June inflation hits 6%; triggers IMF staff consultation for breaching 4.9% inner-band

Sri Lanka’s headline inflation accelerated to 6.0 percent during the 12-months to June, from 4.8 percent in May, the highest recorded since November 2013, according to the data released by the Census and Statistics Department of Sri Lanka. Since the Central Bank has failed to maintain the headline inflation within the International Monetary Fund’s (IMF) inner band of 4.9 percent set for June, the development will now lead to a consultation with the lender and Sri Lanka will have to reason out the deviation and propose suitable policy responses to arrest the situation.

As a part of the agreement for US $ 1.5 billion Extended Fund Facility (EFF), the IMF set upper limits for headline inflation for end June, end September and end December 2016. The lender’s 3-year programme comes with the condition of the Central Bank having to transform into a flexible inflation targeting regime with its monetary policy. However, it is yet to see how credible the process would be. June’s inflation was pushed up by higher food prices which rose 4.3 percent, driving the year-on-year (yoy) inflation by a higher 8.2 percent.

The non-food inflation rose only 0.2 percent during the month but the yoy increase was 4.0 percent. The Colombo Consumer Price Index (CCPI) increased by 4 index points in June to 192.5. This demonstrates the full effects of the increase in Value Added tax from 11 percent to 15 percent implemented on May 2. Apart from the demand side pressures on the prices, the supply side constraints too have contributed to June’s inflation due to poor supply during both May and June as the harvest season came to an end. The rise in prices in vegetables and fish in particular is a clear testament to this observation. The annual average inflation too rose by 5 basis points to 2.2 percent in June from 1.7 percent a month ago. Meanwhile, the core-inflation – which is the underlying inflation of an economy – measured by eliminating the price changes in energy and food products edged down to 6.4 percent in June from 6.6 percent in May.

Core-inflation above 5.0 percent should unsettle the Monetary Board immediately as it breaches the monetary authority’s tolerable level of inflation, but the Board continued to maintain the interest rates artificially low, impoverishing the masses by creating inflation through money printing. The last time the Central Bank hiked key policy rates was in February 2016 by a 50 basis points. Central Bank’s credibility is now put to test as the headline inflation has breached tolerable levels of both the Central Bank as well as the IMF’s inner band set for June 2016.