CBSL to fully adopt FIT framework by 2020

The Governor of the Central Bank of Sri Lanka (CBSL), Dr. Indrajit Coomaraswamy yesterday announced that CBSL plans to fully adopt the Flexible Inflation Targeting (FIT) framework by 2020 to enhance economic growth through investments while noting that the Government needs to clear legislative barriers.

Unveiling CBSL’s ‘Road Map 2018’ at Colombo CBSL premises he said that as the agent for macroeconomic stability, the CBSL will always work hand in hand with the Government to enhance economic growth by maintaining low and stable inflation and ensuring financial system stability.

“We strongly believe that the Government would continue its fiscal consolidation measures, which will support us to pursue our policies towards macroeconomic stability. In particular, this will be a necessary condition for us to successfully adopt Flexible Inflation Targeting (FIT) as the monetary policy framework as planned,” the governor said.
Coomaraswamy acknowledged that Sri Lanka has now progressed into a time-bound plan to make this leap towards FIT a reality while noting that the period starting from 2018 will be vital in laying out required reforms to facilitate a smooth transition to a FIT framework.

However, he admitted that the CBSL alone couldn’t manage inflation and inflation expectations in the economy as it was not able to influence supply side factors affecting the same.
“In this regard, timely support of the Government is necessary in dampening supply shocks, thereby anchoring inflation,” said Coomaraswamy.

The Governor noted that prolonged headline inflation could change inflation expectations, transferring inflation to the demand side.
He also pointed out that FIT would pave the way to a deeper and liquid financial market which will be a catalyst for effective transmission of monetary policy actions of the CBSL.
He reiterated that several key milestones will be reached over the next three years through joint efforts and the commitment of the Government and the Central Bank to fulfill key prerequisites of the FIT framework.

The legal amendments, continuation of fiscal consolidation, institutionalization of the required changes to the monetary and fiscal policy processes, and building the awareness and confidence of the general public are the priorities in the near future, before the official transition to the FIT framework by 2020.
Meanwhile, CBSL expects the automatic pricing mechanisms for fuel and electricity to be introduced in March and September 2018, respectively.

“It will go a long way towards reducing the future financial losses of key SOEs and avoiding large, ad hoc adjustments in retail prices. Not only will this be supportive of the effective conduct of monetary policy, but it will also have a positive impact on the balance sheets of both the Government and the State banks,” Coomaraswamy said.

“Our motivation for adopting inflation targeting as the monetary policy framework was signaled a number of years ago, as we recognized it as the most appropriate way to escape the high inflation – low growth trap. The weakened relationship between money and inflation and deepening financial markets were among the major factors that encouraged this move,” added Coomaraswamy.
Under the proposed FIT framework, Central Bank aims to preserve price stability of the economy by targeting an inflation range of 4 – 6 per cent.

CBSL believe that this target range is desirable for a country such as Sri Lanka in view of the vulnerability of the economy to supply or external shocks.

Elaborating on the FTI framework, the Governor said “We will employ market-based instruments, particularly policy interest rates and open market operations (OMO) of the Central Bank, to influence market conditions and navigate inflation in the targeted mid-single digit range,”

The Governor identified three important pillars as the building blocks for adopting the FIT framework, which were a strong Central Bank mandate and credibility, effective monetary policy conduct and strong fiscal policy support and commitment.

(Ceylon Today)