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Wednesday February 1st, 2023

Sri Lanka fiscal stimulus to close output gap

ECONOMYNEXT – Sri Lanka’s sweeping tax cuts are a fiscal stimulus that will close a “persistent output gap”, seen in recent years and transfer cash to private hands from unproductive state spending, the government has said.

“The switching of resources from unproductive public expenditure to the private firms and individuals will be growth friendly in a context where there has been a persistent output gap,” the Finance Ministry said.

“Higher growth will have a positive impact on the overall debt dynamics of the country as well.”

That a lower tax take will boost economic activity with private individuals making the best decisions is well accepted classical economic principle, rather than bureaucrats who play with other people’s money to boost salaries, subsidies or expand the public sector.

Sri Lanka was given clues to calculate a so-called potential output by the International Monetary Fund, which now seems to serving one de facto target or goal in a ‘flexible’ inflation targeting framework and the fiscal stimulus.

Under flexible inflation targeting a mis-mash of targets are chased by the central bank, critics have said.

Under the current IMF program the exchange rate is targeted to prevent appreciation and collect forex reserves and the rupee is encouraged to fall under a downward only DMC (disorderly market conditions) rule forming de facto – if highly variable – external anchor.

Outside the program the Real Effective Exchange Rate Index was also targeted to depreciate the rupee even domestic credit was weak particularly in 2017.

Sri Lanka was first saying that potential output of the country was 5.75 percent, using econometrics.

In February 2019, Central Bank Governor Indrajit Coomaraswamy said the potential out was lowered to 5.0 percent.

In 2018 April 2018 Sri Lanka cut rates and injected tens of billions of rupees of excess liquidity to money markets when 12-month inflation was 4.2 percent and so-called core-inflation was 6.1 percent in March.

It is not clear whether money was injected to target an output gap rather than inflation. In July/August money was also printed through the acquisition of dollars and rupee/dollar swaps.

In November 2018, when the external anchor came under pressure, from the monetary stimulus worsened by a confidence shock from a political crisis, rates were hiked when inflation had fallen to 3.3 percent and core inflation had fallen to 4.6 percent, apparently under ‘flexible’ inflation targeting.

Some classical economists have pointed out that the ‘Great Inflation’ of the 1970s and the collapse of the US dollar in 1971-73 was a result trying to target an output gap, ignoring that monetary nature of inflation (monetary policy neglect hypothesis) and focusing on incomes policy (wage spiral inflation) due to a belief in cost-push inflation.

Others such as Athanasios Orphanides, Simon van Norden have shown that it is difficult to estimate outut gaps in real time (also known as the output gap mismeasurement hypothesis), showing the deadly nature of econometrics. (Colombo/Dec22/2019)

 

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Sri Lanka bond yields down at close

ECONOMYNEXT – Sri Lanka’s bond yields were down at close following a bond auction on Wednesday, dealers said while a guidance peg for interbank transactions remained unchanged.

“The rates were steady at the auction,” a dealer said.

“This can be a signal to the market saying the rates will go down in the future.”

A bond maturing on 01.07.2025 closed at 32.40/60 percent, down from yesterday’s 32.60/85 percent.

A bond maturing on 01.05.2027 closed at 29.10/35 marginally down from yesterday’s 29.20/75 percent.

The Central Bank’s guidance peg for interbank US dollar transactions remained unchanged at 362.14 rupees against the US dollar.

Commercial banks offered dollars for telegraphic transfers at 371.38 rupees on Friday, data showed. (Colombo/Feb 01/2022)

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Sri Lanka bill auction hits pothole after 2025 bond spike

ECONOMYNEXT – Sri Lanka sold only 45 billion rupees in Treasury bills at Wednesday’s auction after offering 120 billion rupees, data from the state debt office showed, amid market confusion over a spike in a two year bond at an earlier action.

30.1 billion rupees of 3-month bills were sold at 29.91 percent, unchanged from a week earlier after offering 60 billion rupees for auction.

5.1 billion rupees of 6-month bills were sold at 28.72 percent, flat after offering 30 billion.

10.3 billion rupees of 12-month bills were sold at 27.72 percent after offering 30 billion.

Phase II subscriptions have been opened.

The market was foxed after the 2025 bonds were accepted at sharply higher yield than market on January 30, dealer said.

There was further confusion as the there was an outright purchase of 2025 at around 29 percent earlier in January.

Some investors speculated that the authorities were trying to drive more buyers towards short end bonds as bill volumes were getting larger. (Colombo/Feb01/2023)

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Sri Lanka services exports down 5.9-pct in 2022

ECONOMYNEXT – Sri Lanka’s services exports were estimated to have fallen 5.9 percent to 1,876.3 million US dollars, the island’s Export Development Board said.

Services exports estimated is made up of ICT/BPM, construction, financial services, transport and logistics.

There are more than 500 ICT companies, the EDB said.

Sri Lanka’s merchandise exports were up 4.6 percent to US dollars 13.1 billion dollars in 2022 from 2021.

Sri Lanka’s goods exports are slowing amid lower growth in Western markets. (Colombo/ Feb 01/2023)

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