Sri Lanka’s monetary authorities are signaling a continued easing of interest rates even as private sector borrowing expands rapidly, raising questions about the sustainability of recovery in a still-fragile economy.
At the latest monetary policy briefing, Central Bank Economic Research Director Dr. Lasitha Pathberiya indicated that market lending rates are likely to trend downward in the coming months. This follows a broadly declining pattern in rates throughout late 2025, interrupted only briefly toward the year’s end. The Overnight Policy Rate remains unchanged at 7.75%, where it has stood since a modest reduction in May 2025.
The expectation of further rate cuts comes alongside strong credit expansion. Private sector credit grew by 26.3% year-on-year in January, with total outstanding loans reaching approximately Rs. 10.3 trillion. Over the course of 2025, credit expansion surged to nearly Rs. 2 trillion—more than double the increase recorded the previous year.
However, beneath these headline figures lies a more complex reality. New borrowing has slowed sharply in recent months. From a peak of Rs. 263 billion in November 2025, fresh lending dropped to Rs. 108 billion by January 2026. This marks one of the weakest monthly performances in the past year, suggesting a cooling in credit demand following external disruptions, including severe weather events.
The divergence between rising total debt and declining new credit raises concerns about whether growth is being driven by genuine economic activity or by accumulated borrowing. Analysts warn that while lower interest rates can stimulate investment, they may also encourage excessive leverage if not matched by real sector expansion.
Central Bank surveys suggest banks are willing to lend more, supported by improved liquidity and expectations of economic stability. Yet these projections were made before escalating geopolitical tensions in the Middle East, which have already triggered higher fuel costs and added uncertainty to global markets.
Governor. Nandalal Weerasinghe has downplayed immediate risks, noting stable loan performance among small and medium enterprises despite rising input costs. Inflation is expected to remain subdued at around 2% in the near term, though upward pressure from energy prices and planned electricity tariff hikes could test this outlook.
As Sri Lanka cautiously navigates recovery, the balance between easing monetary policy and maintaining financial stability will be critical. The coming months will reveal whether lower rates can genuinely support growth or simply mask deeper vulnerabilities.