Article: Efficacy of recent monetary policy in Sri Lanka Journal: International Journal of Economics and Business Research (IJEBR) 2015 Vol.10 No.4 pp.341 - 361 Abstract: Sri Lanka is an open and market-oriented lower middle income economy situated in South Asia. It is one of the fastest growing economies in Asia and developing world in the recent years. Sri Lankan economy has achieved 6.4% growth over the period 2003 to 2012. At the same period the economy has experienced 10.4% inflation. This paper studies efficacy of monetary policy in Sri Lanka to raise income and stabilising price level in the recent period Q1: 2002-03 to Q4: 2013-14, when exchange rate has become more flexible. Empirical analysis has found that both income and price maintain long run relation with money, interest rate and exchange rate. Dynamics of such relations is studied by the estimation of vector error correction model which reveals that money supply causes a raise in income and price level. Depreciation of Sri Lankan currency depresses income and raises price level. A higher interest rate depresses income but stabilises price level. Robustness of these findings is confirmed through the estimation of unrestricted vector autoregression model, the Wald test followed by impulse response functions and variance decomposition analysis. The findings testify for an effective monetary policy in Sri Lanka over the period more importantly, when the economy also has realised a gloomy environment of global economic crisis in 2008. Inderscience Publishers - linking academia, business and industry through research

Title: Efficacy of recent monetary policy in Sri Lanka

Authors: Biswajit Maitra; Subrata Debnath

Addresses: Department of Economics, University of Gour Banga, PIN 732103, West Bengal, India ' Department of Economics, Surya Sen College, PIN 734004, West Bengal, India

Abstract: Sri Lanka is an open and market-oriented lower middle income economy situated in South Asia. It is one of the fastest growing economies in Asia and developing world in the recent years. Sri Lankan economy has achieved 6.4% growth over the period 2003 to 2012. At the same period the economy has experienced 10.4% inflation. This paper studies efficacy of monetary policy in Sri Lanka to raise income and stabilising price level in the recent period Q1: 2002-03 to Q4: 2013-14, when exchange rate has become more flexible. Empirical analysis has found that both income and price maintain long run relation with money, interest rate and exchange rate. Dynamics of such relations is studied by the estimation of vector error correction model which reveals that money supply causes a raise in income and price level. Depreciation of Sri Lankan currency depresses income and raises price level. A higher interest rate depresses income but stabilises price level. Robustness of these findings is confirmed through the estimation of unrestricted vector autoregression model, the Wald test followed by impulse response functions and variance decomposition analysis. The findings testify for an effective monetary policy in Sri Lanka over the period more importantly, when the economy also has realised a gloomy environment of global economic crisis in 2008.

Keywords: interest rates; exchange rates; money supply; real income; inflation; cointegration; vector error correction; VEC; monetary policy; Sri Lanka; currency depreciation.

DOI: 10.1504/IJEBR.2015.072504

International Journal of Economics and Business Research, 2015 Vol.10 No.4, pp.341 - 361

Received: 23 Mar 2015
Accepted: 13 Aug 2015
Published online: 15 Oct 2015 *

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Title: Efficacy of recent monetary policy in Sri Lanka

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