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Sri Lanka imports plunge, trade gap shrinks and rupee sinks; Mercantilism shattered

ECONOMYNEXT – Sri Lanka’s imports fell 5.1 percent to 1,582 million US dollars in September 2015 from a year earlier and the trade gap narrowed 4.1 percent to 733.1 million US dollars data showed, but the rupee sank 5.9 percent amid heavy money printing.

Exports also fell 5.9 percent to 849.6 million US dollars. In dollar terms imports were down 84.8 million US dollars in the month from a year earlier, while exports were down 53.2 million dollars.

Mercantilism Shattered

The September import plunge and shrinking trade gap shatters a classical Mercantilist idea prevalent in Sri Lanka that imports and the trade gap has something to do with currency collapse.

Using the doctrine, rent seeking ‘domestic production’ and ‘import substitution’ businesses in Sri Lanka have exploited the poor, teaming up with the elected ruling class to jack up import duties.

Nationalists have also pushed the idea of self-sufficiency or autarky, pointing to ‘foreign currency shortages’ that occur when the central bank increases the supply of rupees through money printing to justify trade controls on the poor and unjust profits to producers.

Sri Lanka’s rupee started to collapse only started after 1951 when a money printing central bank was created. Before that a currency board ensured that money supply was kept in balance with the balance of payments with market determined interest rates.

20th century Mercantilism

Other mainly post World War II, Neo-Mercantilist ideas pushed forward to explain rupee depreciation, is that the ‘currency is overvalued’, and that there are inflation differentials with other trading partners, which leads to a higher trade gap and currency pressure.

That the ‘current account’ of the BOP has something to do with the currency is also a newer idea which expands on the old classical-Mercantilist claim which rests only on the Merchandise account. In the 17th century trade in services was minimal.





Trade gaps however are generated when there are inflows to the country outside the Merchandise trade account, such as exports of labour (remittances) or exports of debt (foreign borrowings).

The government’s net foreign borrowings is a key driver of the trade gap in Sri Lanka. In the first three quarter of the year gross inflows to the government fell to 2.5 billion US dollars from 4.4 billion a year earlier.

BOP deficits

Despite slower government inflows, imports were still pushed by Central Bank liquidity releases in the first two quarter of the year and outright money printing in the third quarter.

Both actions generate a ‘BOP deficit’ as credit given with excess liquidity generates imports outpacing whatever inflows from exports, borrowings, remittances and tourism.

In the nine months to September total imports fell slightly to 0.6 percent to 14,141 million US dollars and exports fell 3.7 percent to 7,991 million US dollars. The trade gap was still higher than the previous ear by 3.8 percent.

In the absence of bigger inflows through the financial account, the current account deficit of the balance of payments can narrow from a year earlier, but the country can still face a deficit in the balance of payments and a currency collapse if the central bank releases liquidity and prints money outright.

In the nine months to September 2015, Sri Lanka had recorded a balance of payments deficit of 2,316 million US dollars reversing a surplus of 1,996 million US dollars, the central bank said.

In 2014 credit was negative, making inflows build up in the form of liquidity in commercial banks and foreign reserves in the central bank. In 2015, credit picked up, and the Central Bank fired by cutting rates and printing money to monetize short term government debt to enforce rate cuts.

In September total credit from the banking system to private business, state enterprises, and central government, hit 172 billion rupees topping the total hit during the 2011/2012 balance of payments crisis. (Colombo/Dec09/2015 -Update II – corrected export data)

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