IMF warns Sri Lanka of uncertain outlook, loose monetary, fiscal policies

[December 10, 2015]    By Shihar Aneez and Ranga Sirilal

COLOMBO (Reuters) - The International Monetary Fund (IMF) on Thursday warned Sri Lanka of an uncertain economic outlook, loose monetary and fiscal policies and urged appropriate action including structural reforms to safeguard economic stability.

The IMF, which ended a $2.6 billion loan in mid-2012, said improvements in the business climate, reform of state-owned enterprises and a more open trade regime were key to boost competitiveness and growth.

The latest IMF warning comes ahead of the passage of the 2016 budget on Dec. 19 and a week after Prime Minister Ranil Wickremesinghe said Sri Lanka would seek an IMF stand-by arrangement to fend off risks from impacts of events affecting major economies next year.

"Deterioration in the overall balance of payments, the loss of central bank foreign exchange reserves, the weak state of public finances, and growing public debt are reasons for concern," the IMF said in a statement.

The global lender said tighter fiscal and monetary policies could help restrict aggregate demand, contain a recent sharp rise in imports and strengthen the external balance.

However, the IMF said, these policies should be supported by greater flexibility in the exchange rate, reduced foreign exchange intervention, efforts to deepen the foreign exchange market and structural reforms to enhance competitiveness.

Even though the rupee was floated on Sept. 4, dealers say the central bank intervenes in the market to prop up the currency, which has fallen 6 percent since then.

The central bank sold a net $800 million in September and October to defend the currency, data showed, which officials said was to facilitate oil imports and foreign outflows from government securities.

Economists say a flexible exchange rate alone would not help Sri Lanka get rid of its external vulnerability as its loose monetary and expansionary fiscal policies weigh on the currency.

The depletion of reserves comes amid higher foreign borrowing. Sri Lanka has borrowed $2.15 billion through two 10-year sovereign bonds and more than $1.7 billion from development bonds this year. It has also used a $1.5 billion swap from the Reserve bank of India.

"Weak external liquidity is a central sovereign credit weakness," Andrew Colquhoun, head of Asia-Pacific Sovereigns at Fitch Ratings told Reuters, adding that 2016 would be a challenging year due to an expected U.S. interest rate rise and stronger dollar.

Official foreign currency reserves stood at $7.3 billion on Nov. 30 but are under pressure as $4.75 billion is expected to be repaid on foreign loans before November 2016, central bank data showed.

(Reporting by Shihar Aneez and Ranga Sirilal; Editing by Robert Birsel)

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