Sri Lanka's inflation accelerates to 7.0-pct in May

Consumer prices in Sri Lanka's capital Colombo rose 7.0 percent in May 2012 from a year earlier, up from 6.1 percent in April with the inflation index rising 1.4 percent in the month, the state statistics office said. Food prices rose 2.5 percent in the month, though overall food prices were still only up 2.2 percent from a year earlier due the so called 'base effect' of soaring largely non-traded food prices in the first half of 2011.

Non-food items in the index rose 0.6 percent in the month. Non food items were up 11.3 percent over the past 12 months.

The statistics office said clothing and footwear, housing, water, electricity, gas, housing , transport and education continued to rise.

Sri Lanka's currency peg which acts as an external anchor for inflation has fell from 110 to 130 rupees in March, following balance of payments pressure from high credit growth and has since weakened more.

Analysts have said that the Central Banks activity of making unsterilized foreign exchange purchases has contributed to creating a 'crawling peg'.

Prices up

In the past, a float of the currency to end a balance of payment crisis has been accompanied by a strengthening of the peg, amid reduced credit growth, helping keep inflation low.

But this time, analysts have said that continued sterilized sales of currency for oil by the Central Bank and intermittent unsterilized dollar purchases have kept the peg weak.

Analysts have urged the Central Bank to rapidly sell down its Treasury bill stock outright to mop up excess rupees, whenever it makes large dollar purchase to prevent fresh pressure on the peg.

Short term interest rates in Treasury bill markets have been easing, which analysts say has creating conditions for the Central Bank to sell down its Treasuries stock, lock up foreign reserve and strengthen the exchange rate.

When the exchange rate weakens, prices of both imports and exported commodities go up, and the price rises eventually spread to non-trade goods as well, unless the exchange rate is reversed.



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