Sri Lanka cuts rates to spur growth after Easter attacks

Sri Lanka’s central bank cut its key interest rates on Friday, as widely expected, to support its faltering economy as overall business and consumer confidence slumped in the wake of last month’s deadly bomb attacks.

The Central Bank of Sri Lanka cut both the Standing Deposit Facility Rate (SDFR) and the Standing Lending Facility Rate (SLFR) by 50 basis points each to 7.50% and 8.50%, respectively. A Reuters poll of 14 economists had expected both rates to be cut.

In its policy statement, the central bank said market lending rates had failed to show any sign of “commensurate downward adjustment” despite recent liquidity injections and declines in the call money rate, government bond yields and the maximum interest rates on deposit products.

Sri Lanka’s junior finance minister, Eran Wickremeratne, told Reuters last week the economy was unlikely to hit its full-year economic growth target of 3-4% following the bomb attacks.

A Reuters poll has predicted growth would slump to its slowest in nearly two decades this year.

Central bank governor Indrajit Coomaraswamy expects the economy will grow by 3% or less than 3% this year.

“We will revise the original projection of 4% after the attacks,” he told reporters in Colombo in a post-policy rate news conference.

The economy had already been struggling with growth at a 17-year low of 3.2% in 2018 as a protracted political crisis and past policy tightenings sapped business confidence and cooled investment.

In April, private sector credit growth slowed to a near 5-1/2-year low of 8.8 per cent, central bank data showed.

The Easter attack has badly hurt Sri Lanka’s tourism sector - the country’s third-largest source of foreign currency and its fastest-growing - while many corporates have put their investment and expansion plans on hold, analysts say. Islamic State has claimed responsibility for the attack.

The central bank said the Easter Sunday attacks, which killed more than 250 people, have affected confidence and disrupted tourism although it is yet to assess its full impact on the economy.

“Although normalcy is gradually returning to economic activity, a lower than initially projected growth could be anticipated during 2019,” it said.

Analysts said the rate cuts would help growth, but at the expense of stability in the country’s financial markets, as lower rates put pressure on the local rupee and drive foreign funds out of domestic bonds.

“This will significantly affect the lending rates, already last week we saw average weighted prime lending rates coming down by about 38 basis points, so we expect that trend to continue and lending rates to slowly come down,” said Dimantha Mathew, research head, First Capital Holdings.

“Beyond August and September, we will start seeing real credit growth.” The rupee, which fell to a record low in early January due to foreign outflows from government securities and political uncertainties, has bounced more than 3.6% since then.

Government finances also remain shaky, and the island nation has a heavy external debt repayment schedule between 2019 and 2022.

The government is planning to raise up to $1.5 billion via sovereign bonds, tapping global capital markets for the second time in three months as it seeks new funds to repay loans.

Sri Lanka rupee closed steady at 176.40/50 rupees to the US dollar on Friday and gilt yields edged higher on profit taking in the secondary market even as the Central Bank cut policy rates to revive credit demand, while stocks ended 0.26 per cent lower, market participants said.

The rupee ended at 176.40/50 rupees against the greenback in the spot market on Thursday.

Sri Lanka’s central bank cut its policy corridor by 50 basis points to 7.50 per cent and 8.50 per cent as a credit contraction has made the floor rate the active policy rate.

Overnight call money was quoted at 7.94 per cent end of day Friday, down from 8.43 per cent the previous day, and the repo was down to 8.07 per cent from the previous day’s 8.58 per cent closing.

In the secondary bond market, yields were higher on profit taking as investors had already anticipated and factored in the rate cut, dealers said.

In equities, Colombo’s All Share ended 13.59 points lower at 5,310.95 and the S&P SL20 index of more liquid stocks fell 0.33 percent, or 8.27 points, to 2,469.82.

Market turnover was 167.7 million rupees with 47 stocks gaining and 64 declining.

Asiri Hospital Holdings (down 1.20 rupees to 19.30 rupees), John Keells Holdings (down 0.70 cents to 137.30 rupees) and Commercial Bank (down 80 cents to 91.60 rupees), contributed to the benchmark index decline.   Net foreign selling was 11.3 million rupees against net foreign buying of 42.4 million rupees on Thursday.

Agencies