ECONOMYNEXT – Sri Lanka will aim for forex reserve collection and exchange rate stability and will engage with the International Monetary Fund based on the current policy framework, the island’s newly appointed Central Bank Governor W D Lakshman said.
Sri Lanka has depended on debt in the absence of foreign direct investments, he said.
Sri Lanka is at the moment in an IMF program after the central bank’s soft-pegged exchange rate regime got into a crisis in 2015/2016 due to liquidity injections to keep rates down.
“In the external sector, sluggish export performance, large trade deficits, persistent current account deficits, dependence on debt inflows in the absence of alternative levels of FDI inflows, as well as high foreign financing needs are major concerns,” Governor Lakshman said.
“In addition, we need to be watchful of developments in the global economy and financial markets as well.
“In this context, we hope to engage with the IMF, and other multilateral agencies while remaining within the framework of national policy to ensure that the country reverts to a sustainable path of reserve accumulation a prerequisite for exchange rate stability as well.”
The IMF program advocated higher taxes in a strategy called ‘revenue based fiscal consolidation’ dropping a classical liberal view of spending restraint to narrow deficits.
The current administration has cut taxes, and has said it will curtail spending until the economy recovered, but raising some concerns over deficits which had led to an outlook downgrade.
Spokesmen for the administration had also spoken in favour of a strong exchange rate, which requires a floating overnight rate to enforce.
Analysts have pointed out that the current IMF program had multiple anchor conflicts as Sri Lanka targeted a range of domestic and external anchors and goals both de facto and within the program.
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The program had a wide domestic anchor in the form of a performance criteria which analysts warned would leave the door open for loose enough monetary policy to get the rupee into trouble again.
There was also forex reserves target, which involved pegging, as well as a de facto Real Effective Exchange Rate targeting to keep an index below 100, but no ceiling on domestic assets or a floating overnight to provide the ability to enforce either targets.
In addition a perceived output gap was also targeted with excess liquidity and rate cuts with the IMF itself providing tool to calculate it
As result in 2018 just as the economy recovered from the previous crisis liquidity injections were made triggering another fall in the currency, requiring corrective policy generating an negative output shock and higher inflation and bad loans. (Colombo/Dec28/2019)