ECONOMYNEXT – Sri Lanka’s gross domestic product edged marginally lower to 4,102 dollars per person in 2018 from a revised 4,104 dollars in 2017 amid a collapse in the currency from operating a soft-pegged exchange rate.
Sri Lanka’s economy grew 3.2 percent in 2018, with growth in the fourth quarter slowing to 1.8 percent amid a political crisis and greater moneary instablity than the earlier two quarters.
Sri Lanka’s Central Bank has an explicit strategy of targeting a real effective exchange rate index but does not have a floating policy rate to enforce it, generating balance of payments troubles.
The Central Bank also cuts rates and prints money when inflation falls (independent monetary policy) effectively operating a de facto inflation targeting regime with a exchange rate peg, generating balance of payments troubles through what economists call the impossible trinity of monetary policy objectives.
Last year, the Central Bank also brought in Nixon shock-style trade restrictions to cover its monetary policy errors, shattering a key plank of the current administration’s economic strategy.
Sri Lanka has seen back-to-back balance of payments troubles since 2015, with monetary stability only maintained by the Central Bank in 2017.
In 2017, the rupee was permanently depreciated despite the Central Bank generating a balance of payments surplus by mopping up inflows, to ostensibly target a real effective exchange rate index.
According to revised data released by the statistics office, per capita GDP grew from 3,821 dollars in 2014 to 3,842 in 2015 and to 3,886 dollars in 2016, when the rupee fell from 131 to 150 to the US dollar.
In 2017, per capita GDP rose faster to 4,102 dollar from 3,886 with some monetary stability returning.
In 2018, per capita GDP edged down to 4,102 dollars from 4,104 with the rupee collapsing first to 161 and then to 180 in two episodes of instability. The census department is using an average exchange rate of 163 rupees for 2018.
Sri Lanka’s per capita GDP fell 869 dollars to 838 dollars in 2001 and the economy contracted 1.5 percent, after a case of severe monetary instability and currency collapse in the midst of a war.
Sri Lanka’s growth has flagged in recent years after spiking with the end of a war in 2009, partly as GDP computation changed but also due to lack of liberalisation to spur growth, combined with monetary instability, analysts say.
For about a decade, Sri Lanka pursued a strategy of crony protectionism, expropriation, and building loss-making state enterprises mis-allocating resources, which hurt long term growth prospects reducing the usage of infrastructure built with state borrowings.
Monetary instability had worsened since 2015. Monetary instability has been a key constraint on the economy and people’s freedoms since a soft-pegged Central Bank was set up in 1950 leading to draconian exchange and trade controls.
Currency depreciation and unsound money in general destroys real wages and also destroys real capital available to invest and increase labour productivity and cut slashes the economic foundations of a family.
From 2015, Sri Lanka tried to implement ‘ a social market economy’ in without the fundamental building block – Central Bank reform – as Germany did for its own social market economy, while Britain which won World War II regressed with monetary instability and currency collapsed (Sterling crises) as it pursued Keynesian economics.
"Stability may not be everything," said Karl Schiller, one-time economy and finance minister of Germany. "But without stability everything is nothing."
Sri Lanka is planning to move from a second class (soft-pegged) exchange rate regime which is called a ‘flexible exchange rate’ to a second class (flexible) inflation targeting regime. (Colombo/Mar21/2019-SB)