Sri Lanka’s central bank expects economy to grow by 4.5% in 2025

Sri Lanka's central bank projects 4.5% economic growth for 2024, exceeding the World Bank's 3.5% estimate, following a 5% rebound in 2023 underpinned by an IMF program. However, the outlook faces uncertainty from evolving global demand and recent U.S. tariffs, which notably impact the crucial apparel sector exporting 40% of its output to the U.S. The central bank anticipates inflation to accelerate towards its 5% target by mid-2026, maintaining its benchmark interest rate at 7.75%.

Analysis

Sri Lanka's central bank has issued a notably optimistic economic forecast, projecting 4.5% GDP growth for the current year, which significantly exceeds the World Bank's 3.5% estimate. This positive outlook is anchored by a strong 5% GDP rebound achieved in the previous year, demonstrating a tangible recovery from its recent severe financial crisis, a turnaround supported by a $2.9 billion IMF program. However, the central bank's report tempers this optimism by highlighting material risks stemming from uncertain external demand and the global economic landscape. A primary headwind is the recently imposed 20% U.S. tariff, which poses a direct threat to the nation's apparel sector—its second-largest foreign exchange earner at $4.8 billion last year—that sends 40% of its exports to the U.S. On the monetary policy front, the Central Bank of Sri Lanka is navigating a complex inflation trajectory. After a dramatic fall from a 70% peak in September 2022, inflation is now expected to accelerate towards the bank's 5% target by mid-2026, justifying the decision to hold the benchmark interest rate at 7.75% following a minor 25 basis point cut in May.

Key Decisions for Investors

• Investors with an appetite for emerging market recovery stories may find the government's optimistic 4.5% growth forecast encouraging, but this should be weighed against the more conservative 3.5% estimate from the World Bank.
• The primary risk factor to monitor is the real-world impact of the 20% U.S. tariff on the apparel sector's export volumes and foreign exchange earnings, as any significant downturn could challenge the nation's growth and stability outlook.
• Given the central bank's decision to hold interest rates at 7.75% amidst forecasts of accelerating inflation, investors in Sri Lankan local currency debt should not anticipate aggressive near-term policy easing.