Sri Lanka's central bank held its official policy rates steady on Tuesday, at their highest levels since 2002 for a sixth month in a row after a monetary policy review, saying market rates had further stabilised.
But analysts say that central bank policy rates have become meaningless because of reverse repurchase agreement window restrictions, and instead track treasury bill rates, which are sharply higher and used by banks to set lending rates. The overnight repurchase rate remains at 10.50 percent and the reverse repurchase rate is still 12 percent.
By contrast, the benchmark 91-day Treasury bill yield rose to 17.41 percent at auction last week, and commercial bank lending rates are more than 20 percent, traders say. "Policy rates do not have much bearing in the market," said Rajive Dissanayake, research manager at HNB Stockbrokers.
"They are meaningless ... when the reverse repo window is closed, banks can't freely borrow under policy rates and set their lending rates." The central bank placed restrictions on its reverse repo agreements in January, one of a raft of measures aimed at curbing bank credit to help slow inflation.
Dissanayake expects rates to remain unchanged at least until the central bank has issued a debut $500 million sovereign bond, due by mid-October. The bank has said the proceeds will be used as a financing buffer for a raft of government infrastructure projects, though some market players suspect it could use the money to absorb maturing treasury bonds to avoid paying high interest rates.
Central Bank Governor Ajith Nivard Cabraal has declined comment. "Once they get the money, the treasury bill rates can come down," Dissanayake added, saying much depended on inflation - which quickened to 17.2 percent in July from 17 percent in June as measured on a 12-month rolling average, and is near 1994 highs.
Consumer prices in July rose 17.6 percent from the same month a year earlier compared with 13 percent in June, which the bank said was due mainly to an upward revision of kerosene prices. The central bank says, however, inflation is trending lower.
Cabraal is forecasting consumer prices will rise less than 10 percent in full-year 2007. "The continuation of the tight monetary (policy) conditions would help achieving the reserve money targets by the end of the year, thereby further containing the demand driven inflationary pressures in the economy," the central bank said in a statement.
"The central bank policy measures have helped to maintain market liquidity broadly in balance and, hence, to stabilise the market interest rates further." Sri Lanka's annual economic growth slowed in the first quarter to its slowest pace in two years, against a backdrop of high interest rates and renewed civil war between the state and Tamil Tiger rebels which has affected tourism.
The rupee, meanwhile, is sliding through successive life lows, in largely import and export related trade in an economy that runs a hefty trade deficit because of high oil prices. The rupee closed at a new life low of 111.95/112.00 per dollar on Monday. The currency has depreciated more than 4 percent against the dollar so far this year, after depreciating 5 percent in 2006.