Normalization of economy expected when IMF financing complete – First Capital Research
First Capital Research says that they expect a complete normalization of the economy with the country being able to secure necessary financing from IMF and other multilateral creditors while regaining its access to the global capital market.
Thus, the complete stabilization of economic indicators may give rise to a possibility of sizable rate cuts towards 1H2023 with a significant probability to fast track the revival of the economy. Business confidence measured by the LMD-Nielsen IQ Business Confidence Index (BCI) climbed by 13 points to 89 in Oct. 2022 from 76 recorded in September 2022. “However, the barometer stood at 111 points a year ago signifying the need for additional inducements for further recovery.”
As accurately forecasted by First Capital Research in our ‘Mid-Year Outlook 2022’ as well as stated in the previous Pre-Policy Analysis report, inflation measured by CCPI marked a decline of 0.4% MoM in Oct. 2022 while recording 66.0%YoY (cf. 69.8%YoY in Sep 2022) following a steep upswing over the past 12 months. USD/LKR spot exchange rate depreciated by only 0.8% during Jul-Nov 2022 displaying greater stability following the highest ever devaluation experienced in Mar-May 2022.
The turnaround in MoM inflation was largely contributed by the decrease in food items by 0.8% despite an increase of non- food items by 0.4%. The scaled down inflation reveals that any built-up demand pressure has now been completely worn off owing to the sufficiently tight monetary conditions whereas cost-push inflation also started to exhibit a gradual ease off.
“We believe that the Central Bank (CBSL) may consider maintaining the monetary policy rates at its current levels in the upcoming policy review meeting allowing a soft landing from its hawkish to dovish stance.
However, given the necessity to provide monetary stimulus to prevent further weakening of the economy and the notable improvement in majority of the key economic indicators, we have assigned a lower probability for a relaxation in the monetary policy to alleviate the overreacted interest rates in the tighter monetary environment. “Thereby we have assigned a probability of 65% for rates to remain unchanged at the upcoming policy review while also assigning a 35% probability for a relaxation in policy rates.”