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Road to economic recovery: Taming Sri Lanka’s galloping inflation

16 Apr 2022

  • Rupee’s buying capacity eroding
  • Interest rate hike aimed at controlling inflation: CBSL
  • Says political stability will affect economic stability
  • Inflation and related commodity pricing may remain for a while
By Maneesha Dullewe With Sri Lanka’s exchange rates at an all-time high of over Rs. 300 per US Dollar on the official exchange, and Colombo Consumer Price Index (CCPI)-based headline inflation (YoY) climbing to 18.7% in March, up from 15.1% in February, the purchasing power of the rupee is eroding steadily. Meanwhile, Food inflation (YoY) and Non-food inflation (YoY) were recorded at 30.2% and 13.4%, respectively, in March 2022. Furthermore, the CCPI measured on an annual average basis, increased to 9.1% in March 2022 from 7.9% in February 2022.  On 8 April 2022, the Central Bank of Sri Lanka (CBSL) raised its key interest rates by 700 basis points each to curb soaring inflation, with the CBSL Monetary Board raising the Standing Deposit Facility Rate (SDFR) and the Standing Lending Facility Rate (SLFR) of the Central Bank to 13.50% and 14.50%, respectively. This decision by the CBSL comes at a time of heightened demand for dollars needed to import fuel and food, supplies of which are witnessing widespread shortages in the country. Economic recovery plan Addressing the steadily climbing inflation rates, Treasury Deputy Secretary R.M.P. Rathnayake told The Sunday Morning: “It is for the purpose of controlling inflation that the Central Bank has increased interest rates. We are hoping this will be effective and that inflation will start to reduce.” The Deputy Secretary noted: “So far, there have been various causes behind the increasing inflation and the Governor recently issued an explanation on this. We can’t point to a singular reason behind the present inflation rates. We are anyway operating on a budget deficit, meaning that our expenditure is more than double our income. Without settling this, we cannot control inflation. I believe the present measures that have been adopted impact the controlling of inflation to a certain extent. However, there is a prevailing goods and commodity shortage, which also needs to be resolved in order to control inflation, since otherwise a black market system will be created.” Rathnayake also cautioned that recovery would be slow, saying: “It is not possible to find solutions for the existing problems within a month or two. However, we are hoping to arrive at a plan to bring monetary stability, given that we are also engaged in discussions with the IMF in this regard. We believe that this process will take about four months.”  He noted that this economic recovery plan would need to include steps to increase State revenue and reduce expenditure, without which it would be difficult to solve the existing issues.  “Those including the CBSL Governor, and the Finance Ministry Secretary are presently formulating a plan. In order to implement the plan, there needs to be a certain degree of stability in the country. There also needs to be political stability in order to engage with foreign nations.”  The Deputy Secretary further asserted that the issue of political stability needed to be resolved by Parliament, and those in Parliament needed to make a decision on how to carry the country forward from this point. “If political stability is ensured, we can expect a certain degree of stability in other areas as well,” he concluded.  The currency squeeze, which has resulted in food, medicine, and fuel shortages, coupled with the unbearable costs of living, has driven thousands of citizens to the streets, calling for the ouster of the President and the entire Rajapaksa family from their positions of power in the Government. As political unrest looms large, economists, including the newly-appointed CBSL Governor, emphasise the necessity of political stability in order to ensure economic restitution. Inflationary pressures Explaining the causes behind these ongoing inflationary pressures, Economist and University of Colombo Department of Economics Lecturer Umesh Moramudali told The Sunday Morning that along with the increase in the cost of goods and production, people had also begun to demand more goods, which drives inflation. However, what prevails in Sri Lanka at present is a cost-push driven inflation, he noted. Moramudali also noted that the global rise in commodity prices had directly affected Sri Lanka’s situation as the country was heavily import-dependent. “Global prices are at an all-time high, and there’s a significant rise in the fuel price,” he said, adding that shipping and freight costs had further contributed to Sri Lanka’s present economic distress. “If you take a look at the shipping costs pre-pandemic and now, there is a significant rise.”  Moramudali also addressed money printing as one of the factors that had created the present inflation, noting that post-pandemic Sri Lanka had injected a great deal of liquidity into the market in what is referred to as money printing, largely due to the Central Bank decision to finance the deficit. Accordingly, the influx of new money into the market caused a greater number of imports and subsequently increased demand.  As all these factors continue to drive up prices, the successive impacts of the exchange rate and fuel prices caused inflation to spike swiftly instead of increasing gradually over a period of some months, with the CBSL deciding to hold the rupee while simultaneously, the country failed to adjust its fuel prices.  Grim prospects Speaking of the future, Moramudali painted a somewhat grim picture: “We can’t expect inflation to go down in the short-term. Prices will remain in the same range – they might even increase. Inflation rates could increase to 25-30% looking at official figures, while the real impact could be well beyond 30%.”  However, he noted that the important and immediate measure to halt rising inflation had already been taken. “One thing that needed to be done was to increase the interest rates, since with higher interest rates people are incentivised to save as opposed to spend. Secondly, this also discourages lending, as people will take out less loans. Both these actions took money out of people’s hands and put it into the banking system.”   


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