Sri Lanka talks growth-inflation tightrope

Nov 07, 2007 (LBO) – Central Bank governor Ajith Nivard Cabraal said that tight monetary policy and efforts to reduce the budget deficit should trim sky-high inflation in the coming months. He said the government has to maintain a balance between controlling inflation and maintaining steady economic growth.

Cabraal said Wednesday the island had coped with average double-digit inflation over the last 30 years but acknowledged that current high levels were a concern.

” . . . we see inflation as being a problem,” Cabraal said in a speech hours after the government presented its 2008 budget in parliament.

The government and Central Bank were taking measures to control inflation and the impact will be felt in the next few months, he told a meeting on the budget proposals organised by the tax firm KPMG, Ford, Rhodes, Thornton & Co.

“We had to walk that tightrope,” Cabraal said, referring to the need to maintain a balance between economic growth and rising prices.

“We want to ensure a certain balance. We don’t want to kill growth and we do not want inflation to get out of control.”

He said that despite ‘doom and gloom’ stories in the media and perceptions that the economy was about to collapse, the island was getting increasing foreign investments, the private sector expanding, unemployment coming down and per capita income rising.

The 2008 budget was focussed on generating local and foreign investment, massive infrastructure development, widening the tax base, and ensuring balanced regional development.

The government was also keen to ensure macro-economic stability through an ‘aggressive’ monetary policy to reduce inflation without killing growth, and also fiscal consolidation.

The government also wanted to ensure relief for low income groups.

“No country can go forward if it does not take care of them,” Cabraal said.

Critics have blamed the central bank for impoverishing larges sections of the population by creating high inflation since its creation in 1951.

Though budgets promise various ‘reliefs’ in the guise of being ‘people friendly’, they are usually financed with central bank credit or printed money, causing massive inflation in subsequent months.

The 2006 budget created 19.3 percent inflation in Sri Lanka and the 2007 budget has so far created 19.6 percent inflation and macro-economic instability and high interest rates. However a 500 million dollar sovereign bond helped overcome some of its worst side effects.

The 2008 budget talked little about being people friendly but had a raft of new taxes, which may allow the central bank more leeway to conduct better monetary policy next year, provided estimated revenues come.

In the last 50 years Sri Lanka’s central bank has debauched the national currency from 4.76 to the dollar to 112 rupees by printing money to finance the deficit because of a flaw in its governing law that makes it knuckle under fiscal dominance.

In 2007 the Central Bank promised to keep inflation under 10 percent but it was not able to raise policy rates above 12 percent even as inflation went galloping forward.

Economic analysts have called for fundamental reform of central bank’s governing law to make it independent and the introduction of legislated inflation targeting in Sri Lanka to limit paper money inflation.

Paper money inflation has been described by economists as a kind of legalized fraud where the wealth of private citizens and their wages are secretly stolen by government through inflation.

Critics have blamed authorities for lying to innocent members of the public who are ignorant about monetary policy about the real causes of inflation and persistent balance of payments crises in Sri Lanka.

Though both are products of loose monetary policy, ‘external shocks’ are usually blamed. High oil prices are a perennial favourite excuse.

But with macro-economic management improving worldwide, including neighbouring India where inflation is less than 3 percent and growth more than 10 percent, authorities have been finding it increasingly difficult to keep up the fiction in recent years.

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