Stability at these rates | Daily FT
Under normal conditions, there is reason to justify a stimulus. Mainly, to repair damaged business confidence. The Purchasing Managers’ Index continued to fall month-on-month. Based on this gauge of anticipated consumer demand and economic sentiment for the coming months, a monetary boost could be just what the doctor just ordered.
With lending rates rising, economic conditions deteriorating, restrictions on imports and banks’ cautious lending practices due to high provisions for debt write-downs, the economy is bleak to say the least. A significant decrease in bank lending, which has been growing negatively since June 2022. As a result, from June to September 2022, total private sector credit to the system decreased by Rs. 177.6 billion. The steady decline in private sector loan growth further reduces the likelihood of an economic recovery.
After seeing the number of new businesses in sectors such as real estate and insurance fall from October 2022, employment also continues to fall due to an increase in retirements, emigration and resignations; the country’s skilled labor pool is now under threat. In addition, the country’s standard of living has been hit hard by the protracted economic crisis and high levels of poverty, which is hampering economic recovery. Therefore, economic incentives may be needed.
Moreover, any action that could lead to further monetary tightening can be avoided altogether, opening the door for the Central Bank (CBSL) to test monetary stimulus through loose monetary policy. Despite a 0.4% rise in non-food prices, the 0.8% drop in food prices was an important factor in the upturn in inflation. Due to sufficiently tight monetary conditions, the decline in inflation indicates that any demand pressure previously present has now fully dissipated, while cost-driven inflation has also started to gradually decline.
Therefore, in order to revive private sector credit demand and heal the badly damaged Sri Lankan economy, an appropriate direction for interest rate reduction is crucial at this stage.
Additionally, the US Fed is expected to take a less aggressive monetary tightening stance in upcoming FOMC sessions, potentially signaling a pause in interest rate hikes before the recession really hits. As a result, it is highly likely that CBSL, which is currently on the path to achieving macroeconomic stability, will choose a loose monetary policy in line with the general mood of the world to inform market participants of the way forward. However, this comes at a cost that the Central Bank should anticipate.
These recent developments are solely attributable to the continued purchase of Treasury securities by CBSL, which serves to inject liquidity into the banking system. As a result, CBSL injected Rs. 129.9 billion on November 15, in a single day, which has since cooled secondary market rates. In the past, CBSL has used a number of methods to add liquidity to the system, including overnight repo injections, forward repo injections, and outright bond purchases to increase equity securities. State up to Rs. 2.6 trillion.
Therefore, an easing of monetary policy by CBSL may not yield the expected results given the current currency crisis and reduced liquidity.
Official reserve assets continue to decline month-over-month, falling from $1.8 billion reported in September to $1.7 billion in October of $75 million. Therefore, monetary easing by CBSL at this time could harm the country’s already depleted foreign exchange reserves. Due to the ambiguity of the economic, social and political environment, there were still few foreign entries.
Net inflows of foreign capital into the stock market between June and November 2022 totaled Rs. 18.7 billion, while increases in foreign holdings of rupee bonds totaled Rs. 22.1 billion during the same period, which shows that foreign attraction is not yet strong enough to justify a cut in key rates at this time. The CBSL is at a crossroads.