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The Colombo Consumer Price Index fell 0.9 points in August to 181.9 points with the non-alcoholic food sub-index dropping but non-foods rising. Overall consumer prices have deflated for the second month in a row.
External inflation has been benign with a rising US dollars pushing down imported and exported commodities.
But domestic credit has risen sharply and the Central Bank has injected money into the system over the past several months. So far the excess demand has spilled into the balance of payments and generated imports and foreign reserve losses.
In January taxes of consumer goods were cut pushing down prices, but the budget deficit expanded, further straining the credit system.
Sri Lanka's central bank has not raised interest rates despite rising credit demand, citing low inflation, though the monetary system is targeting an external anchor in the form of a soft-peg generating balance of payments trouble. Malaysia's Bank Negara is also in a similar trap, analysts say.
Sri Lanka does not have a floating rate to target a domestic anchor. Due to a strong dollar pushing down global prices, a weakening of the exchange rate may not push inflation up. (Colombo/Aug31/2015)
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