Sri Lanka central bank to move to a floating rate, end foreign reserve collection: report

ECONOMYNEXT – Sri Lanka intends to move towards a fully floating exchange rate and the central bank will no longer have to collect foreign reserves, Central Bank Governor Nandalal Weerasinghe was quoted as saying in a report.

Sri Lanka would like to see reserves around three months of imports, but not large volumes as recommended by the International Monetary Fund, Governor Weerasinghe was quoted as saying by Bloomberg Newswires in an interview.

Clean floating countries like Canada, Australia or New Zealand no longer collects reserves as they do not intervene in forex markers, allowing inflows of foreign exchange to match outflows at all times.

Sri Lanka intends to move towards a fully floating exchange rate, Governor Weerasighe was quoted as saying in the report.

A fully floating exchange rate would allow the central bank to operate a true inflation targeting regime without creating currency crises.

Central banks with fully floating exchange rates do not provide reserves for private sector imports and therefore do not have to sterilize (or neutralize) foreign reserve sales with new injections of bank reserves making it impossible to either lose reserves or run balance of payments deficits.

Hard pegs operate on the same principle where interventions are unsterilized, also conserving foreign reserves by not injecting domestic currency reserves which would allow banks to give credit without deposits.

Both are stable single anchor regimes where exchange and money policies do not conflict to create external instability.

However floating exchange rates have tended to create banking crises, due to a positive inflation target, and the ready availability of standing facilities, according to some classical economists.

Sri Lanka now has a ‘flexible exchange rate’ which critics say is the most dangerous ad hoc monetary regime cooked up by Western inflationists and peddled to countries with unstable central banks since the IMF’s ‘Second Amendment’ left countries without a credible monetary anchor.

Ad hoc inflationist regimes since 1978 which have failed in the past included targeting money supply while intervening in forex markets, steadily depreciating according to an econometric real effective exchange rate basket (basket band crawl policy).

To collect excessive foreign reserves, domestic investment has to be curtailed to capture inflows from the current or financial account, through a higher interest rate than required to run a clean float or a hard peg.

Collecting reserves is the same as repaying debt. Collecting large volumes of reserve will negate any ‘relief’ Sri Lanka is supposed to get by debt restructuring.

Sri Lanka’s central bank also has to collect reserves to end a negative net foreign assets position.

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Sri Lanka to lend US$2.5bn to US and top-rated borrowers in 2023 under IMF deal: analysis

Western central banks started to have BOP troubles in peacetime after open market operations using government securities, were formalized by the Federal Reserve on April 13, 1923 giving birth to a bureaucratic policy rate.

The bureaucratic policy rate then triggered the roaring 20s bubble and the Great Depression and currency crises during peacetime, and the eventual collapse of the gold standard and the Bretton Woods system, analysts have said.

The Great Depression triggered Keynesianism and the belief especially in the US and printing money contributes to growth, resulting in an employment mandate and potential output targeting.

The idea first brought by Scottish Mercantilists John Law was defeated at the time leading to a long period of and monetary stability of around a century until the start of World War I and the setting up of the Fed. (Colombo/Nov20/2023)

ECONOMYNEXT – Sri Lanka intends to move towards a fully floating exchange rate and the central bank will no longer have to collect foreign reserves,…

ECONOMYNEXT – Sri Lanka intends to move towards a fully floating exchange rate and the central bank will no longer have to collect foreign reserves,…