Abolition of exchange controls – Will it help the country?
Posted on June 16th, 2016

By Dr. Janaka Ratnasiri Courtesy The Island

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During the recent no-confidence debate on the Finance Minister, the Prime Minister (PM) was reported to have said in the Parliament that country’s exchange controls would be removed before the next budget in November (Sunday Island, 12.06.2016). He added that “Sri Lanka’s foreign reserves were expected to double to USD 12 billion by the end of this year thanks to loans and grants from China, India and Japan, and that the government planned to raise about USD 4.2 billion offering bonds to foreigners”. Apparently, the justification was to attract more investors.

Finance Minister’s address at Hong Kong

The Finance Minister (FM), too, has made a similar statement while delivering a keynote address at the 2016 Asian Investment Conference held last April in Hong Kong. He was heard saying that he aimed to turn capital (Colombo) into a financial hub modeled after Hong Kong and Singapore and that exchange controls would be abolished and invited investors to deposit their surplus money in Sri Lanka guaranteeing its safety, particularly from those living in Asia (https://www.credit-suisse.com/microsites/conferences/aic/en/blog/sri-lanka-finance-minister-we-are-back-in-business.html). Similar sentiments were also expressed by the Central Bank Governor (CBG) giving the same justification (The Island, 14.06.2016).

Listening to what the FM and the PM have said, one wonders whether there is any necessity to abolish exchange controls altogether merely to attract foreign investors. If attracting foreign investors whether to start up industries or new business ventures or to safe-keep their money, the ministers could have said that such investors be exempted from existing exchange controls instead of promising exchange controls would be totally abolished like in Singapore or Hong Kong. The picture the FM has painted in the Hong Kong forum that exchange controls were an impediment to bring investors is not correct.

Are exchange controls really an impediment?

The exchange control regulations have not been an impediment to foreign investments as so many investors have come and gone over the years taking whatever returns they have earned with them. The only difference is that an investor cannot at present walk into a bank and remit his entire balance out of the country with no question asked. He has to first get exchange controller’s approval which is granted readily after it is confirmed that he has met his commitments – payment of employees’ salaries, EPF contributions, payments to raw material suppliers and taxes to the government etc. Does the FM want all this verifications done away with and allow an investor to take away his money without honoring his commitments?

I believe that in other countries where exchange controls are relaxed, governments, unlike ours, would not have had to depend on foreign loans to build up their foreign exchange reserves. With far reaching vision, planning and integrity of their leaders, they have been able to build up adequate foreign exchange reserves which enabled them to relax their exchange controls. But, is the situation similar here? It is indeed sad to hear the PM saying that the government would abolish exchange controls allowing people to remit money as much as they wish to saying that money borrowed from friendly countries is available for that purpose!

Country’s balance of payment

The external trade has been performing poorly over the years with the import-export deficit deteriorating from USD 4,825 million in 2010 to USD 8,430 million in 2015, a 75% increase (M/Finance Annual Report 2015). According to this report, the total external reserves which amounted to US$ 9.3 billion by end 2015 were sufficient to meet only 4.6 months of imports. Even this reserve was built up from loans taken from several countries as well as from lending institutions like the IMF and ADB.

Under such a critical situation with regard to external reserves, how prudent is it to remove exchange control regulations for whatever the reason? Won’t it open a floodgate, draining the little foreign exchange we have? The trio (PM, FM & CBG) should realize that the balance the country has now is mainly contributed by the blood and sweat of our housemaids slaving in the middle-east and not so much by the affluent business community most of whom are now given tax exemptions by the FM. The trio has no moral right to allow the rich to squander this money on jaunts abroad and sustain luxury lifestyles. President Sirisena should intervene to stop them from ruining the country’s economy.

Way to create a healthy balance of payment

The policymakers, both politicians and administrators, seem to be oblivious to so many opportunities the country has to improve the external trade balance but not doing anything about it. A few of them were highlighted in the writer’s article, Sustainable Economy, which appeared in The Island of 10th, 14th and 28th August 2015. In this article, only a few sectors – tea, fisheries, electronics and energy – were covered. But, there are many more opportunities available where the export earnings could be increased and imports reduced and create a healthy external balance, but such initiatives need government intervention, which unfortunately is not forthcoming.

In 2015, Sri Lanka has imported USD 2,296 million worth of textiles. At one time Sri Lanka had several textile factories in Veyangoda, Pugoda, Thulhiriya and Wellawatta. Except Thulhiriya others were razed to the ground. Was it the incompetency of Sri Lankans to manage textile manufacturing or corruption that led to their closure? At least a part of this money could have been saved had those factories had been in operation. If Thulhiriya could do that under private management, there is no reason why others couldn’t.

Sri Lanka has also imported in 2015 USD 251 million worth of milk foods and USD 253 million worth of sugar. There is a potential to reduce both these amounts by producing them locally but not done for various reasons. The local production of sugar is less than 10% of the country’s requirements, but this could be enhanced easily. Increasing their production locally will provide more employment to the rural poor, but again importing goods are more attractive to decision makers than local production.

Conflict between imports and production

The issue is that policymakers are ready to support imports rather than local production and make the produce available to the people. For example, in 2014 and 2015, sums of USD million 282 and 135 respectively, were spent on rice imports while it has been in the range of USD 18-24 million only annually during 2011 – 2013 (M/F AR 2015). Why was there a sudden increase in rice imports in 2014 and 2015? Do people prefer imported rice to the local varieties?

Readers may recall that the country has recently had a surplus rice production but there is no mechanism to purchase, store and market it to the people at reasonable prices after processing. As a result, surplus rice probably after spoilage was sent to animal feed factories. What prompted the policymakers to import such large quantities of rice when there was a surplus production in the country? The answer is simple – imports yield more commissions!

According to the editorial of the Sunday Divaina of 12.06.2016, some of the institutions where corruption prevails come under the purview of ministers who are themselves alleged to be most corrupt. The editor further says that they and corrupt officials could plunder the institutions and raze them to the ground. This is exactly what happened during past regimes when several factories including ceramics, textiles, plywood, paper and many more were literally razed to the ground. The army’s central armoury at Salawa was built on the razed plywood factory premises!

Failure to attract foreign investors in the past

From the time the free trade zones were set up in the country several decades ago, regime after regime was wooing foreign direct investments (FDI) by offering many tax benefits and infrastructure facilities. Some have set up ventures but not to the level the other countries in Asia have achieved. Before the FM invites investors to Sri Lanka offering free exchange transactions, he should examine the real reasons for the poor response to previous calls for investments.

According to Central Bank data, FDIs amounting to USD 1,066 million were received in 2011 which increased to USD 1,581 million in 2014, showing a healthy positive growth. However, in 2015, it declined to USD 970 million. The exchange control issue cannot come into play all of a sudden. Then was it the change of government and the investors’ loss in confidence in the new government? It appears that the FM’s appearance at the Hong Kong meeting was a damage control exercise. The question is whether it will work.

Hurdles investors have to face

Setting up an industry or a development project in areas such as energy, petroleum, highways needs clearance at different levels even before the project commences. These range from Grama Niladaris at the bottom to the Cabinet at the top. In between are the Divisional Secretary’s Office, Pradesheeya Sabha Chairman, Provincial Council Chairman, Central Environmental Authority and various government departments and institutions if any of them is likely to get affected such as forest, archeology, coast conservation, wildlife, BOI, and sustainable energy authority etc. The FM should study how speedy these institutions perform in granting clearance to projects and what is expected unofficially of the investor to improve the speed. It is no secret that at all these places there are vultures waiting to get their share.

Once operations commence, there are many hurdles an industrialist or a project proponent has to overcome to export his products or keep the project running. These include getting the products certified, payment of taxes due including VAT refunds, importing raw materials and exporting the finished products through the customs. The FM should add these institutions also to the above list. It is not seldom that one reads in the media about corrupt practices taking place therein.

Create corruption-free country to attract investors

The FM, at the end of his address, said that he was planning to attend the forum next year and by that time, Sri Lanka would be a robust financial centre. With all exchange controls removed, he was expecting more investors to come. Instead, if he could say next year that Sri Lanka has eliminated corruption altogether at all levels, I am sure more investors would flock to the country, because corruption has been the main obstacle for investors to do business here, despite his theme, “Sri Lanka is back to business”.

Will the FM be able to make Sri Lanka free from corruption? The President gave an outline of his plans to achieve this at the recent London Summit on Corruption. Will he get the support of his Cabinet members to eliminate corruption? He can do it by exercising his executive powers, but will he?

If the President wants to see the country prosper economically, he has no choice but to bring to justice the corrupt without leaving it to various commissions and officials who have not demonstrated any urgency in the matter. He should stop making public utterances on corruption but get down to work himself, first starting at the Cabinet level to make the country free of corruption. The newspaper editors cannot then point their fingers at them branding them as the most corrupt in the country.

One Response to “Abolition of exchange controls – Will it help the country?”

  1. aloy Says:

    Dr. Janaka, the trio (PM, FM, CBG) are not only shooting their feet but also playing ‘Russian Roulette’. Perhaps they will fire the last rounds very soon. It is not only lankan house maids that send their savings back home. We as professionals too send our saving in substantial amounts to be used in our retirements. These guys have a duty to use what we send prudently so that there will be a reasonable economy when we return at the twilight years.

    Your last para sums it all. Corruption perception of investors is the most important matter in attracting foreign investments. Why did the investors pulled out their funds under this government?. If Prez does not act to end corruption as promised, immediately, I can only assume that he is the most corrupt of them all. Already one and a half years have passed without any apparent action.

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