Sri Lanka Cuts Rates as Economy Grew at Slowest Pace Since 2003

By Cherian Thomas

March 18 (Bloomberg) -- Sri Lanka’s central bank lowered interest rates for the third time in three months after the island’s economy expanded last quarter at the slowest pace since at least 2003.

The Central Bank of Sri Lanka cut the penal interest rate to 14.75 percent from 16.5 percent, according to a statement posted on the bank’s Web site today. The economy expanded 4.3 percent in the three months to Dec. 31 from a year earlier, the statistics agency said in a separate report in Colombo.

The 175 basis point cut in rates today came before the International Monetary Fund imposes conditions on Sri Lanka in return for an emergency loan sought by the country to make payments for imports and debt. Pakistan, for example, was directed last year by the Washington-based lender to raise rates if its foreign-exchange reserves fall below a monthly floor.

“Sri Lanka has been following a tight monetary policy since 2007 to control inflation and it has to slacken now,” said Bimanee Meepagala, an investment analyst at Eagle NDB Fund Management Co. Ltd. in Colombo. “Lowering rates will be of paramount importance to boost economic growth.”

Sri Lanka’s central bank said that steps taken so far will help “promote demand and support economic activity.” The growth figure released today was the smallest since quarterly data was first compiled in 2003.

The central bank said March 4 it is in talks with the IMF for a $1.9 billion loan to repay debt and rebuild the country as a 26-year civil war draws to a close. It said negotiations may be completed by the end of this month.

Dwindling Reserves

Since August, the South Asian nation has spent half its foreign reserves, now $1.7 billion, on supporting its currency, paying debt and imports. It needs another $900 million for loan repayments in 2009. The reserves aren’t getting replenished as the ailing world economy pummels exports and overseas investors flee emerging markets.

Sri Lanka raised $184.25 million selling two-year dollar- denominated bonds, less than the $200 million it had planned, the central bank said yesterday.

President Mahinda Rajapaksa’s government turned to the IMF for a bailout, avoiding devaluation of the nation’s currency, to conserve reserves. Securing financing from other countries was challenging for the nation, which has a credit rating from Standard & Poor’s that is only higher than Bolivia, Pakistan, Grenada, Argentina and Lebanon. Fitch Ratings downgraded its outlook on Sri Lanka last month.

Governor Nivard Cabraal began easing borrowing costs from November, taking advantage of dropping commodity prices, to stimulate local consumer demand as exports waned.

Weaker Exports

Consumer prices in the capital Colombo rose 7.6 percent in February from a year earlier, the lowest in three years.

Exports from Sri Lanka fell 19.1 percent in December, the most in six years, as demand for the nation’s tea and textiles declined from the U.S. and Europe.

Sri Lanka’s government expects agriculture to be a vital support to growth in the coming quarters as areas controlled by the rebel Liberation Tigers of Tamil Eelam are liberated.

The government says it is on the verge of defeating the Tamil Tigers, who are fighting for a separate Tamil homeland. The army says it has driven the LTTE into an area of less than 55 square kilometers (21.2 square miles) in the northeast after capturing its main bases since January.

To contact the reporter on this story: Cherian Thomas in New Delhi at Cthomas1@bloomberg.net.