Autonomous new central bank to continue money printing as fiscal agent!

 

I was surprised to see that the new central bank (NCB) today (20 September 2023) announced the results of the weekly auction of Treasury bills as usual (as below), instead of my expectation to stop the activity immediately after the certification of the Central Bank of Sri Lanka Act, No 16. of 2023 (CBSLA) on 14 September 2023 which repealed the Monetary Law Act (MLA) that governed the Central Bank of Sri Lanka since its inception in 1950.

My expectation was extremely high because of the massive fuss that the present central bank management carried over the involvement of the central bank in the fiscal front consequent to the provisions of the MLA. Accordingly, a public notion was created that the economic crisis coupled with hyper-inflation was a result of the excessive money printing to finance the government. 

The public debt management, issuance of government securities on behalf of the government, purchase of government securities (Treasury bills) from such issuances (primary market) by the central bank to provide funds to the government at lower interest rates, grant of provisional advances to the government (up to 10% of the budgeted revenue of the year) and Secretary to the Treasury as the official member of the Monetary Board intervening in the central bank to support the government were at the top of the list that was alleged to have prevented the autonomy of the central bank in the conduct of the monetary policy and printing of money appropriately to control inflation at targets.

Therefore, a new bill was presented in order for the NCB to stop all these mischiefs and to have the full autonomy for securing the objects of domestic price stability and financial system stability of the country as the management of the NCB deems fit.

At the bill stage, I saw harsh legal provisions like the case filed by the central bank for the divorce from the government. However, except the words of administrative and financial autonomy and sacking the Secretary, Ministry of Finance, from the Boards, the NCB seems to continue all other mischiefs of the old central bank.

Therefore, this short article is to shed some light on relevant provisions of the CBSLA relating to continued funding of the government by the NCB almost as before through the continued fiscal agency for management of the public debt, issuance of government securities and grant of credit to the government as shown below.

Grant of provisional advances to the government - Section 127

Five key provisions are as follows

• 1. Making new direct provisional advances within the first month of the financial year,

• 2. Every such new advance to be repaid within six months,

• 3. Total amount of such advances outstanding not to exceed 10% of the government revenue during first four months of the preceding financial year,

• 4. Such new advances to bear interest at prevailing market-related rates determined by the NCB

• 5. Such news advances not to be made to refinance outstanding credit of the central bank to the government on the appointed date.

My comments

• The key difference between the MLA and CBSLA is that MLA provided for such advances on annual basis subject to same conditions in 2 and 3 above. However, condition 3 above under the MLA was relating to total provisional advances outstanding at any time not to exceed 10% of the budgeted revenue of the current year.

• Even under the MLA, the government borrowed the maximum up to 10% during the first month itself and the central bank never complied with 6 months recovery rule. If that position is to continue, the law literally appears to provide for new direct advances during the first month of each financial year with those limits but without any limit on total new advances outstanding at any time as the section 127 is about the grant of new direct provisional advances within the first month of each financial year and 10% limit is on such advances.

• Condition 5 above is meaningless as it will not arise.

• The section 127(4) provides for effects of provisions of 127 until such time provisions are made by law for the government to finance its immediate fiscal requirements. Nobody can expect Sri Lankan government to make laws on this subject at any time in the future and to stop such borrowing from the NCB.

Overall, I do not see any autonomy that the NCB has secured from the section 127 of the CBSLA.

Fiscal Agent: management of public debt and issuance of government securities - Section 132

The two functions that were under the MLA are to continue until the date of the new law relating to public debt management office or agency comes into operation.

My comments

• The new law cannot be expected in any time in the future as it requires a consolidated public debt law with independent debt office and a new system of government securities market separated from the NCB. The US Treasury technical assistance provided for this purpose in 2016 was discontinued by the central bank.

• The central bank under the MLA effectively used these two functions to aid the conduct of the monetary policy, primarily to control market interest rates or the yield curve. Therefore, the NCB enjoys the opportunity to continue to maintain the monetary autonomy through these two functions.

Purchase of government securities in the primary market to fund the government- Section 128

Although the section 86 of the CBSLA prohibits the NCB from purchase of government securities (prohibition of direct and indirect credit to government or any government/public entity), the section 128 provides for continuation of such purchases in the primary market subject to following conditions.

• Purchase of such securities bearing interest at market-related rates within a period of 18 months from the appointed date,

• Such securities to be matured or redeemed within one year from the appointed date,

• Total amount of such securities not to exceed one-tenth of the Treasury bill borrowing limit approved by the Parliament.

My comments

• Therefore, the NCB will continue to intervene in the government securities market through the purchase of Treasury bill for a period of nine months from the appointed date. The last purchase will be for three months Treasury bills in June 2024 unless the government extends this provision for a further period.

• This purchase of government securities has been criticized by the central bank new management and its supporting media network as the number one culprit for the crisis driven hyper-inflation and the loss of the central bank autonomy. Therefore, it is surprised why the CBSLA did not immediately suspend it.

Purchase of government securities under exceptional circumstances - Section 86(4)

This section exempts the NCB from the prohibition in section 86 and permits purchase of Treasury bills subject to following conditions.

• In the interests of public security and preservation of public order or a global health emergency that disrupts funding the government,

• Based on a recommendation by the NCB to the Minister and approval of the Parliament with the issuance of a gazette in respect of each such purchase,

• Maximum up to 5% of the Treasury bill limit approved by the Parliament,

• Maturity not exceeding six months,

• Any purchase not rolled over or renewed at the maturity.

My comments

• This is a result of the Supreme Court's determination at the bill stage consequent to FR applications that the complete prohibition of credit to the government under section 86 is a violation of the Constitution as the government is discriminated from banks and financial institutions despite the fact that the NCB is a state owned bank. It was strange that the central bank economists and lawyers could not understand this simple public error in the bill while they newly proposed lending to risky shadow banks (specialized banks, finance companies and leasing companies) in addition to licensed commercial banks without pre-prescribed limits. The prohibition of lending (direct credit and indirect credit through government securities) to the government or lending during emergency situations is a bizarre provision in the CBSLA when compared with global central banking standards that the monetary policy is primarily carried out through the trade and collateral of credit to the government while the monetary system is built upon credit to the government and general trust.

• The relaxation of credit under 86(4) is a deceptive act intended to circumvent the spirit of the Supreme Court determination because such conditional purchases of Treasury bills during emergency situations are not practical, given their bureaucratic nature. The best example is the global Corona health crisis where central banks globally lent to governments without a limit for about two years. Such money printing in the US rose by nearly 110%. Such restrictive conditions have the potential of the NCB destabilizing the governments during such emergency situations by blocking or delaying the grant of credit. Similar situations were reported in 2020 in the country. A global health crisis could hit once in a century and the NCB now preparing for it leaving out present priorities is an humorous act.

Outstanding credit to government and holding of government securities as at the appointed date to be restructured into tradeable debt instruments - Section 129

Notwithstanding section 86 prohibition, following provisions are available in the CBSLA.

• Such credit and holding may be maintained.

• Conversion of such credit and holding into negotiable instruments (tradable debt instruments) over a period of one year immediately succeeding the appointed date with a specified maturity period in consultation with the Minister,

• The NCB will sell such debt instruments as much as possible under its monetary policy.

My comments

• This conversion has been cited as a brave action proposed on domestic debt optimization proposal. In fact, such new provisions were introduced for the same purpose. 

• However, as there is no final date for the disposal of new debt instruments, this new form of credit to government (or domestic debt) will continue with maturity extensions without any term limit. Therefore, there is no ease in underlying domestic debt stock or no big deal in this instrument of the debt optimization as it is only a name change.

• The total amount of such credit is close to Rs. 3,017 bn as at the appointed date. Therefore, it is not easy to dispose it as debt instruments under the monetary policy as there will not be a material demand for these instruments, given the liquidity problems confronted by the financial system and the size of the present level of reserve money around Rs. 1,374 bn. Therefore, any forced/insider sale of such debt instruments amounting to Rs. 3,017 bn will contract the monetary and financial system unnecessarily and could trigger a banking crisis.

• The law applicable to proposed negotiable instruments is not stipulated.

Concluding Remarks

• The NCB will continue money printing operations for the government as before despite the fabricated story of the autonomy.

• The present stock of credit (provisional advances and holding of government securities) granted by the central bank to the government would continue as credit granted by the NCB. Therefore, the complaint over the money printing for government and the loss of the central bank autonomy have not been resolved by the CBSLA.

• Given the questionability of almost all provisions of the CBSLA in terms of global central banking standards/principles, the NCB will quietly continue to carryout old operations as the general public is not aware of the details and the NCB management is not capable of changing the systems in line with CBSLA.

• The underlying domestic debt optimization though the conversion of central bank credit is meaningless as there was no any debt service problems on such credit.

• The future governments will make many amendments to the CBSLA frequently to resolve key issues confronted in macroeconomic management relating to credit/monetary distribution role required from the monetary system and maintenance of related trust in the system.

• In fact, some political parties may offer even political promises to amend the CBSLA to make the new monetary system and the NCB more favourable and friendly to the public and economy, given their bureaucratic and dispersed nature.

• It is regrettable that the monetary law in the country becomes another political legislation subject to frequent amendments exposing the economy to systemic monetary risks. However, it is clear that the economy cannot be spearheaded towards a long-term recovery with development unless the CBSLA is amended in a major way to involve the NCB actively in credit distribution across the needy sectors and activities.

(This article is released in the interest of participating in the professional dialogue to find out solutions to present economic crisis confronted by the general public consequent to the global Corona pandemic, subsequent economic disruptions and shocks both local and global and policy failures.)

P Samarasiri

Former Deputy Governor, Central Bank of Sri Lanka

(Former Director of Bank Supervision, Assistant Governor, Secretary to the Monetary Board and Compliance Officer of the Central Bank, Former Chairman of the Sri Lanka Accounting and Auditing Standards Board and Credit Information Bureau, Former Chairman and Vice Chairman of the Institute of Bankers of Sri Lanka, Former Member of the Securities and Exchange Commission and Insurance Regulatory Commission and the Author of 12 Economics and Banking Books and a large number of articles published. 

The author holds BA Hons in Economics from University of Colombo, MA in Economics from University of Kansas, USA, and international training exposures in economic management and financial system regulation)