The current political impasse in Sri Lanka between President Chandrika Kumaratunga and Prime Minister Ranil Wickremesinghe is having an adverse reaction on the country's economy in addition to its direct impact on the peace process.

An International Monetary Fund (IMF) delegation currently in the country has expressed its concern about the political instability in the country as the foreign exchange reserves dropped, the rupee has begun to depreciate against the dollar and foreign investments slowed down following the crisis sparked off in November.

The IMF delegation led by Jehangir Aziz, Deputy Division Chief of the IMF's Asia Pacific, which arrived here last Sunday has held a series of review meetings and met Wickremesinghe and Finance Minister K.N. Choksy over the week.

The visit comes ahead of the IMF board meeting in mid-February where they would review the granting of the second tranche of the Poverty Reduction and Growth Facilitation programme of $80 million (Rs7.5 billion). The loan, provided at very high concessionary terms, was due to be released in December, but held back due to the political crisis.

The first tranche amounting to $80 million was released last year.

Choksy confirmed that the IMF delegation was concerned about the continuing political instability which would have an impact on implementing the budget proposals.

The IMF delegation is due to hold another meeting with Choksy before leaving the country.

Choksy said that for the first time the excess inflow of foreign exchange into the country has taken a reverse process and the rupee has started to depreciate against the dollar for the first time in two years.

"Many of the foreign and local investors are adopting a 'wait and see policy'. This is a matter of concern to the government," he said adding that the foreign exchange reserves also had dropped.

The concern from the IMF comes amid complaints from the public that the cost of living has increased dramatically, despite assurances from the government that they would offer relief to the public.

Amid strong speculation that Kumaratunga may call for a snap parliamentary election, the government has been facing the risk of becoming unpopular due its failure to keep the cost of living low.

The Deputy Finance Minister, Bandula Gunawardena, has been using the media to convince the public that the cost of living was low and has offered to resign if somebody could prove that it has increased by more than Rs250 (nearly $2.5) per month.