 percent of GDP this year. But everything hinges on peace.
"Uncertainties in the political situation and the peace process pose a risk to the implementation of essential further reform," the fund said.
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