Sharp contraction in economy in 2Q | Sunday Observer

Sharp contraction in economy in 2Q

25 October, 2020

Amid the delayed second quarter GDP growth figures, the economy is likely to contract sharply in the second quarter compared to the first, according to the Central Bank.

“It is likely that the second quarter this year has recorded a greater contraction than in the first, the Central Bank stated through its monetary policy stance released last week.

The release of GDP estimates for the second quarter this year by the Department of Census and Statistics (DCS) has been delayed.

However, the bank is optimistic of a recovery in the third quarter supported by monetary policy easing, political stability and some normalcy seen during the quarter.

The economy notched 1.6 percent growth in the first quarter this year down from 3.7 percent recorded in the corresponding quarter of 2019.

The World Bank in its recent projections estimates Sri Lanka’s GDP growth rate to be -6.7 percent this year. The global economy, as per the World Economic Outlook (WEO) of the International Monetary Fund (IMF) released in October is projected to contract by 4.4 per cent in 2020.

The outlook for growth in 2020 is less severe than the IMF’s previous forecast, supported by large scale policy stimuli implemented worldwide. However, the recent surge in Covid-19 cases in the country prompting re-imposing lockdown measures may dampen recovery and growth prospects. The falling unemployment rate from 5.7 percent in the first quarter 5.4 percent in the second quarter and external sector resilience have been some consolation for the economy.

The level of employment has also remained broadly unchanged in the second quarter compared to the large decline reported for the first quarter. These suggest that economic activity has remained without much deterioration in the second quarter.

Alongside the improvement in earnings from merchandise exports, restrictions imposed on the importation of non-essential goods and low crude oil prices helped narrow the trade deficit substantially during the nine months ending September 2020.

Services exports, excluding the tourism sector, continued to record a healthy growth led by computer and logistic services related activities.

Workers’ remittances continued to record a notable acceleration since June 2020.

In the meantime, Sri Lanka successfully settled the International Sovereign Bond (ISB) of US dollars 1 billion matured in early October 2020, continuing the unblemished record on debt servicing.

The exchange rate remained stable and the depreciation of the Sri Lankan rupee against the US dollar is limited to 1.5 per cent thus far during the year.

In this background, the Central Bank continued to purchase a sizeable volume of foreign exchange from the domestic market. Gross official reserves were estimated at US dollars 6.7 billion at end September 2020, which provided an import cover of 4.6 months.

Inflation is expected to remain within the desired range Headline inflation, based on the Colombo Consumer Price Index (CCPI), decelerated in September 2020, on a year-on-year basis, while there was some acceleration in the National Consumer Price Index (NCPI) based headline inflation due to the rise in food prices.

Core inflation based on the CCPI and the NCPI continued to remain low, reflecting subdued demand conditions.

The recent increase in food prices is expected to be short-lived supported by domestic supply side developments as well as the recent reduction in prices of several essential goods.

Inflation is expected to remain broadly within the desired range of 4-6 percent in the near term and over the medium term with appropriate policy measures.

Most market interest rates have declined, reflecting the impact of the measures taken by the Central Bank thus far during the year In response to the monetary easing measures effected to bring down borrowing costs of businesses and households, market deposit and lending rates adjusted notably so far during the year.

The Average Weighted Prime Lending Rate (AWPR) declined to historic lows in recent weeks, while new lending rates also adjusted downward in line with the expectations of the Central Bank.The imposition of lending rate caps on selected financial products in August 2020 has also helped bring down the overall lending rates in the market.

Further space remains for market lending rates to decline, particularly with the high level of excess liquidity in the money market, which is deposited with the Central Bank at the SDFR of 4.50 per cent at present.

Credit to the private sector picked up notably in August 2020 and the upward trend is expected to continue supported by low interest rates following the contractions recorded in the preceding three months, credit disbursed to the private sector expanded notably in August 2020, reflecting the impact of low lending rates as well as concessional credit schemes.

The expansion of credit to the private sector is expected to continue in the period ahead, despite the recent rise in Covid-19 infections, which is expected to be short-lived.

The overall domestic credit continued to expand sharply driven by the substantial increase in credit to the public sector.

Accordingly, the growth of broad money further accelerated in August 2020. The Central Bank will maintain the current accommodative monetary policy stance. The Board decided to maintain the Standing Deposit Facility Rate (SDFR) and the Standing Lending Facility Rate (SLFR) of the Central Bank at their current levels of 4.50 per cent and 5.50 per cent.