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ECONOMYNEXT – Sri Lanka’s central bank is making profits from printing money and the balance goes to the consolidated fund according to its own law, Harsha de Silva, chairman of the parliament’s Committee on Public Finance said.

The comments came amid an intensifying debate about control of public finances and independence given to central bankers to spend money without parliamentary approval.

Sri Lanka’s parliament is in a battle with the macro-economists who run the country’s central bank after staff gave themselves steep salary hikes to offset monetary instability the agency itself created by printing money to target potential output.

Legislators insisted that the central bank came under the parliament’s control of public finance.

As a state agency, the Central Bank should not hike salaries so steeply, especially after Treasury circulars were issued to cut spending, legislators said.

The salary of an office assistant was now 183,000 rupees after the latest hike, Prime Minister Dinesh Gunawardene told parliament.

The modern state-run central bank is an unusual state enterprise which is given a monopoly to produce money, but has no regulator.

But they have also acquired powers to punish victims and take away the economic freedoms of the general public including through exchange and import and price controls governments are inveigled to impose when forex shortages and inflation emerge when rates are cut enforced with printed money.

Printing Profits

“The central bank can make profits by printing money, we call it seiniorage,” de Silva explained to parliament.

“Nobody else can do it. When it prints money and makes profits and use it for their own consumption there is a big problem.”

Sri Lanka’s central bank law itself says salaries cannot be determined by whether or not the agency makes a profit, de Silva said.

The also provides under section 93 that any residual profits after meeting its expenses and provisions be used to settle any obligations to the government or transferred to the consolidated fund after consulting with the minister.

“The constitution talks about money, the money that comes to the consolidated fund,” de Silva said.

“Therefore, the parliament has the power. There is some power to the parliament but not the full power on how to spend the profits of the central bank.”

President Ranil Wickremesinghe said the central bank officials had met the COPA and asked de De Silva whether a report can be provided, to which he agreed.

“If you are satisfied with the activities of the committee, you can take action after the report is filed,” President Wickremesinghe told legislators during a heated debate.

Losses and Recapitalization

Meanwhile the IMF has said the central bank may need recapitalization, raising serious questions about its ‘independence’ and parliamentary control of public finances.

Whatever is claimed, the public and parliament is responsible for underwriting the ultimate consequences of central bank macro-economic policy (rate cuts to boost growth) or the use of forex swaps, analysts say.

Sri Lanka-style central banks, including in Ghana and the Philippines have already been recapitalized by the taxpayer after cutting rates, or dollar liabilities taken over by the government when foreign reserves were made negative to enforce low rates after central bank swaps were invented.

Published data show that Sri Lanka’s central bank has escaped negative net assets by the skin of its teeth in 2023.

There are questions whether or not the central bank made profits in 2023, according to what accounting conventions are used, following a well-intentioned debt restructuring effort to meet International Monetary Fund statistics without damaging the domestic securities market, analysts say.

Unlike parliaments before the ‘age of inflation’ (roughly 1920s), most modern legislatures have failed to control central banks which create high levels of inflation and currency depreciation by engaging in activities other than providing monetary stability (usually macro-economic policy), history shows.

The US Fed which was given ‘independence’ through a Fed Treasury Accord in 1951, shortly after the Sri Lanka central bank was set up by a Fed official.

The independence accord came after the Fed was forced to buy Liberty Bonds from deficits decades ago in a outright operation to push down long term government yields (similar to bond purchases from previous deficits that Sri Lanka central bank has done even after the new law), triggering 21 percent inflation, which was resisted by Fed Governor Marinner Eccles who  was not a macro-economist but a banker.

Related Sri Lanka, world’s poor suffers from Fed’s accidental discovery: Bellwether

However the Fed started printing money for growth under its ‘lean against the wind policy’ in the 1960s eventually destroying both the Bretton Woods and the gold standard in 1971.

When the Fed macro-economists busted the Bretton woods, Sri Lanka responded by closing the entire economy, after enacting the Import and Export Control Law in 1969, running parallel exchange rates, and imposing increasingly draconian exchange controls.

The Fed and other ‘independent’ central banks then created the Great Inflation of the 1970s with un-anchored policy, raising questions about the validity of giving ‘independence’ to economic bureaucrats who believe in inflationism or that they can create easy growth with rate cuts.

Political Accountability

Some countries with greater monetary stability than Sri Lanka, like Singapore, have the Finance Minister as the Chairman of its monetary authority, with the political leadership, who are accountable to the public, keeping inflationist macro-economics under control.

“…[W]e wanted to indicate to academics, both local and foreign; that what is fashionable in the West is not necessarily good for Singapore,” one time Singapore Finance Minister and MAS Chairman Goh Keng Swee, a classical economist, explained.

“A perceptive mind is needed to distinguish the peripheral from the fundamental, transient fads from permanent values.

“It is also not surprising that when the Monetary Authority of Singapore (MAS) was set up, the Chairman was by law the Finance Minister.

“They do not need an independent Central Bank Governor to persuade them not to run budget deficits.”

The current Chairman of the Singapore Monetary Authority is Deputy Prime Minister and Finance Minister Lawrence Wong.

Singapore has one of the tightest monetary laws in the world, keeping with the classical idea that a monetary law has to restrain the agency (a constitution), rather than giving it discretion, according to analysts.

The MAS does not have a policy rate which can be mis-used by macro-economists, nor can it transfer central bank profits to the consolidated fund in local currency to inflate reserve money.

Before the age of inflation, parliaments imposed strict laws or constitutional restraint not only on central bank goals (through a convertibility undertaking) but sometimes also their operations.

In the UK, the Bank of England was restrained by the Bank Charter Act which isolated its issue department (now called domestic operations) and imposed severe controls on it, after it was given a money monopoly, unlike the ‘instrument independence’ now given to macro-economists running ‘age of inflation’ central banks.

Recent inflation not seen since the early 1980s in Western nations was also triggered by ‘independent’ central banks. The final consequences of their inflationist actions are still not clear. Many countries are in recession and US credit has been downgraded.

The ‘independent’ Fed in 2008 also created the Housing Bubble and a global crisis, unceremoniously ending the Great Moderation of the 1980s and 1990s, by trying to reverse what was believed to be ‘deflation’.

The Fed in the 1920s had also triggered the Great Depression through a similar period after open market operations were formalized in April 1923 giving itself powers to print money by mis-targeting rates without a war or any Treasury/political pressure (fiscal dominance).

Sri Lanka’s central bank, arguably the worst in South Asia, has busted the rupee from 4.70 to the US dollar to 310, compared to Maldives’ 15.40 to the US dollar from the same level and also Dubai which is only 3.67 from the same level.

Like parliaments of the past, rulers of countries with monetary stability including the UAE also have tight control over money. The Chairman of the UAE Central Bank, Mansour Bin Zayed Al Nahyan is the Vice President of the Emirate, son-in-law of the Dubai ruler and brother of the Abu Dhabi ruler.

While its monetary law has holes in it, the operational framework, derived from its true currency board days (the Dubai Qatar Currency Board) without an arbitrary policy rate has kept the country safe from macro-economic policy and the rulers enjoyed the advantage of not being deposed, analysts say.

The Dubai currency board was created in a crisis triggered by Indian macro-economists who misled then Prime Minister Nehru into printing money for five year plans. (Colombo/Mar07/2024 – Update V)

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