Cash-strapped Sri Lanka's central bank hiked interest rates by a record 700 basis points Friday as police fired tear gas at hundreds of students protesting over the economic crisis.

Severe shortages of food and fuel, alongside lengthy electricity blackouts, have led to weeks of widespread anti-government demonstrations -- with calls for President Gotabaya Rajapaksa to resign.

The latest protests saw students try to march Friday to the national parliament, and police used water cannons in efforts to disburse the angry crowds.

Monks, who had largely rallied the Sinhala-Buddhist majority to elect Rajapaksa at the November 2019 polls, were also seen joining demonstrations in the capital Colombo, where some defiantly stood opposite police wearing gas masks and holding riot shields.

Demonstrators nationwide carried placards saying "Gota go home", demanding Rajapaksa and his administration step down over the country's worst economic crisis since independence in 1948.

Riot police attempt to block protesters during a rally near the prime minister's house in Colombo
Riot police attempt to block protesters during a rally near the prime minister's house in Colombo AFP / Ishara S. KODIKARA

The Central Bank of Sri Lanka said its benchmark lending rate had been raised to 14.5 percent to "stabilise the exchange rate" after the rupee tumbled over 35 percent in a month.

The rate for deposits was also increased by seven percentage points to 13.5 percent as reports said Sri Lanka's rupee was the worst-performing currency in the world, edging out the Russian ruble.

The bank's newly appointed governor, Nandalal Weerasinghe, said attempts to control foreign exchange markets and keep interest rates artificially low in the past year had contributed to the unprecedented economic chaos.

Police in Colombo, Sri Lanka use water cannons to disperse university students protesting near the Parliament building against the country's economic crisis, its worst in decades
Police in Colombo, Sri Lanka use water cannons to disperse university students protesting near the Parliament building against the country's economic crisis, its worst in decades AFP / Ishara S. KODIKARA

"We are now in damage control mode," Weerasinghe said at his first press conference since replacing Ajith Cabraal, who was virtually forced out Monday with the country facing bankruptcy.

"We would not have had to make such a sharp increase if rates had been raised incrementally over a period of time," Weerasinghe said, vowing to relax exchange controls introduced by his predecessor.

The bank said the shock-treatment rate hike was due to its belief that the embattled island's inflation, already at record levels, could get worse.

The Colombo Consumer Price Index rose 18.7 percent in March while food inflation topped 25 percent, but private analysts placed inflation at over 50 percent in the month.

International rating agencies have downgraded Sri Lanka as fears grow it could default on its $51 billion external debt.

Buddhist monks, including a man in saffron robes and holding his sandals, joined university students taking part in a demonstration in Colombo against Sri Lanka's economic crisis
Buddhist monks, including a man in saffron robes and holding his sandals, joined university students taking part in a demonstration in Colombo against Sri Lanka's economic crisis AFP / Ishara S. KODIKARA

This week, Rajapaksa appointed a panel of experts to organise a restructuring of foreign debt.

His government is preparing for bailout negotiations with the International Monetary Fund, and finance ministry officials said the panel will prepare a programme for sovereign bond-holders and other creditors to take a haircut.

"What Sri Lanka is keen to do is avoid a hard default," a source from the ministry who requested anonymity told AFP.

"It will be a negotiated restructuring of the debt with the help of the IMF."

Meetings with the IMF are set to begin by next week but finance minister Basil Rajapaksa, the president's brother, resigned Sunday along with nearly the entire cabinet.

The country is still without a replacement, with his successor Ali Sabry quitting after just one day in office. Sabry told parliament Friday he was still in the job because no one was willing to accept the finance portfolio.

Colombo-based diplomats from European Union member states, which form a key export market for Sri Lanka, on Friday asked the government to immediately begin reforms to revive the economy.

"We stress the extreme urgency of the situation, which requires the authorities to start in-depth discussions with the International Monetary Fund," the diplomats said in a joint statement.

Public anger is at fever pitch, and on Saturday thousands of people are expected to take part in what likely will be the biggest protest since the crisis began.

Opposition parties have rejected a presidential overture to form a unity administration and instead joined calls for Rajapaksa to step down.

The shortages of essentials have been caused by a wide-ranging import ban as Sri Lanka seeks to conserve its meagre foreign currency reserves to pay its debts.

In recent years the vital tourism sector has also been hit hard by Islamist bomb attacks in 2019 and the coronavirus pandemic, which dried up remittances from Sri Lankans abroad.

Economists say the crisis has been exacerbated by government mismanagement, years of accumulated borrowing and ill-advised tax cuts.