Sugath Kulatunga

15/3Down with the Rupee

Double, double toil and trouble;
Fire burn and cauldron bubble,

Down with the rupee, make it tumble,

Poor people let them crumble.

(With apologies to Shakespeare)

During the last few days there were many excellent presentations on the present economic crisis. There are several points I as a non-economist do not understand. Much repeated argument is that the corvid pandemic is not the main cause of the present debacle. According to CBSL statistics from 2014 to 2018 the workers’ remittance was 7 billion dollars and earnings from Tourism was 4 billion dollars making a total of 11 billion US dollars. Trade deficits in 2019 and 2020 were 5.1billion US dollars. The result was a BOP surplus of 6 billion US dollars. This picture completely changed due to Corvid and nothing else. If after Corvid we can reduce imports by USD 2 billion and increase tourist earnings by USD 2 billion we could aim at a saving of 10 billion which is sufficient to meet our immediate debt obligations. What we should hope for is a recovery of the World economy and an early peaceful solution to the Russia / Ukraine conflagration.

Another reason for the current problem identified in these scholarly presentations is the drastic reduction in government revenue. During the time Of NM as Minister of Finance a Marxist friend in the Ministry explained to me a rather incongruous but convincing theory, that taxing the private sector and investing in particularly State enterprise is against all business principles. The return on investment in these SOEs is negative whereas the money in the hands of the private sector invariably gives a positive ROI. If the reduction of VAT benefits went to business groups, it is likely that it would be ploughed back in investment as there is a limit to their consumption. Even if the poor people  who have a higher propensity to consume spent those benefits in consumption it increases the velocity of money and generate income and employment.

Many economists preach that devaluation is the panacea for most BOP ills. This is what the renowned economist Nicholas Kaldor had to say about devaluation.”it is more likely that a large-scale devaluation will end up reproducing much the same initial price relationships at the cost of a great deal of additional inflation”.” As early as 1931, Keynes advocated a system of import tariffs and export bounties for commodity trade as an alternative to devaluation of sterling at that time. Keynes and others—Great Britain (1931, p. 199)—argued that such a system would be superior because it would avoid the depreciation….

The Rupee underwent two major devaluations in 1965, and 1967 The continued pressure on external assets in Sri Lanka due to imports growing at a faster rate than exports, made it imperative that the Sri Lankan rupee be devalued. Accordingly, it was devalued by 20 per cent on 22 November 1967.” It is the same problem and the same solution we adopted.

A symbolic 3% devaluation was done in 2011.

In a 70 year history since Independence, according to an analysis the Sri Lankan Rupee is down by as much as 4,942.5% or by 49 times vis-à-vis US dollar from Rs. 3.32 per US Dollar ($)  in 1948 to latest rate of Rs. 167.4125 per US Dollar ($). Inversely, 1 Ceylon rupee was equal to US $ 0.30 in 1948. This means that US cents 30 could buy one Ceylon rupee at independence. Today, a meagre US cents 0.0059 is sufficient to buy one Sri Lankan Rupee.”

Ref: September 2018-http://bizenglish.adaderana.lk/sri-lanka-rupee-fell-by-over-2201-against-us-dollar-in-a-41-year-history-from-1977-2018/

So far Sri Lanka has gone to the IMF 16 times. During the recent past SL has replaced the governor of the Central Bank and printed over a Rs 1 trillion worth of currency. The move that created great expectations was the appointment of Basil Rajapaksa as the Minister of Finance. None of these have made any impact on the dollar crisis. The only visible sign is the exit of two political stalwarts from the Cabinet. Now we have a 15% official devaluation and a flexibility of a further upward float.

From Rs. 3.32 per US Dollar at the time of Independence we have reached over Rs 280 per US dollar today. Throughout this period the only solution we have had to this depreciation of the rupee was further devaluation. The government of the Father of the Nation preferred colonization to industrialization on the apprehension that industrialization would lead to organized labor which would support the left movement. In 1944, the State Council resolved to launch a State Project of Industrialization in Ceylon. In the same year there was the – Industrial Corporation Bill, and J.R. Jayawardhane moved a motion in the State Council for the preparation of a complete plan for industrialization”. There was a firm bipartisan consensus on industrialization with a different emphasis on ownership. D.S. Senanayake (DS) was a prime mover of the ‘plan for industrialization.’ The decision makers did not recognize the plain fact of the need to increase exports and reduce the trade deficit to stop the depreciation of the rupee. Industrialization would have been the way out. At the same time Colonization did not achieve food self-sufficiency either. After the introduction of the PL 480 flour a substantial percentage of food sufficiency has been met with imported flour.

Value of exports even today is around US$ 20 billion whereas the GDP is US$ 80 billion, four times the value of exports. Therefore, rupee depreciation will benefit a small section of the country and will not be the best option for a majority of the people and will leave consumers worse off.

The present devaluation of 15% or Rs 130 to a dollar which could end up at Rs 280 to a dollar has sent shock waves throughout the economy. The devaluation which has been aggravated by unprecedented rise in energy prices has hit every economic pursuit from industry, fisheries to agriculture and services. Lives of the population which were just coming out of the despair of the corvid pandemic have been made utterly miserable. The government and traders will make a quick buck with the devaluation. Government will benefit by higher customs collections and the traders will gain by applying the new prices to stocks in hand. For example the pharmaceutical industry is reported to have 4 months stock in hand. They will apply the approved 29 percent increase from day one. All products transported or otherwise will increase their products on the excuse of additional fuel cost.

Political parties are blaming each other for the present debacle. But none of them have identified the real issues and worked diligently towards a solution. During the latter part of the Sirimavo regime of 1970, fresh thinking was afloat on institutional mechanisms to promote exports and investments. These incipient concepts were concretized by the 1977 government in the institutions of the GCEC and the Export Development Board. The GCEC lost it dynamism after the early demise of the entrepreneurial Director Upali Wijewardhana. GCEC was more concerned with filling the land with apparel quota chasing industries rather than encouraging high tech industries. The Export Development Board did well under the professional management of the former Director of the ITC(UNCTAD/WTO) and the stewardship of the intrepid Minister Athlathmudali. But even during that time EDB was deprived of its legal dues from the Cess collection. The robbery still continues. After that the EDB became a victim of timid ministers and Chairmen who were devoid of a development” vision. The institutional mechanisms of both these bodies are intact but their vision is obscured.

Our policy makers, and economists who were trained in the West believed in non intervention in the economy. They were led by their noses by the policies of the IMF and the World Bank. Our politicians did not believe in long term development but depended on empty promises to win votes. This is well described in the Sri Lanka Guardian of December 14, 2009: At the heat of the 1970 election just a year after the moon landing, Sirima Bandaranaike promised to bring rice from the moon and some gullible voters believed it. After coming to power people starved without rice. In 1977 JR Jayawardena promised to give 8 grains including popular dhal (lentils) but people got parippu” (a slang word meaning humiliation). In 1988 R Premadasa promised 2,500 a month but people lost their food stamps and instead some received 1,250 a month. Chandrika famously promised cheap bread at 3.50 rupees in 1994 and we saw the biggest price hike of bread from 3.50 to 20 rupees during her time; a staggering five times increase. Then in 1999 Ranil Wickramasinghe promised gold chains for youth but he didn’t make it so nothing happened. When Ranil promised a youth dole of 2,000 rupees in 2001 he won but the dole was never given. If it was given, who would pay for it? The poor people. Their income tax payment would skyrocket and VAT on every milk powder packet, cake of soap, etc. would go up to collect the billions of rupees needed to give all these election sweeteners.”

The 1977 open market policies which were meant to promote exports opened the flood gates for imports. When the Banks which were reluctant to finance exports competed with each other to finance imports which were short term and risk free. The interest rates for export activities were as high as 25%. We were blind to the successful policies adopted by the East Asian Nations.

‘’In short, amid the rich diversity of experiments of industrialization in the post-war era, the East Asian Tigers stand out as lessons of exceptional success. The success of these economies was brought about with the enormous intervention of the state—a state that was not only developmental, but also enjoyed the support of business groups.”

https://hir.harvard.edu/the-east-asian-miracle-where-did-adam-smith-go-wrong/

The most successful Asian Tiger South Korea did not depend on FDI for infusion of technology. They bought the best technology. When both the IMF and World Bank were against it they invested in heavy industries. Our policy makers are advised to read the success story of Korean steel POSCO and the lessons for developing countries.                              https://www.posri.re.kr/files/file_pdf/59/338/6867/59_338_6867_file_pdf_1514351242.pdf

The two-fold objective of a devaluation is to stimulate exports and reduce imports. What have we done to stimulate exports? Have we diversified our supply base? Have we introduced new technology? Have we made full use of our human resources and physical resources in minerals, marine products and horticulture or in the scope for adding value to existing products? What incentives are there for innovations and their commercialization?

Some economists try to compare the recent rapid development of Bangladesh despite the pandemic to claim that corvid is not the cause of our present economic crisis. One reason for the continuous success of Bangladesh and India is the very high percentage of their savings. Both these countries have a much broader and expanding supply base. The domestic savings as a percentage of the GDP in India in 2020 was 28.9 and Bangladesh was 23.8 whereas in Sri Lanka it was only 18.9. Despite all the subsidies enjoyed by Sri Lankans we live beyond our means. When politicians offer gold chains to youth the message is extravagance. It is profligacy on borrowed wealth. We need to give up this peacock mentality and adopt alpeccha” style of living.

Immediately we need to have a safety net for the poor people and launch a holistic short-term program for production of food. Meanwhile opposition political parties and trade unions must hold their horses until the economy gets a breather. Just now they are in a fox hunt. We have to go back to the battle cry we had in the early 80s of ‘export or perish”. We did not care about that exhortation in later years, and we have perished. What can be done will be dealt in future notes.