Spotlight: Econ Op-eds in Summary (Week ended 22nd September '21)
1. How Sri Lanka’s IMF-backed ‘Young Plan’ fired a foreign debt death spiral
Sri Lanka has seen a surge in foreign debt since 2014, as budget deficit’s continued to grow alongside unstable monetary policy. The inflation targeting framework imposed at the time led to a strong depreciation of the currency, with the Central Bank injecting excessive liquidity, leading to a growth in ISB debt.
Sri Lanka is in a ‘death spiral’ due to monetary instability, with nearly half the budget deficit being financed through foreign sources. The current strategy to reduce foreign debt has seen the foreign deficit in 2020 being recorded as a net payback, albeit coming at the cost of running down reserves.
The IMF SDR allocation will help provide respite to reserves, although interest would have to be paid on their allocation, thus, the country’s situation must be assessed using net foreign assets, which do not account for SDRs or swaps. The government must focus on ensuring bond auctions are subscribed prior to further policy rate hikes.
2. CB likely to continue money expansion, direct controls
By Prof. Sirimevan Colombage
CBSL has increased money supply since last year, due to continuous borrowings by the Government from the CBSL and commercial banks. The trend is mostly likely to continue as the government does not have any other funding sources. In addition, the CBSLs monetary space had also become limited due to fiscal dominance.
The newly appointed CBSL Governor strongly denies that there is any correlation between money supply and inflation. He believes that excess money issues can be absorbed by CBSL whenever they require. However, CBSL’s recent drop of Open Market Operations and recent heavy under subscription to ISBs suggests otherwise.
CBSLs more direct monetary controls including interest rate caps, credit ceilings and exchange rate fixing, and abandonment of inflation targeting,is expected to affect free market activity negatively. Thus, in order to stabilize the economy CBSL will have to move towards market based monetary policies while managing the pressures for monetary expansions.
(Compiled by: Promodhya Abeysekara, Malitha Goonerathne & Mariyan Perera)
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