AN EXCLUSIVE INTERVIEW WITH THE GOVERNOR OF THE CENTRAL BANK OF SRI LANKA, EMERITUS PROFESSOR W.D. LAKSHMAN

In the fifth episode of the SLEN Podcast, Eng. (Ms) Jasmine Nanayakkara speaks with the Governor of the Central Bank of Sri Lanka, Emeritus Professor W.D. Lakshman about the Economy of the country during the COVID 19 period and the way forward. An edited version of their conversation follows".

Eng. Jasmine Nanayakkara :

After being appointed as the Governor of the Central bank in the latter part of 2019 you are passing an era packed with unprecedented challenges in terms of the country’s economy due to the Covid-19 pandemic. Can you explain about the ‘Covid-19 economy’ of Sri Lanka?

Professor W.D. Lakshman :

Covid-19 Pandemic hit us in two different stages, as you know. The first stage started in the early part of March 2020 and the second phase starting in October.

In the first stage perhaps, we did not have the required skill. The health authorities wanted the country to lock down. And when that kind of an approach is taken to contain the pandemic, the government had to provide facilities particularly to poor segments who lost their jobs, to provide them with some income sources to survive and also small produces who wanted to continue with some of their activates like in agriculture they had to be provided with working capital funds. so in the 2 to 3 months from early March 2020, the economic activities dropped in the country.

Later when statistics were available, we realized that in the first quarter of 2020 there was a marginal decline in the GDP. But in the second quarter, the decline in the GDP was sharp. 16% to 17% drop in the income. There was a significant contraction in the second quarter.

However, with the containment of the 1st phase of the outbreak economic activity rapidly recovered in the 3rd quarter. This could be seen starting from the end of May, June July were fairly good months, and we were also very hopeful, that the economy would revive. At that time, we are hopeful that the growth process would be ‘V shaped’. Going down and sharply increase. Not even ‘U shaped’ but ‘V shaped’. Anyway, this period showed the resilience of our economy. Virtually few months of lockdown drop of economic activity to a significant extent and then sharply coming up. Sri Lanka became indeed one of the few countries which recorded fast recoveries in the 3rd quarter.

With the second wave coming in October we had greater knowledge, greater experience, both Health Authorities and Economic Management Authorities to guide the global experiences were there to reassure, the methods of safeguarding the community. No countrywide lockdowns. They have to live in a kind of a new normal situation. These economic activities also continued to operate without coming to complete closures. So our outlook for this particular period is relatively positive, We think that the 4th quarter of 2020 would have some positive growth, if it is negative, it would be very little. Overall, because of the importance of the second-quarter decline, overall, 2020 would be a negative growth estimated to be somewhere around 3.5%.

In 2021 however, we expect the economy to rebound much more strongly than a couple of quarters in 2020 which growth revivals started after the pandemic. We the Central Bank together with other parts of the government particularly the Presidential Secretariat and the Ministry of Finance take pleasure in being able to reach a relatively small (internationally speaking) number of casualties.

Eng. Jasmine :

We know that the Central bank has adopted a series of Covid-19 relief measures and policy measures in order to maintain the balance in the economy and to relieve the burden of the affected citizens. Could you please briefly tell us about those measures taken by the Central Bank?

Prof. Lakshman :

As I told you in the 1st phase of the Covid-19 spread, there was a number of occasions and the country was completely locked down. Underprivileged weak segments of the population had to provide with some income to maintain their lives. As a result, the government has decided to provide assistance on two occasions. As the growth was small at that time providing Rs. 5000/= at a time on two occasions.

At that stage going beyond our traditional way of doing things, the Central Bank, like in the other Central Banks in the world, have provided the government's funds and loans against government Treasury Bills and quite a large amount of funds has been provided by the government in order to implement some of its decisions to provide support to poor people. There was another productive segment of the economy. MSMI (Micro, Small Medium Industries) industry category particularly the Micro categories had difficulties. They required working capital and other various assistance. Particularly delaying of the repayments of their loans, what we call the moratorium is provided by the Central Bank.

In Central Bank there is a loan scheme called ‘Saubagya’, we have used this ‘Saubagya’ scheme to provide funds to MSMI sector institutions. We provided the funds to the banks and the banks have given loans to Small and Medium Industries And over a couple of months, Central Bank probably spends from its ‘Saubagya’ scheme about Rs.180 billion worth of loans.

Another aspect of the Central Bank intervention in this Covid-19 period is in terms of the traditional monitory policy initiatives. We have maintained the monitory policy what we call an accommodative stance, mainly making things easy for people to get loans and get into productive activities. These accommodative monitory policy stances had been maintained for this while. This included mainly the reduction of policy restrains.

In 2019, one year before this government came, there were only 100 bps (100 Basis Points) in a reduction in policy ratio. But during the last year, that is 2020 alone, we have reduced policy rates 5 times in the year by a total of 250 basis points. The Statutory Reservation, another Central Bank instrument, to control money supply was also reduced by 300 basis points on 2 occasions. The bank rate was also reduced by 360 basis points.

Basically, on one hand, reduction of interest rates in the market, on the other hand, making liquidity available to the banks and to other institutions in the market so that they could use that excess liquid to move towards productive sectors. All these measures have been targeted at making liquidity available to households and business across the country. Noting that some key commercial interest rates such as those on Credit Cards and Housing Loans were remaining sticky. The Central Bank initiated targeted measures to reduce these rates in addition to the general reduction of interest rates.

We are also currently working on the priority sector lending targets particularly aiming at MSMEs. MSMEs and we select the more promising subject areas (economic areas) and help the MSMEs in those areas. On top of all these ‘Saubagya’ Covid-19 schemes is also in place to meet those working capital requirements.

Eng. Jasmine :

Apart from the effects of Covid-19, we are not in a pleasing state of the economy. Though we experienced a notable recovery after the 1st wave of Covid-19 in mid-2020, it was not so then after. Some major credit rating agencies like S&P, Fitch and Moody have downgraded their ratings during the 4th quarter of 2020. The experts who advocate mainstream economics are critical on our strategies of handling the economy. What do you think about that?

Prof. Lakshman :

Although the economy was impacted in the 4th quarter of the year, many sectors continued to perform as they were more prepared than during the 1st quarter. Also, there were no island-wide lockdowns. Therefore, we are of the view that the impact of the 2nd wave on the overall economic activity was relatively minimum. In the back of the contraction in 2020 in the previous quarter, there was a large decline. After the large decline, it is easy for the economy to gain a higher positive growth. So that’s why I am saying that on the back of that contraction we expect the economy to record a respectable high growth in 2021. It’s also being supported by the physical and monetary policy regulations in place. Some important elements of the new way of doing things can be mentioned here.

Firstly, this is an economic policy focusing more on the domestic production of the economy. Moving out of the extreme foreign trade-dependent system of the past.

Secondly, we are trying to avoid making large debts to carry out development projects. So, investments not creating debts. Non-debt creating invests! That is what we are aiming at. And also, through this mechanism, we are trying to reduce the foreign debt to total debt ratio or foreign debt to domestic debt ratio. We are going with that intention in mind to bring down this ratio something like 40 to 60 (foreign 40) to bring it down 30 to 70.

Thirdly, the reduction or elimination of unnecessary imports, but without causing problems for domestic industries depending on imported raw materials.

Fourthly, we are very strongly pushing exports growth. And we are carefully monitoring and taking follow-up actions to achieve adequate progress in export growth. Particularly, in selected export sectors. We have set up a series of sub-committees. Each one dealing with major economic sectors like textiles and garment, tea, rubber, coconut, tourism, remittances. We have given targets to different sectors and following up on whether those targets are achieved.

Fifthly, the achievements of import restriction and export targets monitored to achieve a reduction in trade and also current account deposits. Our best hope this year that we will achieve a positive balance in the current account.

We have been able to have a positive current account balance over the entire post-independent era it may be 4 or 5 years. 1950/1951, 1954/1955 and 1977. In 1977 also not because of so-called liberalization, but because of the policies adopted pre-1977.

If we can achieve our targeted positive growth by this year that would be a great achievement. In the process, Central Bank works with commercial banks and trying gradually to build up our reserves. For that purpose, we have made it compulsory for commercial banks to contribute a part of the foreign exchange inflows they are collecting to sell to the Central Bank so that the Central Bank can add them to our reserves. For proportions, we are getting around 10% of the remittances and about 12.5% of the exports. In the past, whether exports were brought to Sri Lanka or not has been. There was a rule to impose that condition, but it was not followed up. So, this time all the banks are following our regulations and every week it is linked to our reserves of about 10 to 15 million US dollars. And over a one-year period, if this process to be continued, we should be having more than a billion dollars in reserves.

Work performance of the macroeconomy, especially the external economy so far as to be satisfactory. These are methods that traditional economists do not accept. They wanted the government to, as they did in the past, take more loans and pay up the old loans and let the economy continue to depend on imports. We want to change that. That is the only way we can achieve a debt-free economy at this time.

Widely reported rating downgrades, have not at all taken into account the impacts of the new policy innovations. That’s unfounded and unfair. What they have done is this. You take the existing amounts on the debt payment volumes. That’s a formidable amount. For this year, for example, we have to repay about 4 billion dollars. If the economy is allowed to go like this in the past, if anything and everything is allowed to be imported, if exporters are allowed to export and then keep their money, foreign exchange anywhere in the world as they want, this will really unsustainable. That is what they are saying. If the economy moves in the same way, it was used to move over the last 5-6 years then the debt situation is unsustainable. But with this policy, it is slow but will be definitely leading to a debt-free society and the prevailing debt will become sustainable. On top of those policy initiatives and financial measure, in addition to the real sector development which are we talking about, there are some financing issues. The most important recent event was the approval given by the Chinese government to provide us with a swap facility amounting to 1.5 billion dollars. There is also the talk of Indians also providing us with a swap facility. We had a swap facility for 400 million from India. We have paid it up. After that, we will be able to request India another 400 million. And in addition to that, there are various international/ multinational agencies; World Bank, Asian Development Bank and also sometimes IFC providing funds for projects which are also coming into our reserves.

In spite of the doomsday predictions of the opposition and also certain economists, we are confident that the situation is well under control.

Eng. Jasmine :

We know that you are an intellectual who believes in an economy based on industrial capita dominance rather than merchandising capital dominance. In order to go for that, we may need a good balance between imports and exports, a balance between debt and growth, a balance between investment and revenue. As the Governor of the Central Bank, how do you strategize these aspects to reach your objectives?

Prof. Lakshman :

The development and growth experience of several counties that we marvel about now, like Japan, South Korea, became manufacturing sector centred economies. They are again focusing on industrial exports. They are now reaping the benefits of the focused and steadfast commitment to the development of the industrial sector. From the 1970s or 1960s, and in Japan from 1945 onwards, the strong manufacturing base coupled with their gradual transition into the services sector more recently has helped them to effectively position themselves in the higher end of the value chain and to not only to create a high growth trajectory but also to sustain it to a larger extent despite external shocks. I strongly believe that Sri Lanka can greatly benefit from such a strategy.

Many of the variables that you are specifically questioning are often two sides of the same coin and required the policymakers to strike the right balance. I do not have the time or the inclination to go into balancing act you are referring to. Decisions have to be taken at the time when problems come out. It is no doubt difficult, but I think attainable. I can only ask you to wait and see what happen in practice.

All these macro-economic variables are being monitored and guided through fiscal monitory variables. They are being monitored and guided through coordination between the Central Bank and the government of Sri Lanka. We are also doing something unconventional to Central Bank. This is to work with relevant government agencies and sometimes also associations of private enterprises to monitor and follow-up process in even micro-level and frequently selected industry level activities. We are working in tandem to ensure the robustness of the macroeconomic fundamentals of the economy. So that we can achieve our goals of economic, price stability and financial system stability so that these could really underpin sustainable development and growth. And to ensure that the two sets of policies do not become mutually contradictory and conflicting.

Eng. Jasmine :

The policy outline highlighted in the 2020 budget statement promotes domestic production targeting both export and domestic markets. What are the economic tools that Central Bank intended to utilize to achieve this?

Prof. Lakshman :

Though out the last years, the Central Bank has been working behind the scene on several aspects of the economy to facilitate domestic production stability. It includes many of the measures that I had described previously, and of course the priority lending to Micro and Small/ Medium Enterprises. In fact, in some of the countries which I have mentioned from the East Asian region, there is something called picking the winners, identify the successful enterprises. We do not probably go into that level but at least we will be focusing on broad sectors.

In addition, the Central Bank of Sri Lanka has begun a new initiative wherein the bank and several of its senior staff of the bank are working together with the private and public stakeholders, several key export sectors of the economy to iron out the long-standing and certain contemporary issues that are hindering the progress of the sector and their ability to effectively contribute to the economy. This is relatively a new initiative. In the past Central Bank only deals entirely with money supply, rates of interest things like that entirely on the financial sector related matters like monitory stability or exchange rate stability.

Looking into what is happening in the real economy, Central Bank in the past did not touch but we are doing that now. And when we are getting involved in these activities, we have seen that the private sector institutions do seems to like it. We expect greater confidence in that kind of activity that kind of monitoring activity rather than monitoring activity is entirely done by the department. These are relatively new initiatives.

Within a span of a month, I am happy to say we have seen progress in, resolving certain stumbling blocks. We expect that this would soon reflect in our export numbers. Task forces are set up to cover around 8 major export sectors. Tea, rubber, coconut, fisheries, spices, mining, gem and jewellery, garment & textile, IT sector and other several foreign exchanges earning sectors. These task forces are operating with the Central Bank officers. They are meeting regularly to discuss upcoming problems and to resolve these problems to enable a trouble-free move towards achieving monthly quarterly and yearly targets.

Eng. Jasmine :

Well, on behalf of the Institution of Engineers Sri Lanka, I am forwarding this question to you sir. What level of assessment you have on the involvement of the engineering community in this country’s economy? Do you think that that the level of contribution of Sri Lankan engineers to the economy is sufficient?

Prof. Lakshman :

Over several decades of experience, as an academic and has worked in several policy circles, I know that engineers have always been an agile resource in the country. Engineers have stepped out of their academic training and have adopted themselves the needs of the economy which was enabled by the rigorous academic training they undergo.

While acknowledging the engineers’ contribution to the economy, I must also ask that they should continue to think ‘out of the box and look beyond their academic range to use their acquired skills in the cross sectoral initiative in a pragmatic way. Not only engineers, but all professional alike must also be ready to look at the big picture, their role in the bigger picture of their profession, their institutions and the economy.

Eng. Jasmine:

Thank you very much Prof. W.D. Lakshman, the Governor of the Central Bank for spending your valuable time to share timely insights on the country’s economy with the engineering community of Sri Lanka. We wish you all the success in your noble endeavour in bringing a revival of the Sri Lankan economy. This is engineer Jasmine Nanayakkara from SLEN podcast. Have a great day.