Sri Lanka Central Bank Signals Rate Pause as Inflation Seen Peaking

Sri Lanka's central bank has indicated it will likely hold interest rates steady for the remainder of the year, following its unexpected 100-basis-point hike in May. Governor P. Nandalal Weerasinghe said on Tuesday that the earlier move was a proactive measure to contain inflation, which is now broadly tracking the bank's expectations.

"We need to monitor whether there will be any deviation from what we thought," Weerasinghe said, adding that any future tightening or loosening would depend on whether inflation follows the projected path. So far, he noted, no significant deviation has been observed.

The country's key inflation index rose to 7.3% in July, the highest in three years, driven largely by rising energy costs. Some analysts expect it to climb to 8% in November. However, Weerasinghe said the full impact of the May rate hike would take 12 to 18 months to work through the economy, with inflation expected to return to the central bank's 5% target in the first half of 2027.

The comments suggest the central bank is comfortable keeping its policy rate at 8.75% at least until its next announcement on September 30. The May hike, the first in over three years, was aimed at curbing price pressures fueled by the Iran war, which has disrupted global oil and gas supply routes and pushed crude prices higher.

Like other energy-importing nations, Sri Lanka has been hit hard by rising fuel costs. The government has raised fuel prices by more than 35%, introduced rationing, and declared Wednesdays a public holiday to ease the strain on public finances.

Weerasinghe defended the hawkish stance, arguing that "low inflation is a necessary condition for future growth." He expects the economy to grow at 4% to 5% this year, despite concerns that defensive measures could slow momentum. The International Monetary Fund has backed the rate hike and released $695 million from its $2.9 billion program, projecting 3% growth for Sri Lanka this year.

The governor also emphasized the importance of rebuilding foreign exchange reserves, aiming to raise them to about $8 billion by year-end from roughly $6.6 billion currently, as rising fuel import costs threaten the country's external accounts.