Sri Lanka’s CBSL Introduces New Single Benchmark Rate and Eases Policy

Sri Lanka’s Central Bank Takes Major Step to Support Economic Recovery

In a move designed to foster recovery in the wake of a financial crisis, Sri Lanka’s central bank, the CBSL, has simplified its monetary policy by introducing a new single benchmark rate set at 8 percent. This adjustment aims to enhance the country’s fragile economic recovery.

This decision signifies a noteworthy shift, as the traditional standing deposit facility rate and standing lending facility rate will no longer serve as the bank’s primary policy interest rates. However, banks may still utilize these rates for their borrowing and lending needs.

The implementation of an overnight policy rate (OPR) is particularly aimed at facilitating smoother market adjustments to lower interest rates, thereby encouraging economic growth. The CBSL stated that this change results in an effective reduction of around 50 basis points in the policy interest rate from the average weighted call money rate, which continues to be the operating target within the Flexible Inflation Targeting framework.

With the introduction of this new policy rate, the standing deposit facility rate will now be 7.50 percent, while the standing lending facility rate will be 8.50 percent. This strategy intends to guide inflation toward the target of 5 percent, while also stimulating economic capacity.

Several factors influenced the CBSL’s decision, including unexpectedly deep deflationary trends, a moderation of inflationary pressures, and a more favorable external economic climate. Currently, headline inflation remains in negative territory, a trend witnessed since September. Additionally, inflation expectations have continued to decline since the last monetary policy assessment.

Despite these promising signs, the country is grappling with an expanding merchandise trade deficit due to a significant rise in import expenditures relative to export revenues in the nine months leading up to September 2024. As Sri Lanka navigates these economic challenges, the central bank’s recent actions reflect a proactive approach to revive the economy and ensure stability in the financial system.