Sri Lanka needs to learn from its experience of the past, especially when the country moves forward in terms of establishing the appropriate framework for formulating monetary policy, former Governor of the Central Bank of Sri Lanka Dr. Indrajit Coomaraswamy said.
“If I can have a brief historical perspective in leading up to the subject, macroeconomic stress has been a major causal factor in Sri Lanka’s decline from being second in Asia on most socio-economic indicators at the time of independence. And the primary cause in my view of that macroeconomic stress has been the government’s unsustainable fiscal policies,” Dr. Coomaraswamy told the 72nd Annual Oration of the Central Bank of Sri Lanka.
Noting that persistent fiscal imbalances in Sri Lanka have led to price and balance of payments instability , he added that this provide a context where a central bank with a clear mandate and instrument autonomy would have acted more decisively in leaning into the fiscal profligacy to contain the impact of the fiscal indiscipline. In Sri Lanka, fiscal forbearance has allowed successive governments to continue with fiscal instability or policies that cause fiscal instability. And that fiscal instability has flowed through into the inflation, balance of payments and into the instability of the currency, Dr. Coomaraswamy emphasised.
“Now if one looks back over the years , one could argue that there has been a tendency to have fiscal forbearance which has led to the amplification of the negative impact of fiscal imbalances.”
Dr .Coomaraswamy stated that this has been reflected in the 16 IMF programs that the country has had so far which are associated with successive cycles of stop-loss policies.
Speaking further Dr.Coomaraswamy stated that lack of instrument autonomy has manifested itself through two channels; one is large-scale deficit financing and two is financial repression and these consequences have had a material impact on the severity of the current crisis. Highlighting that tax cuts that were introduced at the end of 2019 has been a major cause for fiscal deficit financing, Dr . Coomaraswamy said tax collection,pandemic, the ban on the chemical fertilizer and the Ukraine war have also been contributory factors in creating the environment which has led to deficit financing on a massive scale. “ But probably the primary causal factor has been the tax cuts that took place at the end of 2019.”
Dr. Coomaraswamy also emphasised that the CBSL should have a monetary policy framework which has sufficient instrument autonomy to ensure that unsustainable deficit financing and financial repression can be avoided in the future. “One needs a monetary policy framework which has a robust technical foundation to maintain low and stable inflation which enables the cost of funds to be kept low while maintaining positive real interest rates.”
Dr. Coomaraswamy added that this should be embedded both in the process of monetary policy formulation and in the legal framework.
Add new comment