Sri Lanka wants South Asia trade integration as soft-peg trigger import controls

ECONOMYNEXT – Sri Lanka wants greater trade liberalization and trust among South Asian economies to accelerate development and reduce poverty, a top central banker said, after slapping trade restrictions which has hit Indian vehicle exports and gold trading.

High import protection, partly imposed to make up for policy errors of soft-pegged central banks in the region as well as political rivalries between India and Pakistan in particular, has put a break on regional trade.

"South Asia is the least integrated region in the world," Central Bank Governor Indrajit Coomaraswamy said at the South Asian Economic Students Meet 2019 organised by undergraduates at the Colombo University Economics Department.

"When there is trust among people, countries do well. Trust promotes trade, and trade promotes trust.

"Lack of trust has greatly inhibited trade and development in the South Asian region."

Coomaraswamy said South Asian countries have greater restrictions on trade among themselves, compared to their main trading nations outside the region, quoting a World Bank report.

Trade within the region accounts for only 5 percent of total trade in South Asia, compared to 50 percent in East Asia and the Pacific, and 22 percent in Sub-Saharan Africa, Coomaraswamy said.

Restrictions on imports from the rest of South Asia are around two to nine times higher than from the rest of the world in India, Nepal, Pakistan and Sri Lanka, he said.

Coomaraswamy said even after taking into account that 50 percent of trade in the region is informal, taking place outside customs controls, South Asia is still the least integrated in the world.

His comments come after Sri Lanka slapped series of restriction, including credit, which have hit import of three wheelers and other vehicles from India.





Sri Lanka also slapped higher taxes on gold, jumping on a Mercantilist bandwagon originally triggered by the Reserve Bank of India, which slapped taxes on gold in a belief that trade and imports rather than credit and monetary instability generated balance of payments troubles.

Similar Mercantilist beliefs, which made (classical) economics retreat during the Bretton Woods era, are prevalent in Sri Lanka.

Balance of payments troubles triggered by monetary policy errors, regularly makes Sri Lanka go to the International Monetary Fund.

The IMF has made Sri Lanka promise not to impose more trade controls in a bid to cure balance of payments troubles during an ongoing three year deal, which has been suspended following a failure of the peg.

"During the program, we will not impose or intensify restrictions on the making of payments and transfers for current international transactions; introduce or modify multiple currency practices; conclude bilateral payments agreements that are inconsistent with Article VIII; or impose or intensify import restrictions for balance of payments reasons," the last agreement with the IMF said.

Sri Lanka has also tightened restrictions on exporter remittances amid monetary policy errors, which the IMF said in a capital flow meausure.

"Sri Lanka imposed in April 2016 a repatriation requirement for export proceeds, which constitutes a capital flow management measure (CFM)," the IMF noted.

The IMF was set up by the architects of the Bretton Woods system of failed soft-pegs, who wanted free trade.

But attempts to pursue independent monetary policy (printing money to lower interest rates while attempting to collect forex reserves by targeting the exchange rate) led to its collapse as well as widespread trade restrictions.

The latest trade restrictions has discredited the free trade agenda of the current administration and given ammunition for its political opponents as well as nationalists (
Sri Lanka ex-President blames free trade for rupee fall, praises Trump

Even the US slapped trade controls during the final collapse of the peg with gold (Nixon shock).

Critics say Sri Lankans have paid a high price to maintain a soft-pegged exchange rate with monetary policy incompatible with exchange rate policy, including chronic currency depreciation, high inflation and trade controls and exchange controls.

Analysts have called for central bank reform for allow for free trade. (Sri Lanka central bank has to be restrained for free trade to succeed: Bellwether).

"The post-independent isolation of Sri Lanka involving a mania for ‘saving foreign exchange’ and ‘import substitution’ all came from the BOP troubles of the soft-peg," EN’s economics analysts Bellwether said before the latest trade controls.

"All this shows that any free trade agenda would be rolled back in the guise of ‘saving foreign exchange’ and ‘domestic production’, unless the Central Bank was reformed.

"It is the flawed soft-peg that allows Mercantilists, nationalists, and advocates of a Nazi autarky to raise their heads."



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