The Central Bank said it expects inflation to decelerate at a faster rate than previously expected and the impact of the declining trend of demand-driven inflation to be more visible in months to come as inflation reaches acceptable levels.

"Further deceleration in inflation would help investors as well as consumers in their effective decision making process, (thus) improving the growth outlook for the economy," the bank said in a statement yesterday.

Inflation began its downward trend in July after peaking at 28.2 percent in June. In November it was 16.3 percent.

The significant decline in inflation, according to the Central Bank, is due to the rapidly declining international commodity prices, the stringent demand management policies adopted by the Central Bank and improvements in domestic supply conditions.

"The Central Bank’s continued demand management policies have been instrumental in curbing the demand-driven inflationary pressures in the economy by containing the expansion in monetary aggregates and ultimately, domestic demand," the bank said.

It said reserve money had been maintained within the stipulated targets for the first three quarters of 2008 and the target for the final quarter would also be achieved.

Broad money supply had grown by 9.8 per cent by end October 2008, compared to 16.6 per cent at the end of 2007.

"The sharp deceleration in the monetary aggregates, together with recent favourable developments in relation to international commodity prices are expected to bring down inflation at a rate faster than previously expected," the Central Bank said.

The Central Bank said the exchange rate is stabilizing after a major part of short-term capital flows by way of Treasury bills and bonds have already flowed out of the country and the large stock of oil bills for imports at high petroleum prices have already been settled.

"The government is also exploring ways of raising external finances from alternative sources. These measures are expected to be announced in January 2009 in the Road Map: Monetary and Financial Sector Policies for 2009 and beyond, scheduled to be announced on January 2, 2009," the bank said.

The Central Bank said the country’s foreign currency reserves had been depleted to meet oil payments and because foreign investors withdrew their investments held in Treasury bonds and bills as a result of the global financial crisis (a phenomenon every other country experienced).

However, the depletion of foreign reserves was also caused by Central Bank intervention in the foreign exchange market in a bid to keep the rupee stable.

The Central Bank said that it had significantly curtailed intervening in the market.

As reported in the Island Financial Review over the past few weeks, several economists said that the country could face a severe foreign reserve crisis in the next few months.

They said the only option available to Sri Lanka was to depreciate the rupee so that the export sector can remain competitive and thus sustain the economy which is already feeling the pinch of the global financial crisis.

Industrialists said that the global financial crisis compounded the difficulties they already faced as a result of the prevailing macroeconomic environment.

However, the only hope in sight is that the global financial crisis is not expected to last long with the US and EU bailing out their economies with financial stimulus packages.

While some analysts have called for similar stimulus packages from the Sri Lankan government, others say there is no policy space for such a package, at least not with the subsidies, public sector wages and interest payments that must be made.

Then again, others argue that many projects (such as relaunching Mihin Lanka) can be either deferred or dispensed with altogether, to create the required ‘policy space’.

The Island Financial Review learned that a business Chamber is planning an international seminar early next year in Colombo to try to gauge the extent to which the crisis is going to impact the island’s economy.

Even optimists warn that should the global financial crisis continue, Sri Lanka would have a hard time indeed.

The Central Bank remains optimistic and reports that the economy would grow by 6 percent.

"The country recorded an economic growth of 6.3 per cent for the third quarter. A notable growth of 12.4 per cent was observed in the agriculture sector, while the Industry and Services sectors expanded by 5.6 and 5.5 per cent, respectively.