Economy expanding at 7.5 percent growth

Macroeconomic conditions in Sri Lanka remain satisfactory and the economy is expanding at 7.5 percent this year. As expected, headline inflation has moderated, reflecting decline in food and commodity prices, and there are no clear signs of economic overheating, as yet said the head of the IMF Stand-by Agreement review mission Dr.Brian Aitken.

The seventh Staff Mission was in Colombo from August 29 - September 7 and met government and Central Bank officials, representatives of civil society and the private sector.

Dr.Aitken said that the overall monetary policy stance appears appropriate. Nonetheless, sustained rapid credit growth bears close monitoring and may need to be slowed to prevent future inflationary pressure. Banks and other financial institutions should also guard against a relaxation of lending standards and the accompanying risk of a build-up of non performing loans.

Fiscal performance has been satisfactory and the government's 2011 deficit target is still within reach. The government is now preparing its 2012 budget and remains committed to continue with recent trends toward fiscal consolidation. The state energy enterprises' recent performance, however, remains a concern. Given the lack of rains and high international oil prices, current policies would result in financial losses at the Ceylon Electricity Board (CEB) and Ceylon Petroleum Corporation (CPC) this year.

The uncertain global environment underscores the importance of continuing to build foreign exchange reserves. While headline reserves are at a comfortable level, buoyed by the Central Bank's purchase of the proceeds from the recent 10-year Eurobond, non borrowed reserves-that is, excluding Eurobonds, IMF disbursements, and foreign holdings of Treasuries-have steadily declined, reflecting foreign exchange sales by the Central Bank. This policy does not seem to be in line with the current fundamentals of the economy. In responding to market pressures, the Central Bank should henceforth limit its intervention and allow more exchange rate flexibility. Flexibility in the exchange rate, which has appreciated substantially in real terms over the past two years, is also an essential component in ensuring Sri Lanka's export competitiveness, he said.

GW