Sri Lanka hikes interest rates, warns trouble ahead

Cash-strapped Sri Lanka raised interest rates one percentage point Friday, the second sharp hike in three months, as the central bank warned of 80 per cent inflation and a painful recession.

The Central Bank of Sri Lanka ramped up its benchmark deposit and lending rates to 14.5 per cent and 15.5 per cent respectively, after data showed inflation soared to a record 54.6 per cent last month.

Officials said the hike was aimed at containing runaway prices, which were forecast to rise 80 per cent by year's end, and reduce any build-up of demand pressures in the shattered economy.

Acute shortages of food and fuel, alongside lengthy electricity blackouts, have led to months of widespread anti-government demonstrations calling for President Gotabaya Rajapaksa's resignation.

The central bank said the economy could go into a recession this year, having grown 3.7 per cent last year and contracted 3.6 per cent in 2020.

Prime Minister Ranil Wickremesinghe told parliament the economy could shrink as much as 7.0 per cent.

The bank said economic activity in the second quarter of this year had been severely affected by electricity and fuel shortages, while all non-essential offices and schools have been told to shut in a bid to reduce commuting and save scarce energy.

The country is officially out of petrol and diesel, while fresh supplies are at least two weeks away.

The government defaulted on its $51 billion foreign debt in April and is negotiating a possible bailout with the International Monetary Fund.

"Significant progress has been made with respect to negotiations with the IMF towards reaching a staff-level agreement on the Extended Fund Facility (EFF) arrangement in the near term," the central bank said.

It added that negotiations were also underway with several bilateral and multilateral partners to secure bridging financing.