CBSL recognizes that demand and supply forces should be allowed to determine the exchange rate and that some amount of speculative trading is needed to develop the market. When there are trade bills of customers or banks themselves and, if banks do not have adequate forex with them, it is natural to borrow from the market. However, more often than not, traders/dealers speculate to make short-term gains in the forex market and try to drive the exchange rate to levels which they prefer it to be. Banks should earn profits and be financially viable. CBSL wishes to see a well-capitalized and profitable banking sector. In many instances, it was noted that the exchange rate depreciates to levels which are not in line with inflation differentials of our trading partners measured through the real effective exchange rate. This could be due to market domination by a few dealers who wish to earn unusually high profits. Needless to say that exchange rate depreciation on a continuous basis makes imports more expensive given the high import content of Sri Lanka’s trade basket. High import expenditure has cascading effects on all imports, including oil and other intermediary goods imports. Then the cost is felt by entrepreneurs, industries, investors, and finally by the whole country. Banks operating in the forex market therefore, should not only be concerned of their profits but also of their public policy responsibilities.
Ranee Jayamaha: Recent economic developments, challenges and strategies – proactive strategies in reducing inflation Speech by Dr Ranee Jayamaha, Deputy Governor of the Central Bank of Sri Lanka, at the Central Bank of Sri Lanka, Colombo, 25 May 2007. *  *  *  Inflation is a common enemy. Its impact will be felt by every single person in a country. Managing inflation and reducing inflationary expectations cannot be achieved by the Central Bank of Sri Lanka (CBSL) alone. It can only be done collectively and with cooperation from all stakeholders. Who are these critical stakeholders ? CBSL, the government, banks and financial institutions, fund managers/traders/dealers operating in various markets, investors both local and foreign households and consumers. 1. Central Bank of Sri Lanka  Given its prime objective of maintaining price stability, CBSL has been proactive in the conduct of monetary policy, which is the instrument through which this purpose can be achieved. CBSL sets monetary targets taking into consideration growth prospects of the economy, liquidity requirements necessary to facilitate growth and inflation at a desired level. The ultimate aim is to keep inflation at desirable levels and reduce inflationary expectations. CBSL, at its disposal, has a limited number of instruments to conduct monetary policy. The current framework places greater reliance on market-based instruments, such as changes to the policy interest rate and conduct of open market operations. Accordingly, CBSL has announced its monetary policy strategy and targets at the beginning of 2007.