Sri Lanka's central bank kept its key rates steady on Tuesday for a sixth straight month, but flagged possible "corrective measures" in the months ahead in a sign further tightening might be on the cards to temper inflation pressures and safeguard a fragile rupee. The Central Bank of Sri Lanka (CBSL) left the standing deposit facility rate (SDFR) and the standing lending facility rate (SLFR) at 7.00 percent and 8.50 percent, respectively.
It has tightened monetary policy three times since December, 2015, while the government has kept a tight leash on fiscal policy in the past year to trim the budget deficit in line with a condition for a $1.5 billion International Monetary Fund loan. The central bank said the economy is gradually responding to the stabilisation measures adopted by CBSL and the government since late 2015.
"However, close monitoring of macroeconomic developments is necessary in the period ahead, with a view to adopting further corrective measures, if required," it said in a statement. Analysts said further tightening in policy looks inevitable even as private sector credit growth has slowed slightly to 21.9 percent on-year by end of 2016, from a near four-year high of 28.5 percent in July.
"Looking ahead, tighter monetary policy is needed to contain rapid credit growth and rising price pressures," Krystal Tan Asia economist at Capital Economics said in a client note. A Reuters poll last week showed economists were split on their views. Seven out of 13 economists surveyed predicted the central bank would keep both its SDFR and SLFR unchanged. The rest expected at least a 25-basis-point rate hike in both policy rates.
The prior tightening steps have dragged on the economy, which grew at a slower 4 percent annual pace in the first nine months of 2016 compared to 5.7 percent in the same period the year-before.
Policy makers face a tricky balancing act as the rupee comes under fresh selling pressure, hurt by capital outflows thanks to the Federal Reserve's more hawkish policy outlook and uncertainty caused by US President Donald Trump's policies on trade, immigration and international relations. The Sri Lanka rupee fell 3.9 percent in 2016 and has eased around 0.5 percent so far this year.
Sri Lanka's consumer prices rose to a six-month high of 5.5 percent in January from a year earlier, accelerating from the previous month's 4.5 percent under a revised calculation method that came into effect this last month.,"Although private sector credit growth has slowed in recent months, it remains at an unsustainable rate. Interest rate hikes will also be needed if the CBSL wants to support the currency, particularly as we expect the US Fed to raise interest rates further than markets currently anticipate this year," Tan said.