Sri Lanka has no need to raise rates as yet, following alternative to IMF: Minister Cabraal

On Jul 2, 2021

Sri Lanka can raise interest rates if inflation goes up and the current administration is engaging in strategies which are alternatives to going to the International Monetary Fund, State Minister for Money and Capital Markets, Nivard Cabraal said.

Interest rates are hike based on inflation and other indicators.

“The central bank will take into account many factors before raising interest rates,” Minister Cabraal told an online webinar.

“At the moment it is not necessary. If there is a necessity it is a decision that will be taken later.”

Sri Lanka’s inflation measured by a nation-wide sampling has topped 6.1 percent by May and prices in Colombo have risen 5.2 percent by June.

Sri Lanka inflation rises to 5.2-pct in June, food prices up 11.3-pct

Cabraal said initial growth targets may not be met due to lockdowns but it was important to vaccinate the public and open the country has much as possible.

“Though we may not be able to achieve 6 percent growth we may be able to get about 4.5 to 5.0 percent,” he said.

Sri Lanka sharply cut rate trimmed reserve ratios and injected over 700 billion rupees since February 2020 in what was called ‘Modern Monetary Theory’ in a bid to push growth without economic liberalization.

Cabraal said interest rates have been brought sharply down since a new administration came.

“A lot of pressure was taken off people as a result,” he said. “Housing loans were at 17 percent. Now it is down to 8 to 9 percent. It is not just people but also for businesses.”

Analysts expressed fears that continued to money printing by the central bank may lead to a further deterioration of sovereign credit conditions which will then lead to a ‘sudden stop’ event, which tend to contract economies.

IMF Program

Sri Lanka was now implementing policies as an alternative to the International Monetary Fund prescriptions, he said.

Though spokesmen for the last administration ire advocating going to the IMF, their policy prescriptions had got them also into trouble, he said.

“There only aim is to driven the country to the IMF,” Minister Cabraal said. “They know what will happen then.

“They went to the IMF and based on their prescriptions economic growth fell from 7 percent to 2 percent.”

Sri Lanka pursued a ‘revenue-based fiscal consolidation’ involving expansion of the state from 2015 and also intensified domestic and external anchor conflicts with a monetary program involving intervening in the forex market to collect reserves and also having a high domestic inflation target.

Sri Lanka printed large volumes of money in 2015 (at first unwinding term reverse repo deals) and also in 2018 (printing money through multiple lender of last resort tools) as well as outright purchases of government bonds to trigger monetary instability.

The rupee was progressively brought down from 131 to 182 under the non-credible ‘flexible exchange rate’ peg and high domestic anchor made up of inflation target of up to 8 percent, with inevitable consequences.

The last administration printed money to target an ‘output gap’, undermining tax hikes to reduced the budget deficit, while the current administration is following so-called Modern Monetary Theory and tax cuts.

Analysts have warned that Sri Lanka’s monetary regime is a fundamentally flawed and ‘IMF prone’ (also known as recidivist) and the domestic operations of the central bank has to be curbed or the agency abolished to maintain lasting monetary stability.

Though countries such as Japan and Malaysia have escaped economic crises without the IMF and all countries managed without the the agency before it was set up, the policies required a combination of monetary stability and fiscal fixes.

Countries that do not pull back on time can go into severe stress which may end up in dollarization.