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Sunday December 3rd, 2023

Sri Lanka’s central bank crisis and John Exter’s about face on hard pegs: Bellwether

ECONOMYNEXT – Sri Lanka is suffering the worst currency crisis in the history of its central bank, with the rupee halved in value, children suffering malnutrition, high interest rates, sovereign default and the banking system also taking a beating.

In an island where rule based monetary policy is viewed with disdain by policy makers and flexible or discretionary policy depreciation and mis-targeting of interest rates is revered, it is opportune to consider what the creator of the central bank said in hindsight.

John Exter created the central bank abolishing a Singapore and Hong Kong style hard peg in Ceylon at the request of the then Ceylon government giving a long list of reasons why a central bank was more appropriate than a currency board.

Exter in 1949

The supposed drawbacks of currency boards now claimed even by some present day economists – despite the malnutrition of little kids and out-migration from flexible central banking – was also detailed in Exter report.

The Report contained the standard US post-World WarII propaganda used to break the Sterling Area.

“The decision of the Governor of Ceylon to establish a central bank was a decision with far reaching implications for the people of Ceylon,” the report began.

“One implication already stands out very clearly; in taking steps to establish an independent monetary system to be administered by a central bank the government has demonstrated unmistakably its intention to achieve genuine economic freedom as a corollary of the political freedom achieved a year and half ago.”

“This type of system, therefor is a mark of colonialism,” he added for good measure, which may have been lapped up gleefully by the newly independent nation, little knowing that the public would soon be enslaved by draconian exchange controls, import controls and the import substituting robber barons.

The lofty ideal of ‘economic freedom’ however did not last long. A brand new exchange control law came in 1952 and in 1969 an import control law to deny economic freedoms to citizens.

“For a developing economy it has a number of serious disadvantages,” the report continued.

“The role of the Currency Board must remain purely passive; it cannot influence the money supply in any way and thus relieve the pressure to which rapid swings in the balance of payments may at times subject the economy.”

This claim is oft repeated.

“A 100 percent system is this a ‘fair weather system”,” he also claimed falsely.

A currency board’s value comes not in a fair weather system but protection from the worst type of economic storms possible.

By that time the currency board had already protected Sri Lanka during the Great Depression and two World Wars, from which both Singapore and Thailand suffered as central bank money was circulated by the Japanese.

“Under such a system banks are vulnerable, for without a Central Bank, they have nowhere to turn for help in case of need,” he added.

This criticism is only partially true, as Hong Kong and Singapore had easily solved the problem with overnight liquidity without a fixed policy rate. Also it is quite easy to set up a separate bailout fund with currency board profits if need be.

In practice however banks in currency board territories tend to be more prudent and manage with deposits largely avoid failure due to the inability to overtrade with CB window money.

The large liquidity shorts now found banks in Sri Lanka in 2022 due to giving loans with window money after reserves are sold for imports, are not found in currency boards.

To be fair in 1949 that was the prevailing Keynesian, Latin American dogma. Sri Lanka’s central bank was built on a blueprint devised for Latin America by Robert Triffin, the head of Fed’s Latin America division before World War II.

The US was intent after World War II on getting as many countries as possible to join its dollar pegged Bretton Woods system.

Exter in 1968

However a few years later Bretton Woods itself was under pressure from US monetary activism. In 1968 – a year before Sri Lanka enacted the Import and Export Control Law and around the time that official parallel exchange rates were – Exter had visited Sri Lanka.

In the publication Central Bank of Sri Lanka in Retrospect, a lecture he delivered at the Institute of Chartered Accountants is detailed.

In the Ceylon leture he was quoted as saying that creating excess credit by the central bank was “bound to cause inflation, balance of payments difficulties and generally unstable conditions.”

“Mr Exter said Ceylon could benefit greatly from the example set by several small countries in the area such as Malaysia, Singapore and Thailand,” the news report said.

“Hong Kong was the most remarkable economic in the world – its population had risen from 800,000 to four million in the past 20 years or so and yet there was no unemployment, wages had risen in the sixties by 75 percent while prices were kept at a low level.

“There were no exchange or trade controls of any significance in this small ‘city states’ exported almost as much by value than India, a nation of over 500 million.

“The thing about Hong Kong and Singapore was there were no Central Bank like institution and monetary policy was determined by what he called ‘market conditions’.

“There were no organization which could disturb the stable dynamism of the economy by introducing control by resorting to deficit financing.”

He had also criticized the monetary policies of the US, the report said.

By this time Exter had predicted the collapse of tthe US dollar and had in fact started collecting gold eagle coins according to an interview given to Franklin Sanders, the founder of the Liberty Dollar.

“I should not say that I rejected Keynesianism right away,” Exter told The-Money Changer many years later, a publication linked to Franklin Sanders, who founded the Liberty Dollar.

“I had it pumped into me in those early years and actually taught it in the entry level economics course at Harvard. As the years wore on I became more and more sceptical.”

Barely three years later the Bretton Woods soft-pegs lay in ruins.

Fear of floating and currency board phobia

While Exter had changed his views, it was too late for Sri Lanka.

“…[I]n May 1968, Ceylon implemented a dual exchange rate (FEECS) that was commonly used in Latin America with tacit acceptance of the IMF,” top economist Saman Kelegama wrote in a summary of memoirs of Gamani Corea, a Sri Lanka planner and central banker.

“The Fund was not entirely happy but approved it by saying it was ‘a wrong step in the right direction’.”

In 1969 an import and export control law was enacted, the Dudley Senanayake administration’s attempts to open the economy was at an end.

Sri Lanka’s open economy was closed and the roots of two uprisings in the North and the South was to be laid shortly after.

Neither Washington based policy-makers nor Sri Lanka’s have changed their views even now.

Consistent single anchor regimes are viewed with fear and macro-economists cling to unstable intermdiate regimes which are prone to collapse and external default. There is both ‘fear of floating’ and ‘currency board phobia’.

Deep in the grip of Latin America disease, the country has defaulted, poor children are starving and another ‘flexible’ and ‘discretionary’ monetary law in line with ‘fear of floating’ and ‘currency board phobia’ is planned under an IMF program.

This column is based on ‘The Price Signal by Bellwether‘ published in the November 2022 issue of the Echelon Magazine. It is updated with recent data and the impact of the relief package. To read Bellwether columns as soon as they are published, subscribe to Echelon Magazine at this link.

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To read recent Bellwether columns click here

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(Colombo/Dec14/2022 – Update II)

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  1. Diogenes Fernando says:

    Another great piece with a prime example of IMF weasel words: ‘A wrong step in the right direction.’ (Whatever that’s supposed to mean!).

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  1. Diogenes Fernando says:

    Another great piece with a prime example of IMF weasel words: ‘A wrong step in the right direction.’ (Whatever that’s supposed to mean!).

UAE investors express interest in Sri Lanka’s energy, tourism, ports, real estate: Ali Sabry

ECONOMYNEXT – A group of investors based in the United Arab Emirates have expressed their interest in renewable energy, tourism, ports, and real estates, Foreign Minister Ali Sabry told Economy Next.

A Sri Lankan delegation led by President Ranil Wickremesinghe is in Dubai to take part in the 2023 United Nations Climate Change Conference (COP28).

Sabry said a group of large investors met the President on Friday and discussed possible opportunities in Sri Lanka.

“We met big investors here particularly on renewable energy, tourism, port development and also infrastructure development and real estate. That’s where they are doing very well,” Foreign Minister told Economy Next.

“Our embassy will organize a higher-level business delegation to visit Sri Lanka to look at the available opportunities.”

“There is a lot of traction and interest in Sri Lanka.”

Sri Lanka has been exploring to attract investors to crisis hit Sri Lanka which declared bankruptcy in April last year with sovereign debt default.

Since then, most investors have taken a step back from investing in the island nation due to its inability to serve debts and uncertainty over such investments.

Several government officials said investors may start pouring dollars into Sri Lanka very carefully after they see some certainty of debt repayments. (Dubai/Dec 3/2023)

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Sri Lanka to push for green initiative investment “after OCC finalizing” debt deals – President

ECONOMYNEXT – Sri Lanka will push for investment into green initiatives globally after the Official Creditor Committee (OCC) finalizing on the island nation’s debt restructuring, President Ranil Wickremesinghe told Economy Next at the 2023 United Nations Climate Change Conference (COP28).

President Wickremesinghe along with local and global advisors has inaugurated three ambitious projects to convert climate change-led disaster funding, which is mostly seen as donations, into viable commercial enterprises involving private sector investments.

The idea is to rally all the global nations in the Tropical Belt threatened by disasters related to climate change and bargain collectively with advanced economies which emit more greenhouse gases into the environment resulting in global warming for more green initiatives like renewable energy projects.

Wickremesinghe initiated a Climate Justice Forum (CJF), Tropical Belt Initiative (TBI), and called on the world to help establish the International Climate Change University in Sri Lanka.

His moves have been welcomed by global leaders, though analysts said an initiative like TBI is a “bold and imaginary” step.

“This is the first step. We have now put forward the proposal,” Wickremesinghe told Economy Next on Sunday on the sideline of the COP28 in Dubai’s EXPO 2020.

“There is an interest. We have to wait for OCC finalizing (debt restructuring) before pushing for investments.”


Global investors are hesitant to invest in Sri Lanka due to its bankruptcy and sovereign debt default.

Sri Lanka is still recovering from an unprecedented economic crisis which has compelled the island nation to declare bankruptcy with sovereign debt default.

President Wickremesinhe during a forum on Saturday said his initiatives would help government in advanced countries not to use tax money of its own people for climate related disasters in other countries and instead, private sector investors could help by investing in renewable energy initiatives.

President Wickremesinghe’s government has been in the process of implementing some tough policies it committed to the International Monetary Fund (IMF) to stabilize the country and ensure sustainability in its borrowing.

Sri Lanka is yet to finalize the debt restructuring fully as it still has to negotiate on repayment schedule of commercial and sovereign bond borrowing.

The OCC and Sri Lanka had agreed on the main parameters of a debt treatment consistent with those of the Extended Fund Facility (EFF) arrangement between Sri Lanka and the IMF.

The members of the Paris Club which are part of the Official Creditor Committee are representatives of countries with eligible claims on Sri Lanka: Australia, Austria, Belgium, Canada, Denmark, France, Germany, Japan, Korea, the Netherlands, Russia, Spain, Sweden, the United Kingdom, the United States of America.

The OCC has said it was expecting other bilateral creditors to consent to sharing, in a transparent manner, the information necessary for the OCC to evaluate comparability of treatment regarding their own bilateral agreement.

The OCC also has said it expects that the Sri Lankan authorities will continue to engage with their private creditors to find as soon as possible an agreement on terms at least as favourable as the terms offered by the OCC. (DUBAI/Dec 3/2023)

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Sri Lanka alcohol regulations may be spurring moonshine: Minister

ECONOMYNEXT – Sri Lanka’s alcohol regulations may be reducing access to legal products and driving illegal moonshine sector, State Minister for Finance Ranjith Siyambalapitiya said amid plans to change opening times of retail outlets.

Sri Lanka is currently discussing changing the opening times of bars (retail alcohol outlets), he said.

Sri Lanka’s excise laws may be contributing to the growth of illegal products, Minister Siyambalapitiya was quoted as saying at the annual meeting of Sri Lanka’s excise officers.

Over 20 years legal alcohol sales have grown 50 percent but illegal products are estimated to have grown 500 percent, he said.

It is not clear where the 500 percent estimate came from.

In Kandy there was a bar for every 6,000 persons but in Mullativu there was one for only 990,000 persons and people had to travel 80 kilometres to get to a legal outlet, Minister Siyambalapitiya had said.

However Sri Lanka has a widespread moonshine or ‘kasippu’ industry driven by high taxes on legal products.

The widely used ‘gal’ or special arrack is now around 3,500 rupees and may go up further with a hike in value added tax. About 2000 rupees of the sale price is taxes.

After a currency collapse and tax hikes legal alcohol sales have fallen, leading to local sugar companies burying ethanol, according to statements made in parliament.

An uneven distribution of bars may also be driving people towards alcohol.

Alcohol sales is controlled on the grounds that it is an addictive product which can lead to poverty, ill-health, bad behaviour and criminal activities, though advocates of high taxes ignore the poverty angle.

High taxes are promoted by temperance movements some of whom have called for outright prohibition in the last century.

Temperance movements spread among evangelical groups in the West and were also embraced by nationalists/moralists and independence movements in colonial authorities.

Prohibition in the US however led to more criminal activity as an organized crime took to bootlegging. (Colombo/Dec03/2023)

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