CB begins monetary tightening; increases SRR by 150bps

31 December 2015 02:45 am - 0     - {{hitsCtrl.values.hits}}

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Central Bank yesterday kicked off the monetary tightening process by raising the Statutory Reserve Ratio (SRR) by 150 basis points (bps) to 7.5 percent, though the bank kept the policy rates unchanged.

 Commercial Banks will now have to keep 7.5 percent of their deposits with the Central Bank whereas the pervious requirement was 6 percent. 
 The Central Bank last changed the SRR in mid 2013 when it was reduced by 200 basis points.

 It was widely expected that the Central Bank would raise the rates giving the much-needed breather for the depreciating rupee. A Reuters poll had predicted a 25 basis point rise in policy rates.

 Yet, the Standing Deposit Facility Rate (SDFR), the rate at which the overnight excess liquidity is absorbed and the Standing Lending Facility Rate (SLFR), the rate at which overnight excess liquidity is injected were kept steady at 6 percent and 7.5 percent, respectively. 

 However, the increase in SRR came as a surprise, as in the present context, much heed is not paid to the SRR as an efficient monetary measure.

 “If the current excess liquidity in the domestic money market continues to remain high for an extended period, it could lead to an undue expansion in monetary aggregates, fueling future inflation in the economy,” the Central Bank said in yesterday’s monetary policy review.

 “In that respect, the Monetary Board is of the view that it is appropriate to restrain the build-up of demand-side pressure on inflation to ensure continued monetary and price stability.”

The year-on-year growth of broad money (M2b) continued to expand at a high rate of 17 percent in October 2015 compared to 16 percent recorded in the previous month, driven by the expansion of credit extended to both private and public sectors by the banking system.

Credit granted to the private sector by commercial banks increased by 26.3 percent, year-on-year, compared to 22.2 per cent in the previous month.
“Tentative data for November 2015 also shows that credit flows to the private sector continue to expand at a high rate. Meanwhile, excess liquidity in the domestic money market continues to remain high, fuelling monetary expansion,” the Central Bank said.

As a result, the headline inflation, as measured by the Colombo Consumers’ Price Index increased to 3.1 percent, on a year-on-year basis, in November 2015 from 1.7 percent in October 2015.

On an annual average basis, headline inflation increased to 0.9 percent in November 2015 compared to 0.7 per cent in the previous month.

The Sri Lanka rupee has depreciated by 8.8 percent against the US dollar so far in 2015. But the Central Bank seems to be of the opinion that the depreciation of the rupee as an adjustment to the external sector may not be sufficient.

In the first ten months of the year trade gap widened by 2.5 percent to US $ 6,936 million reflecting the continued increase in non-oil imports.
Gross official reserves, which stood at US $ 6.5 billion at end October 2015, are estimated to have increased to around US $7.3 billion by end November 2015.

“Notwithstanding these developments, the Monetary Board is of the view that external sector policies already implemented need to be further supported by some monetary policy tightening.”

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