People walk past the main entrance of the Central Bank of Sri Lanka in Colombo, Sri Lanka.
COLOMBO Reuters - Sri Lanka's central bank has raised key interest rates to the highest level in two decades to bring down record inflation despite the country wilting under a devastating economic crisis.
With foreign exchange reserves at a record low, the island nation is struggling to pay for essentials like food, medicine and fuel. Growth has been stifled - the economy contracted an annual 1.6 percent in the January to March period and is expected to have shrunk more in the second quarter.
Inflation was at a record 54.6% year-on-year in June, while food inflation soared to 80.1%, prompting the central bank to raise rates to address the rise in prices as a priority.
The standing lending facility rate was raised by 100 basis points to 15.50%, while the standing deposit facility rate was raised to 14.50%, the highest since August, 2001.
The Board was of the view that further monetary policy tightening would be necessary to contain any build-up of adverse inflation expectations, the central bank said in a statement.
There is progress made in negotiations with the International Monetary Fund IMF for a credit facility while negotiations are on with bilateral and multilateral partners to secure bridge financing and to reduce shortfall in reserves, according to the central bank.
According to Dimantha Mathew, Head of Research at First Capital, there has been a change in the stance of the central bank, possibly after discussions with the IMF.
He said that he doesn't think they are concerned about growth and have shifted their focus to easing currency pressure and money printing to help stabilise the economy.
The central bank believes a contraction of 4% to 5% this year, with inflation expected to hit 60% by the end of the year, as the prime minister Ranil Wickremesinghe told parliament on Tuesday.
The central bank also said that the central bank said that ensuring external sector stability and overall macroeconomic stability would require commitment from all stakeholders in the economy and it called for consistent and coherent action, including from the government.
It said that there was need for more fiscal reforms to be implemented to strengthen government revenue and expenditure rationalisation, as well as improvements in the financial position of state-owned enterprises.
It said these measures would lead to a decline in government financing needs over time and to help scale down monetary financing at a faster pace.
In August, Sri Lanka is expected to present an interim budget to parliament, which will include new revenue measures and cuts in expenditure, Wickremesinghe told parliament last month.
After a ten-day visit to the country last month, the IMF indicated the need for stronger fiscal measures to put public finances back on track and boost debt sustainability.
Sri Lanka wants to get a $3 billion extended financing program from the International Monetary Fund, which would help it unlock other bridge financing options to pay for essential imports.
Sri Lanka hopes to hold a donor conference with the participation of China, India and Japan after a staff level agreement is reached with the International Monetary Fund in August, and will present its debt sustainability framework to the global lender by August.