August 23, 2019 / 2:47 AM / 6 months ago

UPDATE 3-Sri Lanka surprises markets with rate cut to boost growth

* cuts rates for second time in 4 months

* to impose bank lending rate cap if borrowing costs not reduced

* Growth in 2019 projected at 3.1% - cenbank chief

* Economy in Q2 likely to have expanded at 2.1% (Adds cenbank chief comments)

By Shihar Aneez

COLOMBO, Aug 23 (Reuters) - Sri Lanka’s central bank unexpectedly cut interest rates for the second time in four months on Friday to boost sluggish growth after tourism and investments plummeted following deadly Easter Day bomb attacks by Islamist militants.

It also warned banks that it would put caps on their lending rates if they failed to reduce borrowing costs for businesses and individuals.

The Central Bank of Sri Lanka (CBSL) slashed the standing deposit facility rate (SDFR) and standing lending facility rate (SLFR) by 50 basis points (bps) to 7.00% and 8.00%, respectively. A Reuters poll had expected the bank to keep both rates steady.

It had cut rates a similar amount in May to support the economy after the attacks.

The latest cut also comes ahead of a presidential election later this year.

Economic growth had already slowed to a 17-year low of 3.2%in 2018 and central bank chief Indrajit Coomaraswamy said on Friday it is expected to dip to 3.1% this year. A Reuters poll has predicted growth will be its lowest in nearly two decades this year.

“Although economic growth is expected to recover gradually towards its potential in the medium term, domestic and global headwinds are likely to delay this recovery,” the central bank said in its monetary policy statement.

“Therefore, it is essential that the available policy spaces are utilised to support productive economic activity without disrupting the improvements achieved in relation to macroeconomic stability.”

Coomaraswamy said initial indications showed growth in the second quarter was 2.1 percent.

The tourism sector, Sri Lanka’s third-largest source of foreign currency, was badly hit by the April 21 attacks by Islamist militants that killed more than 250 people.


Addressing concerns that commercial banks have been slow to pass on earlier rate cuts, Coomaraswamy told a news conference: “We will go with individual lending rate caps for banks if the lending rates do not come down on a specific time limit.”

Market rates were already on the decline but the warning might make them come down faster, said Danushka Samarasinghe, CEO at Softlogic Capital Markets.

“This will boost economic activity ahead of the election. However, the concern is this move will lead to foreign outflows and will weaken the rupee as a result.”

Capital Economics said Friday’s rate cut is likely to be the last for 2019.

“The main reason being that the currency is likely to come under renewed pressure,” it said in a research note.

“Sri Lanka’s poor external position means that the rupee is exposed to sudden shifts in investor sentiment and its high level of foreign currency denominated debt means that the CBSL cannot afford to let the rupee depreciate too much,” it added.

Pressure on the rupee has been building since early this month as foreign investors started to pull out funds in line with outflows from other emerging markets.

The rupee fell 0.3% to touch 180.00/05 per dollar and the main stock index closed 0.11% weaker after the rate cut.

“The pressure on the rupee will build up with a lag effect, but if the economy picks up, the pressure on the rupee could ease,” said a currency dealer.

The government’s finances remain under pressure with a heavy external debt repayment schedule between 2019 and 2022. (Reporting by Shihar Aneez; Editing by Simon Cameron-Moore and Darren Schuettler)

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