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IMF urges Maldives to tinker with exchange rate peg, amid Chinese debt

Mar 11, 2019 23:45 PM GMT+0530 | 0 Comment(s)

ECONOMYNEXT - The International Monetary Fund is urging Maldives to review its exchange rate peg, which had helped the country to become the richest nation in South Asia, while more discretionary monetary and less rule-based policy led to monetary and trade controls in larger neighboring nations.

In Sri Lanka, there are calls for less discretionary monetary policy as the island rushes to IMF bailouts with increasing frequency amid contradictory monetary and exchange rate policies.

The Maldives started at an exchange rate of 4.76 to the US dollar at independence like India, Sri Lanka, and Dubai, which all had Indian rupees or linked exchange rates.

The Maldives had started to acquire more discretionary policy (open market operations) in recent decades but had managed to keep its exchange rate at around 12 to the US dollar for over two decades, until a devaluation to 15 in 2018.

Sri Lanka, on the other hand, had seen its currency collapse to 180 since independence.

Outside advice also led to money printing tools being given to Mauritius, the world's first currency board (which also started at 4.76 to the US dollar) but has managed to keep its status as a second Tier financial centre with less discretionary policy despite some instability after gaining central banking tools.

"The peg has served the Maldives well and remains appropriate," IMF mission Chief Philippe Karam said after a visit to the island for annual Article IV consultations.

"However, updating the exchange rate management to better meet the needs and challenges of the Maldivian economy is desirable.

"In this context, staff welcomes the MMA plans to review the current exchange rate regime with the aim to strengthen exchange rate stability, accumulate foreign reserves and increase resilience to external shocks."

The Maldives has the most stable exchange rate in South Asia, the least monetary instability and the highest living standards.

Helped by the strong peg of the rufiyaa with the US dollar, Maldives has posted a per capita GDP of 11,000 dollar per person, far ahead of larger countries in South Asia, which have more discretionary monetary policy and collapsing currencies, which have led to capital controls and trade restrictions.

Some recent growth, however, has been driven by unsustainable debt taken from China in particular for questionable infrastructure projects, which has placed the country at risk of default.

The IMF gave Sri Lanka a program with contradictory anchors, allowing the Central Bank to print money, de-stabilise a peg which was institutionalised by a forex reserve target and an inflation target, stampede exporters and foreign bonds, and bring the country to the brink of default by forex reserve losses.

The Maldives Monetary Authority has behaved more like a currency board, without engaging in excessive open-market operations to de-stabilise its peg during most of its life.

A default by the government with a strong exchange rate peg only imposes losses on the holders of government debt.

But falling exchange rate imposes losses on all holders of debt, including bank deposit holders.

Unsound money in the form of continuous and permanent currency falls trigger political instability as living standards weaken with falling real wages. Capital is also destroyed, making it more difficult to invest, and boost jobs and productivity.

The Maldives, however, is highly dollarised with a ratio of about 47 percent. Even if the reforms backed by the IMF leads to high monetary instability in a country like Sri Lanka, sections of the population will be protected.

The urging to tinker with the peg comes as the country faces high level of foreign debt with questionable China backed 'Belt-and-Road' infrastructure .

Sri Lanka reformed the country's colonial-era peg with a Central Bank discretionary policy in 1950 and joined the IMF a day later on August 29.

Since then, Sri Lanka has been a good customer of the IMF. (Colombo/Mar11/2019-SB)


 

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