Sri Lanka needs pro-growth reforms, loose policy will create crises: CB Governor
ECONOMYNEXT – Sri Lanka’s has to do deeper productivity improving reforms to boost growth, though an International Monetary Fund backed program has restored stability, Central Bank Governor Indrajit Coomaraswamy said.
Any attempt to boost growth with loose policy will result in a crisis that will have devastating consequences, he said.
Sri Lanka’s inflation is now down to 2.0 percent levels and the central bank has rebuilt some of the reserves lost during a money printing bout in 2015 and 2016 to boost or maintain economic momentum, after a similar cycle in 2011 and 2012.
"A stabilization program is intended to compress demand, which has a depressive effect on growth," Governor Coomaraswamy said, delivering an oration in memory of Saman Kelegama, one of the most eminent economists Sri Lanka has produced.
"And that has to be offset by addressing reforms to improve the growth framework of the country. If you don’t do that then you have a big growth deficit.
"That is what happened in 2012 and to an extent in 2016. Stabilization started but the pro-growth structural reforms were much slower."
"Putting in place a stabilization program without structural reforms means that growth and incomes and employment will suffer."
Economists have called for deeper reforms in factor markets including land, labour and financial markets as well as in administrative procedures and regulations, to make it easier for domestic investors to invest and get access skilled workers.
Coomaraswamy said even in other countries immediate crisis measures may be done, but reforms were slower and the tendency was to ‘kick the can down the road’.
"The inevitable outcome is a significant slowdown in growth," he said.
There were some programs to create economic corridors, ease procedures and foreign direct investment approvals, and there were also some high profile projects with Chinese investments. It was also important to balance geopolitics, he said.
"The plans are sound but execution has to be speeded up," he said.
Any attempts to create another ‘sugar high’ with ‘inappropriate macro policies’ which inject excess demand to the economy will create a bigger crisis, he warned.
Sri Lanka was one of two countries in Asia with an IMF program, along with Mongolia.
Coomaraswamy said Sri Lanka has had 15 IMF programs of which only two were completed.
IMF programs became necessary after Sri Lanka joined the failed Bretton Woods system of soft-pegs, which its US architects falsely promised would give ‘independent monetary policy’ to anyone who joined it, as well as exchange rate stability analysts say.
Meanwhile, Governor Coomaraswamy said Sri Lanka also had a combination of a dependency culture and populist policies, which resulted in loose policies.
In 2012 Sri Lanka had to impose a demand compression including a credit ceiling after subsidies and monetizing of debt, created an unsustainable boom while already being in the midst of an IMF program.
Shortly after, an already populist budget in 2014 was made worse by a looser budget in 2015.
Coomaraswamy said Sri Lanka was perhaps one of the countries that had accessed IMF most often.
He said countries went to the IMF because they adopted wrong policies.
In the early years, IMF demand compression was accompanied by cheap finance from the World Bank and Asian Development Bank at around 1 percent with 10-year grace and 30 to 40 year payback.
But with Sri Lanka being a higher income country, it had to depend more on commercial financing from capital markets.
"Now the thing about being a low income country is that IMF may negotiate fairly tough programs, but they won’t cut you loose," he said.
"You will have to do some adjustments, but there will be some money as well."
But now it was different. Sri Lanka was exposed to rating agencies.
"The way crises will play itself out will be qualitatively different," Coomaraswamy warned. "Today international capital markets are not going to do any favours.
"If they think we are no longer creditworthy because our macro-economic fundamentals have deteriorated, they will stop. There will be no financing."
The rebalancing of the economy will have to be entirely by adjustment. These financial crises are far, far, far more painful, than the kind of balance of payments crises we have had in the past.
"It we have a crisis this time it will have far more devastating social and political consequences."
He said that is the type of crisis Greece, East Asia and a number of Latin American countries have had.
Argentina is now going through yet another currency crisis. The country has one of the worst central banks in the world. Argentina had a currency board until 1935 when a central bank was created by Raúl Prebisch, who also helped set up the Mexico’s central bank.
Initially set up as a private agency, it was nationalised in 1946. Bad policies led to the decline of Argentina and repeated currency crises while countries like Australia and New Zealand prospered. (Colombo/June25/2018)