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The Central Bank of Sri Lanka (CBSL) became the first in Asia on Thursday to raise interest rates since the pandemic began, as it acted to stem inflationary pressure and high imports, one of the factors behind the rupee's 8% depreciation this year.

The central bank increased the standing deposit facility rate and the standing lending facility rate by 50 basis points each to 5% and 6%, respectively.

It also increased the statutory reserve ratio by 200 basis points to 4% with effect from Sept. 1.

"These decisions were made with a view to addressing the imbalances on the external sector of the economy and to preempt the buildup of any excessive inflationary pressures over the medium term, amidst improved growth prospects," CBSL said.

The Sri Lankan economy is gradually making headway after the negative impact of the coronavirus pandemic in 2020 and is poised to record a higher growth rate during the second quarter of 2021, partly due to the base effect, the CBSL said.

But it also cautioned that there could be some weakness in the second half due to further outbreaks of infections.

Inflation in recent months has accelerated due to higher food prices and some uptick in non-food inflation, and the CBSL projects it to hover around the upper bound of the 4-6% target range in the near term.

The July Colombo consumer price based inflation rose 5.7% compared with June's 5.2%, latest data showed.

Sri Lanka sovereign dollar bonds surged after the rate increases while the CSE All share index (.CSE) fell 1%.

"The policy rate hike has likely been taken as a measure to mitigate excessive pressures on the currency, even though the CBSL's official rate hasn't changed yet," said Trisha Peries, head economist research at Frontier Research.

EXTERNAL SECTOR CONCERNS

The CBSL said the stimulus measures taken after the pandemic hit the economy resulted in low-cost credit which, in turn, led to a sustained increase in imports.

"The increase in import expenditure outweighing the improvements observed in earnings from exports, the trade deficit continued to widen during the first half of 2021 over the corresponding period of last year," CBSL said.

"Moreover, the expected recovery in the tourism industry could be further delayed due to uncertainties associated with the resurgence of the pandemic globally," it added.

Tourism contributes more than 12% to Sri Lanka's GDP and the pandemic has dealt a major blow to foreign currency earnings.

The Sri Lankan rupee is down about 8% this year, also weighed down by external debt service obligations. The government has met all its external payments but worries remain over potential defaults.

"At the margins its significant," said Gabriel Sterne, head of strategy services and global EM research at Oxford Economics.

"But the real issue is the balance of payments. The way interest rates normally work is to give incentives for investors to come in, but when you have capital controls, as Sri Lanka does, that makes it difficult."

The government is actively looking for funding sources but has refrained from seeking a bailout from the International Monetary Fund.

"We think it's likely that there could be around one more rate hike before the end of the year, particularly if it looks like we are moving towards an IMF programme, along with what is expected to be a tighter budget announced for 2022," Peries said. (Reuters)

The APEC region recorded an economic growth of 6.1 percent in the first quarter of 2021, bouncing back strongly from a two-percent decline in 2020 Q1, the APEC Policy Support Unit’s updated report stated.

The number securely places the region on course to meet the year’s growth expectations, currently estimated at 6.4 percent, or slightly higher than the earlier forecast, according to a written statement issued by the APEC Policy Support Unit and received here on Wednesday.

High growth in the APEC region in the first quarter of 2021 is attributed to a plethora of factors, comprising the low comparison point following substantial economic contraction a year ago as well as higher government spending on account of the sustained impact of the pandemic on economic activities, while domestic consumption grew considerably during the period.

In the near term, the APEC Policy Support Unit still sees sustained stimulus measures from governments driving the region’s economic growth.

Private consumption will also receive a boost of confidence, as consumers are expected to draw on their accumulated savings, bolstered in part due to cash transfers and wide-ranging subsidies to households.

"Vaccination programs and rollout still drive economic growth and the recovery progress in the region," according to Denis Hew, Director of the APEC Policy Support Unit.

"We are still seeing a disparity in access to vaccination coverage across APEC. Thus, economies with faster rollouts and sustained fiscal support will recover faster and stronger, while economies that struggle with vaccine access and have limited fiscal space will take more time to recover due to these uncertainties," Hew pointed out.

Vaccination coverage across APEC is noticeably diverse, ranging from 148 doses per 100 residents to a low of only one dose per 100 residents. Consequently, the rate of fully vaccinated people across economies varies significantly, from as low as 0.2 percent to as high as 72 percent of the population as of mid-August.

"The race to vaccinate as many people as possible in the shortest period of time is extremely crucial," according to Rhea C. Hernando, an APEC Policy Support Unit researcher, who updated the report.

"Economies cannot afford to continue to impose restrictions, close borders, and indefinitely provide wide-ranging fiscal and monetary support," she stated.

Hernando believes multilateral cooperation is the key to facilitating the free flow of vaccine components and related supplies, as it will contribute significantly to the accessibility and affordability of vaccines, especially for low- and middle-income economies.

"It is now clear that for economic recovery to be on firmer footing, health must be safeguarded, which in turn necessitates access to vaccines to protect as many people as possible, as soon as possible," she affirmed.

In terms of trade, the region performed positively in the first quarter of 2021, with the value of merchandise exports and imports growing at a higher rate of 16.8 percent and 16.2 percent, respectively, from a contraction of 6.1 percent for exports and 4.1 percent for imports during the corresponding period last year.

This improved performance is brought about mainly by pharmaceuticals and office and communications equipment, while the agrifood, apparel, metals and minerals sectors also added to the trade boost.

The unfaltering impact of COVID-19 on the transport and travel sectors continues to drag APEC’s commercial services performance.

For the January-March 2021 period, commercial services declined further to 12 percent for exports and 15.2 percent for imports, as compared to a decline of 9.5 percent for exports and 9.2 percent for imports for the corresponding period in 2020.

The updated report also indicated an increase in inflation during the first half of 2021 to 2.3 percent, as compared to 1.6 percent in the first half of 2020 on account of the gradual normalization of prices.

Inflation is expected to revert to its pre-pandemic levels globally once prices factor in pandemic-related supply-side disruptions.

The whole-year forecast of inflation for the APEC region is two percent, while it could increase to 2.2 percent in 2022.

There is a risk that the upward trend in inflation could persist, as consumption activity strengthens following successive quarters of pent-up demand. The report notes that price pressures require continued monitoring and clear communication from monetary policy authorities to guide inflation expectations.

"Addressing the ongoing health crisis, primarily through rapid vaccination rollouts even as appropriate health measures continue to be observed, remains paramount to strengthening economic recovery," Hernando affirmed.

"When people feel safe, they are more confident to go out, work, and spend accumulated savings while business could resume investment activity, supporting a gradual but uninterrupted economic reopening toward a stronger recovery," she stated.  (Antaranews)