European Union overreacting to Sri Lanka import controls: CB Governor

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– The European Union, which protested Sri Lanka’s import controls, is over reacting, the island’s Central Bank Governor W D Lakshman said while officials said the data showed affected imports are minimal.

“The statement that was published here from the EU is probably an overreaction presented too early,” Governor Lakshman told reporters.

“We are at a time we are trying to resolve our balance of payments problems. Even under WTO rules, I think a country is allowed to do certain things which are needed to meet the balance of payments problems.”

Analysts have blamed the phenomenon on a strong prevalence of Mercantilism and lack of knowledge of classical economic theory.

Classical economists have blamed the ideology on Keynes naming his book a ‘general’ theory though it could only be practised without the balance of payments troubles when credit was weak or negative (Why Singapore chose a currency board over a central bank) and the teachings of arch-Keynesians like Alvin Hansen (IS-LM) which also has to assume no external trade (Mundell–Fleming model).

In 1971 the US also imposed trade controls called a ‘Nixon-shock’ as the dollar peg with gold collapsed from printing money to target an output gap. Sri Lanka then closed the entire economy.

Trade or current account deficits are driven by foreign-financed savings-investment gaps, while currency falls are triggered by central bank liquidity driven credit, classical economists say. Commodity prices are also expected to spike amid US dollar weakening as demand recovers.

In 2018, Sri Lanka injected liquidity to control rates first by terminating term repo deals, a so-called ‘buffer strategy’ and then through Treasury bill acquisitions in April, critics have said.

The ‘buffer strategy’ refusing to roll over maturing bonds as paper (which happens without an impact on reserve money or the exchange rate) and repaying them with a bank overdraft which was re-finance with window money. As the rupee fell gold imports which were being re-exported through a grey market.

Shortly after gold imports were banned in 2018, the rupee collapsed as more money was injected including through dollar-rupee swap of the types used by foreign speculators to bring down East Asian pegs.

In September more import controls were slammed, making nonsense of the free trade agenda of the then administration and making them a laughing stock.

Governor Lakshman said the emerging problem with the EU could be resolved with discussions.

“I think our external relations authorities are taking up this matter for discussion between Sri Lanka authorities and relevant EU authorities,” he said.

“I think discussions can solve this problem, which I am sure is a short term problem as far as we are concerned until we get out o the present difficulties.”

Officials said the impact on Europe, which had a large trade deficit with Sri Lanka and was a key destination of exports, was minimal.

“We studied the impact of import restrictions on imports from those countries it seems that the impact is quite minimal,” Director of Economic Research Chandranath Amarasekera said.

“As you know the most of the import restrictions are on non-essential imports and agricultural goods that are coming from because the government wants to promote domestic production of agricultural goods.”

“All of us need to understand why the import restrictions have been put in place,” Amarasekera said.

“It is primarily because of the difficult situation that we are in. We have saved about 3 billion dollars because of the reduction of import this year in the first 10 months.”

Analysts, however, have warned that with excess liquidity injected by domestic asset acquisitions, that imports can pick up (or domestic prices to rise) as credit is fungible.

Assistant Governor N Nanayakkara said some of the restrictions have been relaxed; imports for re-exports have also been relaxed. He said the government has said that items such as cars will be kept for a year.