Central Bank goes ahead with single policy interest rate amid deflation

The Monetary Policy Board of Sri Lanka's Central Bank decided that, starting on Wednesday, it is going ahead with a single policy interest rate mechanism from the dual policy interest rate mechanism

This is as announced in the Annual Policy Statement in January 2024 and the announcement in September 2024 that the operationalisation of the single policy interest rate mechanism is proposed to be implemented.

It marks another major enhancement in the flexible inflation targeting (FIT) framework implemented by the Central Bank.

The economy is now growing at a steady rate of 4–4.5 per cent, buoyed by price reductions and improving conditions. Deflation is expected to persist in the near term, supporting ongoing economic recovery, Central Bank Governor Nandalal Weerasinghe disclosed at a news conference on Wednesday.

Sri Lanka has entered a deflationary phase for the second consecutive month, with inflation falling to -0.8 per cent in October 2024 from - 0.5 percent in September 2024.

The Central Bank Governor says this deflation is not harmful but a necessary correction after prolonged high inflation.

The Central Bank cites the deflation on several factors, including administrative price adjustments that have reduced the cost of food, fuel, and utilities such as water and electricity, and the appreciation of the Sri Lankan Rupee, which has reduced the cost of imports.

With the reduction in the cost of imports, domestic demand for local goods has fallen, depressing prices further.

Governor Weerasinghe pointed out that deflation brings down the cost of living for consumers and reduces the cost of production for businesses. This development comes with the Central Bank deciding to reduce the policy interest rate to 8.0% per cent from the previous range of 9.25–8.25 per cent.

In pursuance thereof, and upon due deliberation by the Monetary Policy Board of the Central Bank, a single rate mechanism is promulgated. Accordingly, effective 27th November 2024, the OPR shall be at 8.0 per cent, replacing the Standing Deposit Facility Rate and the Standing Lending Facility Rate. Both the SDFR and the SLFR shall be referenced on the OPR at ± 50 basis points at 7.5 per cent and 8.5 per cent respectively.

The decision of the Board reflects confidence in the moderating inflationary pressures, favorable external economic environment, and an aim to achieve a long-term inflation target of 5 per cent. The simplified monetary policy framework will further enhance clarity and effectiveness of policy operations, hence stability, as Sri Lanka continues its economic recovery.

The Governor further said that this deflationary trend was a turning point for the country, as it relieves financial burdens on both households and businesses while guiding the economy to attain sustainable growth. (Bandula )