Financial Times

Higher oil prices and interest rates on the cards?
By Nikita Tissera
US President George Bush's re-election may mean trouble for the Sri Lankan consumer as international oil traders believe it could lead to higher crude oil prices. Meanwhile domestic interest rates are set to rise putting further pressure on the budget.

Although crude oil prices fell last week on news of higher US inventories, traders expect the Bush victory to point to higher prices in the longer term. Higher crude oil prices are likely to lead to across-the-board increases in transport and other essential commodity costs fuelling inflation and dragging interest rates up.

Fears of higher interest rates have kept the money markets dull with few players willing to take up a position at existing rates, money brokers said. Many fund managers believe that interest rates are on the way up, which would reduce the value of money market instruments.

"In the last 20 months of activity, the inflation figure measured by the Colombo Consumer Price Index was on average higher than the one year treasury bill rate causing investors' real return to be negative," said Hasitha Premaratne, head of research at HNB Stockbrokers.

"This anomaly has been corrected (by rising interest rates). One possible alarming factor that would push the rates up is the budget deficit, which is forecast to be 8.8 percent of GDP. As long as the government looks at the non-banking sector to finance the deficit, there is little reason to be cautious but the possibilities of doing so are rather narrow. The moment the government looks to the banking sector for funding the deficit, ballooning inflation seems inevitable."

Channa Amaratunga of Asia Capital said there could be no immediate brightening up of the economic situation. "There is very little action in the secondary (money) markets and in the primary auctions we see mostly the state institutions doing the bidding trying to keep the rates low in line with Central Bank policies. But only in the secondary markets can we see a true indication of where the markets are heading. We see pressure on the domestic currency, widening of the fiscal deficit and lack of non-banking alternatives to fund it," Amaratunga added.

The government is looking really hard to increase its tax revenue with a new tax on capital gains on trading of securities, which would have retrospective effect. This tax would be effective for gains made from April 1, 2002.

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