Central Bank raises policy rate to support the currency

Sri Lanka’s Central Bank caught markets off guard by raising its benchmark policy rate by an outsized 100 basis points on Tuesday, as policymakers sought to stem inflation and the sharp pressure on the currency from soaring energy prices.

The Central Bank of Sri Lanka raised the overnight policy rate to 8.75% from 7.75%, citing higher inflation and a depreciating rupee driven by the US-Israeli war with Iran.

Seven out ‌of a ‌dozen economists and analysts polled ​by Reuters ‌had ⁠forecast ​only a ⁠25-basis-point or slightly greater change to the rate, citing the deepening impact on foreign reserves from the conflict.

Sri Lanka, fully reliant on imported fuel, has been battered by the Iran-war-driven energy shock, which has forced a 40% fuel price hike, rationing, and even public holidays on Wednesdays.

Inflation has jumped ‌from 2.2% in March ‌to 5.4% last month. month.

Headline inflation is ​likely to remain above ‌the target of 5% in the period ahead, ‌before easing and stabilizing around it, the CBSL said in a statement.

“Similar to several regional peer currencies, Sri Lanka rupee experienced notable depreciation pressures in recent weeks, although conditions have since ‌eased to some extent,” the central bank added, referring to a 8.7% depreciation ⁠of the currency ⁠since early March.

The CBSL last changed rates in May 2025, reducing them by 25 basis points to boost growth.

Backed by a $2.9 billion program from the International Monetary Fund, the island is clawing its way out of a deep financial crisis in 2022 caused by a severe dollar shortfall.

The IMF Executive Board will meet on Wednesday to decide whether Sri Lanka will receive $700 million under its ​program, which would help to ​top up its reserves. These have now decreased by 3.8% to $6.7 billion.