The International Monetary Fund earlier this month while praising the government’s efforts to contain a balance of payments crisis said inflation would increase, reaching 9.5 percent the end of this year and it urged the Central Bank to adopt a tight monetary policy which would raise interest rates.
"The rate of inflation as measured by the Colombo Consumers’ Price Index on a year-on-year basis increased 9.3 percent in June 2012 from 7 percent in May 2012. The annual average inflation increased marginally to 5.8 percent in June, from 5.6 percent in May," the government statistics office said.
"On a year-on-year basis, the highest contribution to the overall increase of around 64 percent came from non-food commodities which increased by 6 percent in June 2012. Among the food commodities, vegetables and fish and sea food which have significant weights in the CCPI basket recorded price increases on a year-to-year basis. Under the non-food category, the prices of Kerosene Oil, Petrol, Diesel and Gas rose by 74 percent, 19 percent, 44 percent and 26 percent respectively," it said.
By ignoring a balance of payments problem during the latter half of 2011, the policy measures taken to rectify the issue since early February this year has resulted in the adjustments being a heavier burden on the people.
With fiscal operations coming under strain, the Central Bank would face a challenging time ensuring price stability, which is possibly an impossible task as reported in these pages yesterday.
The following analysis from Lanka Business Online (LBO) sheds some light into the chronic problems faced by the economy.
"Sri Lanka’s rupee fell from 110 to 133 rupees over the past year, following contradictory monetary policy conducted by the Central Bank which pushed credit to unsustainable levels and triggered a balance of payments crisis. Sri Lanka’s inflation last hit these levels in January 2009 when prices rose 10.7 percent from a year earlier, during the island’s previous balance of payments crisis.
"Sri Lanka gets into frequent balance of payments crises because the island has a so-called soft pegged Central Bank which sterilizes foreign exchange sales with printed money and tries to control interest rates and exchange rates simultaneously.
"Sri Lanka’s central bank has been able to keep inflation to low single digits for nearly three years, but the monetary authority failed to raise rates in early 2011 when inflation spiked sharply and the stock market was bubbling amid a credit boom.
"Later when rulers manipulated oil prices with large volumes of bank credit, the central bank also failed to allow rates to rise. Authorities have also manipulated the inflation index.
"Analysts say the Central Bank should target a very narrow inflation rate of around 2.5 to 3.0 percent and stop manipulating the inflation index to avoid balance of payments crisis and high inflation in the future.
There have also been calls to abolish the Central Bank and return to a pre-1951 currency board to prevent exchange rate depreciation and high inflation."