Air tickets in Sri Lanka dollarized after ‘flexible exchange rate’ collapse

ECONOMYNEXT – Airlines have started to denominate tickets in US dollars instead of rupees, travel agents in Sri Lanka said, in a new fallout from the collapse of a so-called ‘flexible exchange rate’, an unusually unstable soft-peg backed by contradictory money and exchange policies.

The Board of Airline Representatives had decided to charge air tickets in dollars instead of rupees several months ago to reduce exchange risk, a travel official said.

Not Zimbabwe

“We are not Zimbabwe,” IATA Sri Lanka travel agents chief Nishantha Senaveratne said speaking at a travel industry meeting with presidential candidate and housing minister Sajith Premadasa.

“We are proud of our nation and we are proud of our LKR (Sri Lanka rupee) value and identity. Why do we need to use US dollar fares?

“If we can get back the LKR and also as an identification of the national currency it will be much more greater than using US dollar in a local market.”

Premadasa asked why the change had been made.

“Due to pressure of the foreign airlines, because the value of LKR is coming down and they want to keep that US dollar rates unchanged,” Senaveratne said.

Dollarization

Dollarization of deposits and salaries is a result of people trying to safeguard their savings, liability dollarization is result of borrowers trying to escape from high structural interest rates of coming from monetary instability.

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Borrowers usually get dollar loans during temporary periods of stability, and gets into severe difficulties, when the soft-peg collapses again.

Dollar denominations of sales (goods and services) or salaries is the result of suppliers trying to escape currency risk especially if their liabilities are in dollars.

India’s JetAirways went bankrupt partly due to being hit on lease payments from the Indian rupee collapse by the Reserve Bank of India, while having domestic currency denominated sales.

Up to 70 percent of the costs of a domestic Indian airline was estimated to be dollar denominated.

When tickets are quoted in dollars, a travel agents runs a currency risk during the period a ticket price is quoted and the settlement.

 

The Sri Lanka rupee has been busted from 131 to 182 to the US dollar from 2015 to 2019 by the central bank during some of the worst monetary instability seen since its creation through a combination of deliberate real effective exchange rate (REER) targeting and discretionary, contradictory policy.

The central bank is running a highly unstable soft-pegged regime backed by contradictory money (liquidity management) and exchange (downwardly skewed convertibility undertakings) policies, critics who are calling for reform to end its discretionary powers have pointed out.

Sri Lanka’s soft-pegged central bank has busted the rupee from 4.70 to the US dollar since its creation in 1950, through contradictory money and exchange policies, in the worst performance among South Asian central banks which all started at the same rate at independence.

Mercantilism

In Sri Lanka and in South Asia in general, due to long years of Mercantilism, imports, the trade deficit, or the current account deficit is blamed for balance of payments trouble and currency depreciation and not the central bank.

People are instead made to believe that they are responsible for currency depreciation.

Balance of payments trouble and depreciation is basically the result of trying to target both the interest rates (through money printing) and exchange rate (collecting forex reserves) at the same time.

But central banks that runs skewed exchange policies can depreciate the currency of country even it has balance of payments surplus.

Birth Defect

“It’s the policies of the central bank in all cases,” explained economist McLeod, who has been studying Indonesia’s central bank, which depreciated despite balance of payments surpluses many years unlike other high performing East Asian countries.

“So it’s never the fault of the people. It’s always attributable to the policies of the central bank.

“Specifically, if the central bank tries to control more than one nominal variable simultaneously, it’s just going to fail, because it only has one instrument of policy.”

“With your questions you have opened up new horizons,” Premadasa told Seneviratne.

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“We will take your assertions very seriously. And I assure you that we will look through all three aspects and we will assure you that whatever that benefits our mother land will be implemented.”

Sri Lanka decision to abolish a rule-based hard peg, and go for a discretionary soft-peg in 1950 unlike countries like Singapore, was an ‘early birth defect’, economist Razeen Sally said.

Sri Lanka’s foreign trade was progressively controlled due to the soft-peg and the economy was completely closed after 1971 as the Bretton-Woods soft-peg system closed.

In 1978 the economy was re-opened by controls on the central bank was not brought to stop monetary instability, generating inflation and depreciation.

 

(Colombo/Oct24/2019)

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