Tuesday Apr 21, 2026
Tuesday Apr 21, 2026
Tuesday, 21 April 2026 02:05 - - {{hitsCtrl.values.hits}}
CBSL Governor Dr. Nandalal Weerasinghe (left) presents the Annual Economic Review 2025 to President Anura Kumara Dissanayake
The Central Bank of Sri Lanka (CBSL) has warned that the ongoing Middle East conflict could raise inflation, widen the trade deficit, and disrupt key foreign exchange inflows, even as macroeconomic conditions show signs of recovery.
Sri Lanka now faces pressure across its main external channels, with remittances, exports, and tourism all exposed to spillovers from the conflict, testing buffers rebuilt since 2023 through current account surpluses and reserve accumulation.
In its Annual Economic Review 2025, the CBSL said Sri Lanka’s exposure begins with energy. “Sri Lanka’s substantial reliance on Gulf-sourced energy exposes the economy to potential increases in global oil and gas prices, which could raise the fuel import bill, widen the trade deficit, and thereby exert upward pressure on inflation,” it said.
The report notes that fertiliser supply and prices could also be disrupted, with implications for agricultural output.
Remittance inflows also face concentration risk. “Around 45% of remittances originate from Gulf countries,” the CBSL said, noting that disruptions to labour markets or migration flows could reduce inflows and increase exchange rate volatility.
Inflation projections have been revised. “Headline inflation is expected to accelerate towards the target of 5% in the near term at a faster pace than previously anticipated,” the report said, driven mainly by energy price adjustments linked to the conflict.
Inflation, which turned positive in August 2025, is on a gradual upward path and is expected to remain within the ±2 percentage point band around the target before stabilising over the medium term, although projections remain subject to elevated uncertainty given global conditions.
Risks to inflation are tilted to the upside, including further disruptions to energy supply, higher fertiliser and food prices, exchange rate depreciation, and stronger demand pressures. Downside risks include weaker demand and improved agricultural output easing food prices.
The external sector, which improved from 2023, now faces renewed pressure. “The merchandise trade deficit is expected to widen in 2026, mainly driven by higher import expenditure, which is projected to outpace growth in export earnings,” the CBSL said.
Fuel imports are expected to rise due to elevated global prices, while imports of intermediate and investment goods are also projected to increase, driven by public investment and economic recovery. Vehicle imports are expected to moderate as the market approaches saturation.
Exports face both direct and indirect risks. Tea exports could be affected due to the Middle East’s role as a key destination, while apparel exports may face pressure from higher freight and insurance costs caused by disruptions to shipping routes.
Tourism is exposed through transit dependence. Although direct arrivals from the Middle East are limited, airlines from the region account for more than 30% of total arrivals via transit connections, leaving the sector vulnerable to airspace constraints and changes in travel patterns.
Despite these risks, the CBSL said the current account is expected to remain at sustainable levels, supported by a flexible exchange rate and continued inflows. Financial flows are expected to remain positive, backed by the International Monetary Fund (IMF) Extended Fund Facility (EFF) program, multilateral financing, and a gradual pickup in foreign direct investment (FDI).
Gross official reserves, which increased in 2025 and early 2026, are expected to remain at healthy levels, supported by foreign exchange inflows and CBSL purchases. The CBSL reiterated its commitment to maintaining a flexible, market-determined exchange rate to absorb external shocks.
Monetary policy will remain data-driven. The CBSL said it stands ready to act if inflationary pressures intensify, while Government securities yields are expected to remain broadly stable, supported by improved fiscal performance and lower risk premia, although short-term volatility remains possible.
Credit growth is expected to continue supported by economic activity and reconstruction following Cyclone Ditwah, although the pace may moderate later in 2026 due to global uncertainty. Credit to the public sector is expected to ease in line with fiscal consolidation, while monetary expansion is likely to continue at a slower pace.
The financial system remains stable, with improved asset quality, strong capital buffers, and adequate liquidity. However, the CBSL cautioned that credit quality could come under pressure from geopolitical spillovers and disaster-related disruptions, while banks need to remain vigilant on foreign currency liquidity.
On the fiscal front, the Government is targeting revenue above 15% of GDP, a budget deficit below 5% of GDP, and a primary surplus of around 2.6% of GDP from 2027. However, the outlook faces risks from higher energy costs and potential subsidy requirements.
A Supplementary Estimate of Rs. 500 billion has been approved to fund recovery and reconstruction following Cyclone Ditwah, adding pressure to near-term fiscal balances. The CBSL also noted that a slowdown in vehicle imports could moderate tax revenue after a surge in 2025.
Growth conditions remain positive but exposed to downside risks. Economic activity has shown resilience, supported by low inflation, lower interest rates, improved governance, and structural reforms. Private sector credit growth and domestic demand are expected to support activity, while services are likely to remain the main driver of growth.
“The continued pursuit of structural reforms, underpinned by sustained policy discipline, remains vital to further strengthening Sri Lanka’s economic resilience and securing sustainable economic growth in an era of heightened uncertainty,” the CBSL said.
“The global and regional landscape is increasingly characterised by severe and frequent economic shocks, underscoring the imperative of building and preserving adequate buffers across fiscal, external, and monetary fronts to safeguard macroeconomic stability,” it said, noting that such buffers had helped absorb the impact of Cyclone Ditwah and mitigate spillovers from the Middle East conflict.
“Preserving and reinforcing these hard-earned gains in macroeconomic stabilisation requires unwavering commitment to fiscal consolidation to enhance debt sustainability and maintain policy credibility,” the CBSL added, highlighting that the successful completion of the IMF-supported program in 2027 will be pivotal in reinforcing investor confidence.
“Sustaining the growth momentum will depend critically on strengthening economic diversification, enhancing competitiveness, and raising productivity,” it said, adding that timely and credible policy responses will be central to maintaining macroeconomic stability and ensuring a resilient and sustainable growth trajectory.
Issuing a statement announcing the report’s release yesterday, the CBSL said that Sri Lanka’s economy extended its recovery in 2025, supported by macroeconomic stabilisation, policy consistency, and ongoing structural reforms, although global uncertainty and domestic shocks continued to test resilience.
Real GDP grew by 5% in 2025, marking a second consecutive year of expansion, with improvements in labour market conditions and a return to positive inflation from August after a period of deflation. Lower interest rates supported a pick-up in private sector credit, while the removal of vehicle import restrictions contributed to higher imports and credit demand.
External sector performance strengthened, with the current account recording a surplus for a third consecutive year, supported by strong remittance inflows and improved services exports, despite a widening trade deficit. These inflows enabled a further build-up of reserves even as external debt servicing resumed, while the rupee depreciated modestly under a flexible exchange rate regime.
Fiscal performance also improved, with a primary surplus recorded for a third straight year, driven by revenue-based consolidation. The financial sector strengthened alongside the recovery, with improved profitability, better asset quality, and liquidity and capital buffers remaining above regulatory requirements.
Policy in 2025 remained focused on maintaining price stability and financial system stability. Monetary policy was accommodative in a low inflation environment, supporting credit expansion, while efforts continued to rebuild reserves and ease capital flow restrictions. Regulatory and supervisory reforms, along with digitalisation and financial system modernisation initiatives, were advanced to strengthen resilience.
The CBSL said the stabilisation achieved has helped rebuild buffers, but risks remain elevated. Global geopolitical tensions, trade disruptions, and climate-related shocks continue to pose challenges, with the outlook sensitive to developments in the Middle East conflict and its spillovers to energy prices, trade, and financial flows.
Inflation is expected to return to target sooner than previously projected, while credit growth is likely to continue at a more moderate pace. External conditions are expected to remain manageable, although pressures on trade, tourism, and financial flows could emerge. Fiscal consolidation is expected to remain central to maintaining debt sustainability.
The CBSL said sustaining growth will depend on continued policy discipline, structural reforms, and maintaining buffers, as Sri Lanka navigates a more uncertain global environment.
CBSL Balance Sheet strengthens in 2025 as assets rise Rs. 422 b
Banking regulator and monetary authority, the Central Bank of Sri Lanka (CBSL) reported a stronger Balance Sheet in 2025, with total assets increasing by Rs. 422.4 billion or 10.9%, driven by higher foreign currency assets and gains on domestic securities, according to its Financial Statements and Operations Report released yesterday.
Foreign currency assets rose by Rs. 365.4 billion, reflecting an increase in official reserves to $ 6.1 billion from $ 5.6 billion a year earlier, alongside the depreciation of the rupee to Rs. 309.99 against the dollar from Rs. 292.58 at end-2024. The increase was channelled into fixed income securities, deposits, repo investments, and cash balances.
Local currency assets increased by Rs. 57 billion, largely due to a Rs. 86 billion rise in Treasury Bond holdings at market value, supported by mark-to-market gains as yields declined. This was partly offset by a Rs. 25.1 billion reduction in reverse repo balances, a Rs. 16 billion decline in receivables from the Treasury and Ministries, and a Rs. 4.2 billion drop in loans following repayments under the Saubhagya Scheme.
Total liabilities rose by Rs. 135.4 billion, driven by a Rs. 249.6 billion increase in local currency liabilities, partly offset by a Rs. 114.2 billion decline in foreign currency liabilities. Currency in circulation expanded by Rs. 210.2 billion, while balances of commercial banks and other financial institutions rose by Rs. 46.7 billion in line with domestic liquidity conditions.
Foreign currency liabilities declined mainly due to a Rs. 254 billion reduction in the Reserve Bank of India swap facility following repayments. This was partly offset by increases in Government dollar balances, International Monetary Fund (IMF)-related liabilities, and the rupee value of the swap facility with the People’s Bank of China due to currency movements.
The CBSL’s equity position improved significantly, rising by Rs. 287 billion to Rs. 595.4 billion. The increase was supported by a net profit of Rs. 193.1 billion, valuation gains of Rs. 87.7 billion on Treasury Bonds, and other statutory adjustments.
Despite the improvement in the Balance Sheet, profitability declined from Rs. 274.8 billion in 2024, reflecting lower income from both foreign and local currency assets. Net income from foreign currency assets fell by Rs. 44.2 billion, while income from local currency financial assets declined by Rs. 38.3 billion.
The CBSL said unrealised gains from exchange and price revaluations were excluded from distributable profits in line with the Central Bank Act. After statutory transfers and adjustments, Rs. 44.9 billion was identified as profit available for distribution, of which Rs. 41.9 billion was transferred to the Consolidated Fund after settling Government obligations.
The report also noted that the CBSL maintained a strong capital position, with assets exceeding monetary liabilities and paid-up capital by Rs. 2,452 billion as at end-2025, well above the threshold that would trigger capital restoration requirements under the Central Bank Act.
