IMPACT OF INFLATION AND INTEREST RATE ON ECONOMIC GROWTH IN SRI LANKA

Abstract

Every countries are aiming to achieve the national economic goals through the price stability, full employment and price stability. In developing countries like Sri Lanka, socio-economic variables such as inflation and interest rate are seen as major influencers in achieving high economic growth. Using secondary data collected from World Bank Development indicators and Central Bank of Sri Lanka the present study empirically examined the impact of inflation and interest rate on economic growth in Sri Lanka, spanning from 1990 to 2020. The results of the autoregressive distributed lag (ARDL) technique showed that, while interest rate has a substantial negative influence on economic growth in the short term, inflation and interest rates have a statistically significant negative impact on economic growth at the 5% significant level in the long run. However, in the short run, inflation had no effect on economic growth. Additionally, ECT (-1) value of 69.70, demonstrates that the short-term discrepancy in economic growth caused by external shocks will be corrected at a rate of 70% every year after one year and move towards the long-term equilibrium. The causality analysis also demonstrated a one-way causal relationship between interest rates, inflation, and economic growth. Therefore, the government ought to minimize expenses to lower the budget deficit, devise initiatives to increase revenue, and the Central Bank of Sri Lanka ought to formulate effective monetary policies in order to preserve low inflation and stable interest rates in the country.