Central Bank to ease monetary policy stance

The Monetary Board had decided to reduce the penal rate of interest charged on reverse repurchase transactions with the Central Bank by 200 basis points to 17 per cent with immediate effect.

The penal rate now serves as a ceiling on overnight interest rates and as a benchmark rate for other market rates. The Central Bank has decided to ease its monetary policy stance in view of the declining inflation and inflation expectations as well as the gradual decrease in market interest rates including yields on Government securities. This reduction in the penal rate will lead to a further reduction in market rates of interest.

The significant decline in inflation over the past six months and the favour able outlook for inflation during 2009 has enabled the Central Bank to facilitate a reduction in market interest rates. Inflation as measured by the year-on-year change in the Colombo Consumers' Price Index (base-2002), which reached 14.4 per cent by end 2008, is expected to further decelerate to a single digit level before mid-2009.

The Central Bank expects inflation to remain at modest levels thereafter, guided by its policies aimed at monetary stability. If the declining trend in price increases continues as expected, the Central Bank will consider further easing its monetary policy stance, enabling financial intermediaries to reduce the rates at which they lend to borrowers further.

The pass-through of the reduction in the penal interest rate to market interest rates will help buoy economic activity and sustain economic growth in the face of declining external demand with the continuing global economic slow-down. The Central Bank expects banks and financial institutions to reduce their interest rates accordingly and pass the benefits of this reduction to customers.