Central Bank says won’t rule out another rate hike

From left: Central Bank Deputy Governor S. Lankathilake, Central Bank Deputy Governor P. Samarasiri, Central Bank Governor Arjuna Mahendran, Central Bank Deputy Governor Dr. Nandalal Weerasinghe, Central Bank Assistant Governor K. D. Ranasinghe and Central Bank Economic Research Director Mahinda Siriwardena. Pic by Samantha Perera

The Central Bank Governor Arjuna Mahendran said yesterday that he would not rule out another rate hike this year if the foreign outflows continued. His comments came less than a week after a 50 basis point rate increase by the Central Bank.

“It was an unfortunate rate hike... we will try to keep rates and not escalate further, but they will be determined by international trends.

We will have to increase rates if the trends continue,” Governor Mahendran said. He said that the Federal Reserve rate hike in December and the recent pattern of Middle Eastern Funds pulling out investments from emerging markets had contributed to the hike in local rates and any further strengthening of the dollar and weakening of crude could lead to further rate hikes. “So to induce people to keep money in Sri Lanka, we had to give higher interest.

Raising interest rates may also stabilize the currency and calm down foreign parties,” Mahendran added. Central Bank Economic Research Director Mahinda Siriwardena said that compared to the deflationary situation last year, inflation is expected to be at about 4-5 percent for 2016, due to inflationary pressures deriving from the rupee which was let go late last year.

He said that the interest rate hike would hopefully create a cushion for inflation through a stronger rupee. The 50 basis point increase came last week amidst rapid growth in private credit, up 25 percent in 2015.

“According to Central Bank regulations, anything above 15 percent is considered excessive. It’s a sign of confidence that banks are willing to lend, and people are willing to take loans with high rates, but we are worried about defaulting loans. A lot of the lending went into imports,” Mahendran said. Central Bank Deputy Governor Dr. Nandalal Weerasinghe said that the money supply which is growing at around 17 percent is expected to fall to 12 percent late this year due to rate hikes. Despite the policy hike, Siriwardena noted that deposit rates at commercial banks have not responded at the same level as the increase in government securities. Commercial banks had increased lending rates during the past few months despite the Central Bank keeping rates steady.

However, the general consensus in the banking circle is that rates would be rising over the coming year. Keeping rates low may have been a political decision to induce consumer spending to go along with the populist interim budget after the January 2015 silent revolution, as Mahendran said that the ‘rates are now at levels of early 2015’.

Meanwhile, Mahendran noted that remittance inflows to the country had been marginally negative in 2015 due to the fall in oil prices contributing to a recruitment freeze in the Middle East. He hopes that remittances from professional expatriates in Europe and East Asia will fill the gap, and the foreign direct investments will pick up from China despite the Port City confusion. The gross reserves fell to US$ 6.3 billion in end January, compared to US$ 7.2 billion in end December.

Weerasinghe said that with the proposed US$1.5 billion borrowing proposed in the budget, reserves could be kept at the current level, despite this year’s debt servicing commitments of around US$ 4.5 billion.