|Economic and Price Stability
Economic and price stability is a situation where there are no wide fluctuations in the general price level in an economy which helps to achieve sustainable economic growth. When the prices fluctuate at a low rate, they would not have any significant influence on economic decisions of participants of an economy, viz. households and firms. Therefore, stable prices would not distort the economic decisions regarding what to produce and how to produce, thus enabling efficient allocation of resources in the economy leading to economic stability.
Price Stability - Pamphlet Series No.1 >>
The changes in money supply are a primary causal factor affecting price stability. In general, three definitions of monetary aggregates are used in analysing monetary developments in Sri Lanka. The first is 'reserve money' consisting of currency issued by the Central Bank and commercial banks' deposits with the Central Bank. This is also called base money or high-powered money, as commercial banks can create deposits based on reserve money which are components of a broader definition of money supply, through their process of creating credits and deposits. The second is narrow money, defined as the sum of currency held by the public and demand deposits held by the public with commercial banks. The third is broad money defined as the sum of currency held by the public and all deposits held by the public with commercial banks. Studies have shown that the most appropriate monetary variable to analyse the relationship between the money supply and the general price level is the broad money supply.
Monetary Policy Framework
At present, monetary management in Sri Lanka is based on a monetary targeting framework. In this framework, the final target, price stability, is to be achieved by influencing changes in broad money supply which is linked to reserve money through a multiplier. Reserve money is the operating target of monetary policy. The monetary targeting framework is operated through a monetary programme.
The monetary programme is prepared by the Central Bank taking into account economic factors such as the expected fiscal and balance of payments developments, economic growth, desired levels of growth in credit and inflation. Based on these factors, the monetary programme sets out the desired path for monetary growth and determines the path of quarterly reserve money targets necessary to achieve this monetary growth. The Bank would then conduct its Open Market Operations (OMO) within a corridor of interest rates formed by its policy rates i.e. the repurchase rate and the reverse repurchase rate, to achieve the reserve money target. Policy rates are periodically reviewed and adjusted appropriately, if necessary, to bring the reserve money to the targeted path.
Monetary Programme - 2012>>
Monetary Policy Instruments and Implementation
The Central Bank possesses a wide range of tools to be used as instruments of monetary policy. The main monetary policy instruments currently used are (a) policy interest rates and open market operations (OMO) and (b) the statutory reserve requirement (SRR) on commercial bank deposit liabilities.
( a ) Policy Interest Rates and Open Market Operations (OMO)
( b ) Statutory Reserve Requirement (SRR)
Monetary Policy Committee (MPC)
A primary function of the Central Bank, as stated in the Monetary Law Act, is the determination and implementation of monetary policy for the country. Over the years, the economy, and in particular the financial sector has deepened and become more sophisticated. Consequently, the Bank's tasks in determining and implementing monetary policy have also increased in complexity. Hence, as a part of the Bank's ongoing process of adapting itself to meet new challenges, and as a step towards improving the transparency of the decision making process, a formal monetary policy committee (MPC) was established in early 2001, to study and make recommendations on monetary policy for the consideration of the Monetary Board.
The Monetary Policy Committee (MPC) is chaired by the Deputy Governor in charge of Price Stability and includes the following members:
The primary function of the MPC would be to forecast and evaluate emerging monetary and macro-economic developments and make recommendations on appropriate future directions of monetary policy for consideration by the Governor and the Monetary Board.
The MPC would meet at regular intervals, at least once a month. At these meetings, members would consider reports prepared by the Economic Research Department and other departments on monetary, foreign exchange market and price developments, together with developments in the fiscal, external and real sectors, which would serve as the bases for the deliberations of the MPC, in the formulation of recommendations to the Governor and the Monetary Board.
Appointment of the Monetary Policy Consultative Committee
As per the "Road Map for Monetary and Financial Sector Policies for 2007 and Beyond" announced on 2 January 2007, a Monetary Policy Consultative Committee has been set up by the Central Bank of Sri Lanka. The nine member commiittee consists of a cross section of stakeholders and academics so that the Bank could benefit by their expertise and experience in its monetary policy decision making process.
Dissemination of Information
Changes in monetary policy, including information on the rationale for such changes, are notified to the public, including all market participants, through press releases, press statements made by senior officials of the Central Bank and posting on the Bank's website. The Central Bank's website is updated whenever necessary. Usually, press conferences are held by senior Central Bank officials if the changes are significant. In addition, senior officials of the Central Bank are frequently interviewed by the media.
The Communications Department of the Central Bank, which is responsible for disseminating information to the public, handles matters relating to press releases and press briefings. Information is disseminated by way of monthly bulletins, news surveys, press releases, the Annual Report and other publications.
When substantive changes to the policy are proposed, consultations would usually be held with organisations affected by the proposed changes e.g., Bankers' Association, Primary Dealers' Association. Monthly meetings are held by the Governor with chief executive officers of commercial banks and licensed specialised banks, at which the monetary situation and likely monetary policy measures are discussed. Meetings with primary dealers are held by senior officials of the Central Bank once a week.
An advance release calendar of monthly monetary policy announcements is published in the Central Bank's website at the beginning of each year and monthly announcements on the monetary policy stance are made on these dates.
Monetary Policy Advance Release Calendar >>