Financial Times

Interest rates at appropriate levels - Central Bank
The Central Bank said last week that while its policy rates were at the appropriate level, it was continuing to monitor developments in monetary aggregates and other macroeconomic data and will revise its monetary policy stance as appropriate.
"The Central Bank has reviewed the current economic developments and is of the view that the performance in the economy has been broadly in line with its original projections," the statement issued under the bank's monthly review of monetary policies, said. It said the next statement on monetary policy would be made on December 18.

Trends in macroeconomic indicators signal the ongoing recovery in the economy while output in the agriculture and industrial sector continue to grow. Inflation and inflationary expectations have fallen further, the bank said adding that while the external sector continues to perform well, money supply and private sector credit were gradually picking up and markets were continuing to adjust to the last revision in the Central Bank's policy rates.

Here is the statement in full:
Real Sector: Output Growth
Output in plantation agriculture has continued to expand with improved rubber prices in the international market and better weather conditions, although the output for tea is expected to be lower than in 2002 due to the impact of the flood. Paddy output in 2003 is expected to be the highest on record with bumper harvests expected in both the Maha and the Yala harvests. Industrial output, particularly in the export-oriented industries, has continued to grow, buoyed by the recovery in international markets.

Inflation
The downward trend in inflation continued through October. The annual average growth of the Colombo District Consumers Price Index (CDCPI) declined from 3.1 percent in September to 2.7 percent in October, while the annual average growth of the Colombo Consumers' Price Index (CCPI) declined from 7.6 percent in September to 7.2 percent in October. The cumulative decline in the annual average growth in inflation from end December 2002 to end October 2003, as measured by the CCPI, has been 2.4 percent.

Meanwhile, the 12-month moving average of the Sri Lanka Consumers' Price Index (SLCPI) declined from 4.8 percent in August to 4.3 percent in September. On the supply side, improved agricultural production, lower import prices, the containment of wage increases and a relatively stable exchange rate have helped reduced the pressure on prices, while a cautious monetary policy stance has prevented the build up of demand fuelled inflationary pressures.

External Sector
The recovery in international trade has gathered momentum. Exports have grown by 11 percent (US dollars 3,341 million) in the period January to August 2003, while imports have grown by 9 percent (US dollars 4,217 million).

Exports and imports for the first eights months of 2003 have exceeded the levels recorded in 2001, emphasising the recovery. The trade deficit widened marginally during the period January to August 2003 to US dollars 876 million compared to US dollars 866 million in the corresponding period in 2002.

The improvement in the external trade performance and growth in tourism and port services, as well as higher private remittances and foreign inflows for public and private investment, have increased foreign exchange liquidity in the market. This has enabled the Central Bank to purchase US dollars 362 million up to end October from the market to build up its official reserves.

The country's gross official reserves have increased to US dollars 2,258 million by end September, which was equivalent to around 4.2 months of imports. Total gross international reserves have increased to US dollars 3,037 million, which was equivalent to around 5.6 months of imports by end September 2003.

Foreign Exchange Market
The rupee has stabilised in the second half of October, after displaying a relatively greater degree of volatility in late September and early October. By end October, the rupee had appreciated by about 2 percent against the US dollar, while depreciating against other major currencies, such as the euro (7.9 percent), the sterling pound (3.4 percent) and the Japanese yen (6.3 percent).

Although there has been a nominal appreciation of the rupee vis-à-vis the US dollar, the continuing decline in domestic inflation and the depreciation against other currencies, have resulted in a depreciation of the 24-currency real effective exchange rate (REER) by 4.4 percent to end October, reflecting an improvement in the country's external competitiveness, from the point of view of the exchange rate.

Fiscal Sector
Although there are indications that the fiscal outturn for 2003 may exceed the original target envisaged in the budget, the deficit is expected to be significantly lower than the outturn in 2002. The major cause for the deviation is the shortfall in government revenue, particularly tax receipts, as government expenditure is expected to be contained below the original budgeted level.

Lower government expenditure has been due to savings on interest payments and strict controls on recurrent expenditure, as well as restrictions on the release of funding for low priority capital expenditure.

Monetary Sector
Growth in broad money supply (M2b), on a point-to-point basis, increased to 12.9 percent in September 2003 from 12.1 percent in August. The major factors for this growth in money supply were the increase in net foreign assets (NFA) and private sector credit.

Growth in private sector credit has increased to 15 percent in September, which is consistent with the growth envisaged for the year as a whole. Credit to the government has continued to fall, although there was a temporary increase in credit to corporations.

Interest Rates
The Central Bank's policy interest rates, i.e., Repo and Reverse Repo rates, have been revised downward so far in 2003 by 275 basis points and 325 basis points, respectively, with the last revision to rates being made in October 2003. After the latest revision Repo rate and Reverse Repo rates are currently at 7.00 percent and 8.50 percent, respectively.

Consequent to the reduction in the CBSL rates and continued liquidity in the market, call market rates also declined to around 7.30 - 7.60 percent at end October. Commercial banks have indicated a reduction in lending rates between 0.5 percent to 2 percent consequent on the reduction in the Central Bank's policy rates.

The Central Bank will continue to monitor and publish the movement in market rates to ensure that the benefits of the reduction in interest rates are passed through to all sectors of the economy. The Treasury bill yield rates have continued to decline. Yields on 91-day and 364-day Treasury bills have declined by 285 basis points and 293 basis points, respectively, from end 2002 to end October 2003.

Treasury bond rates have also declined across all maturities. The weighted average yield on 6-year Treasury bonds has fallen by 439 basis points over the yield prevailing at end December 2002.

With a view to further extending the default risk free yield curve, a 20-year bond was floated on 20 October 2003 with a coupon rate of 7 percent. However, the weighted average yield rate at the auction was 6.08 percent, as bids in excess of the offer amount were received at a premium.

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