Sri Lanka’s economists and analysts last week urged policy-makers not to take economic decisions like defending the depreciation of the Rupee, just to gain short-term advantages focused on the impending Election but weigh them on its long-term economic merits and demerits. According to them, for an economy to grow, it should have growth sustaining elements where exports, which is based on external demand plays a key role and one that must be given priority.
“When it comes to export development, a market determined exchange rate is necessary in order to remain competitive in the global market. However, from time to time, Governments intervene in the currency due to political and or economic reasons.
If you take the recent example, Sri Lanka’s currency has depreciated relatively less although the Euro has depreciated significantly during past five quarters.
This has somewhat reduced our export competitiveness in the European market where Sri Lanka exports around 30% of its total exports, ” the analyst said pointing out that a currency could be allowed to be depreciated only when commodity prices are low to minimise impact
“With International commodity prices falling to significant low levels during early 2015, allowing the LKR to be determined by market forces could have helped increase export competitiveness with a minimal impact on imported inflation as sweeping consumer benefits were also proposed by the Government during this period. However, the LKR was not allowed to move freely owing to political reasons as a natural depreciation of a currency would have reduced import driven consumption of the economy by that time,” the analyst said pointing out the skewed thinking of the policymakers.
“With tensions in Middle East amid rising crude oil prices expected to increase pressure on Sri Lanka’s import bill, above-mentioned loss of competitiveness in major economic regions of the world followed by an increased duty reduction driven vehicle consumption are likely to increase pressure on the LKR going forward. However, the Government is highly unlikely to depreciate the currency prior to elections as it could hamper consumer sentiment by increased imported inflation,” the analyst noted adding that the Government will as a result resort to its popular strategy of rolling over debt.
Meanwhile, commenting on the popular concept of rolling over debt to protect the currency, an economist The Nation Gain spoke to, said that whilst this will fix the issue in the short run due to “kicking the bucket down the road”, it will however weaken the structural inefficiencies of the economy as the borrowings were done in order to finance consumption driven growth and not investment driven growth.
“Instead the Government should allow the free determination of the LKR through market forces whilst adopting a tight monetary policy by the latter part of the year to curb import financing and relatively higher (unstable) credit growth during late 2015 / early 2016,” the Economist advocated.
“Whilst a policy with tighter money and free exchange rates will be bitter medicine to an economy that is facing a reduction in its export significance to GDP, a policy like above to roll over debt to fix liquidity and the LKR issue will weaken its economic dynamics by increasing its current account payments on debt servicing (especially due to the fact that this was taken to finance import consumption growth).Finally the Government will be able to look good on paper due to stable interest rates and currency however at the cost of country’s structural weakening,” the Economist warned.
The Economist further added that if the government wanted to change this approach, it would have to be a Government with political stability; so that bitter medicine to an economy may not topple regimes, Key Performance Indicators for a government to adjust its structural issues to achieve sustainable growth so that resorting to easy answers like debt rollover are not their first choice when it comes to managing economic issues and a Government that could do above with a clear explanation of benefits of such exercise to the public in order to gain pure political advantage of winning an economic war strategy.