ECONOMYNEXT – Sri Lanka’s central bank is gradually losing its ability to create a balance of payments, after depleting reserves and counterparties and foreign central banks are no longer willing to lend foreign currency, the data shows.
Balance of payments deficits are a problem associated with loosely pegged central banks that print money to expand credit and sell dollars to prevent the currency from falling when its peg comes under pressure from the new currency.
In the later stages of a balance of payments crisis, when private or public credit picks up, a central bank will step in and print money to control rates (sterilize intervention).
Sri Lanka’s central bank ran out of reserves (some of which were borrowed) in April 2022, but was able to continue to intervene with money lent by the Reserve Bank of India thanks to delayed Asian Clearing money Union.
Sri Lanka’s central bank created the biggest balance of payments deficits in its history after printing money from 2020 to target an output gap after cutting taxes in the style of stimulus attempts British Barber Boom or Prime Minister Liz Trusts (now abandoned in apparently new wisdom).
Money printing was taught as macroeconomics (John Law garnished with statistical functions) in most British and American universities after the 1930s, with the notable exceptions of the London School of Economics and the University from Chicago.
Sri Lanka’s central bank has created a balance of payments deficit of US$2.3 billion in 2020, US$3.6 billion in 2021 and US$2,986 million through July 2022. Until August, the balance of payments deficit was officially calculated at 3,035 million US dollars.
After creating a balance of payments deficit of $219 million in June and $172 million in July, a balance of payments deficit of $49 million (as calculated by the central bank) was created in August .
A balance of payments deficit corresponds approximately to a decline in net international reserves. BOP deficits from January 2020 to August 2023 totaled US$9.3 billion.
As of December 2019, Sri Lanka’s gross official reserves stood at US$7.6 billion (which includes fiscal balances), but the central bank managed to blow out over US$9.3 billion by borrowing to other central banks through swaps.
The RBI and Bangladesh Bank had lent money through swaps for the central bank to intervene and print money to mistarget rates after the intervention.
Fortunately, China did not allow its swaps to be used for intervention and subsequently mistargeted rates by printing money.
Currency crises have hit countries where policy makers apparently do not know the difference between sterilized and unsterilized intervention and where there is also no solid doctrinal basis in classical economics or sound money.
A World Bank survey found that only 2% of experts surveyed in the region pointed to monetary policy for currency instability. (Sri Lanka, currency crises in South Asia, World Bank survey in shock revelation.)
Soft-pegs usually float after depleting their reserves.
Unlike a loosely pegged central bank (a monetary authority with a flexible exchange rate), a floating exchange rate central bank will not create balance of payments deficits or currency shortages because it does not intervene in the foreign exchange market to provide reserves for imports.
Soft pegs with fixed policy rates were concocted by US mercantilists (the policy rate was also accidentally discovered by the Fed during the process of creating a bubble of the 1920s that led to the Great Depression – Sri Lanka, the world’s poor are suffering from the accidental discovery of the Fed) who built the Bretton Woods system of failed pegs.
A central bank that runs out of reserves can still depreciate the currency by printing money, even if it largely loses the ability to create balance of payments deficits.
Mercantilists have concocted a scheme called flexible inflation targeting in which floating rate open market operations are used to bombard a peg until it collapses and then the policy error is offset by depreciation.
Loose pegs that create a balance of payments deficit lose the ability not only to pay for imports (convert domestic currency into US dollars) but also to settle debt, leading to a borrowing spree known as “inflow”. financing” in Sri Lanka.
Former Singapore Prime Minister Lee Kwan Yew called the loans “hedging loans” when telling people why the country decided to do unsterilized interventions and not have a policy rate. (Colombo/October 21, 2022)