CB Policy Statement for 2024 & Beyond - A Public Deceit? Are lawmakers agreeable?

I read the CB Annual Policy Statement 2024 - Monetary and Financial Sector Policies for 2024 and Beyond dated 10 January 2024. As usual, it was presented presented by the CB Governor at an official forum plus media presence and released in the CB Website (Read CB policy Statement here).(PDF English Copy).

This short article sheds lights on meaninglessness of this policy statement and resulting public deceit committed by the CB Governor in presenting it.

Therefore, it is observed that the policy statement 2024 is another bureaucratic act of the CB management continuing on prevailing institutional files which serves no purpose to the objectives of the CB or economic welfare of the general public. Instead, it may provide the pleasure to those who boast it as a professional task performed by them.

Why central banks cannot make such long-term policy statements?

Unlike business corporates, Central Banks operate on public mandates provided under specific legislations approved by the Parliament subject to reviews by the Judiciary. 

• The common nature of the Central Bank mandates is that they are related to maintain the stability of the economy through the policy instruments permitted on the regulation of the monetary side of the economy and banks. Its foundation are the creation of the sovereign monetary unit or standard unit of account and the legal tender (i.e., currency notes and coins) and vesting the regulation of the resulting monetary system to the Central Bank to ensure the public trust in the system. As modern monetary economies operate on sovereign-based money, Central Banks have immense public powers to promote the stability of modern economies through the regulation of sovereign monetary system of the economy.

• As Central Banks cannot predict instabilities of the sovereign monetary side or the economy, they cannot make public statements of future policies. However, policies they are to implement in times of instabilities are encrypted in relevant legislations. Therefore, Central Banks only can act within the relevant legislations to resolve any instabilities that affect their objects and mandates. Therefore, they are not able to state ex-ante what policy actions they will take for maintenance of the stability of the economy as such policy actions are not proven by the God-given formulas.

• For example, the CB has had such annual policy statements from 2007 and articulated policies in nice macroeconomic terms not second to the present one. However, the economy lost its all stabilities from 2021 and only the blame game remains. Therefore, CB's all policy statements have miserably failed and the economy at presents struggles in the long-term bankruptcy, given systemic risks confronted. In fact, this bankruptcy has been caused by the CB's failure to prevent such instabilities. The CB has never assessed the performance of the last years' policy statements. Further, the new policy statement does not state specific policies that the CB would implement to recover the economy in 2024 and beyond from this bankruptcy trap with a public assurance.

Therefore, the CB's new policy statement is only another meaningless bureaucratic act continued by the CB.

Does the CB have a valid mandate for monetary and financial policies in Sri Lanka?

Policy actions authorized to Central Banks generally are to promote mobilization of productive resources, real income and employment and preservation of the value of money in a stable and sustainable manner. All policy instruments are to influence markets indirectly through the monetary side of the economy (i.e., money, credit and banking). Therefore, all Central Banks talk about monetary policies and bank regulations in the sovereign monetary system.

However, the CB after 14th September 2023 does not have a legally established sovereign monetary system aligned to the national interests of the real economy because the new Central Bank Legislation demolished the monetary system that operated under the Monetary Law Act.

As a result, the new CB has become another wholesale banker to deal with the government and banks on lending, borrowing and foreign exchange as provided for in the legislation without any direct reference to the national/real economy.

Therefore, monetary and financial policies presented in the policy statement have no legal basis due to statuary lapses that have demolished the Sri Lankan monetary system set up under the monetary Law Act without an alternative. Some of them are listed below.

• Sri Lanka does not have a sovereign monetary unit to serve as a standard unit of account. A formal monetary and financial system cannot prevail without a sovereign monetary unit. The sovereign monetary unit under the Monetary Law Act was Rs or Re divided into 100 cents whose par value (or convertibility into a reference object or asset) would be decided or not decided by the Minister of Finance. This was the sovereign money. Accordingly, all commercial contracts were required to be valued and fulfilled in the sovereign monetary unit. However, Sri Lanka now does not have a sovereign monetary unit to serve as a unit of account.

• Now, Sri Lanka has only sovereign currency notes and coins issued by the CB as the legal tender. The legal tender is only an official medium to serve the function of money as a means of payment/medium of exchange. Therefore, the public has to do all transactions in money, i.e., payments for purchases, banking and savings and investments, with the use of currency issued by the CB. Accordingly, digital transactions with or through banks and financial institutions have no legal basis as the law does not provide for a sovereign unit of account-based means of payment.

• However, the Monetary Law Act first set up the standard monetary unit, Rs, as the sovereign money and then set up the currency (notes and coins issued by the CB on behalf of the government) and demand deposits convertible into currency on demand as the official means of payment in the monetary unit. Further, the Monetary Board was empowered to define the stock of money along with currency and demand deposits and other monetary liabilities of banks and financial institutions for the purpose of the monetary policy. 

• Accordingly, the Monetary Board and the Central Bank were set up to regulate the monetary system through the monetary policy and bank supervision through the instruments authorized by the Monetary Law Act for the national objectives of the real economy. For this purpose, credit refinancing, lender of last resort/emergency credit, control of bank interest rates and credit, credit guarantees, trade of government securities in the open market, open market operations in foreign currency, reserve requirements, international reserve, determination of exchange rates and suspension and liquidation of mismanaged banks were the major policy instruments that were entrusted with the CB for its real sector objectives.

• However, the new CB has no statutory basis to to carry out monetary and financial policies for the macroeconomic/real sector purpose as set out in the policy statement due to the following statuary problems.
• The country has no official monetary unit as the unit of account and money supply definition but has only the currency as the legal tender or means of payment. Therefore, digital banking and payments not covered in 100% legal tender are informal transactions that are not covered in the new legislation and CB policies.
• All crucial policy instruments, namely, refinancing, lender of last resort/emergency credit, control of bank interest rates and credit, routine advances to the government, credit guarantees, trade of government securities in the open market and determination and stabilization of exchange rates based on real sector needs are now not available with the CB. Further, the foreign reserve has been delinked from the momentary and real sector stability and has become just a money dealing instrument of the CB.
• An undue prominence is given to the macroprudential authority to regulate banks and financial institutions in place of the standard solo basis (micro-prudential authority) methodology. This is a highly conceptual supervisory approach carried out based on the sector aggregate statistics (known as financial stability indicator) that has already failed globally. The sector aggregates are meaningless information that does not reflect dark corners of mismanaged institutions that always trigger financial crises. In this context, the non-availability of the lender of last resort power with the CB makes its financial system stability objective meaningless and unachievable. This was what happened to the Bank of England in 2007/09 financial crisis that hit along with the country-wide run on Northern Rock bank.
• Under the new central bank legislation, credit refinance and guarantees for economic growth purpose and the lender of last resort for financial stability purpose have become public finance functions that will put further burden on the fiscal policy, deficit and debt.

What should have been covered in the policy statement?

As the new legislation has been approved on 14 September 2023, most of CB operations at present are those that have been carried out under the Monetary Law Act and have become non-compliant with new provisions. However, the CB management continues them as they are lawful. 

Therefore, the new policy statement should have set out how the CB would be reformed to implement new provisions lawfully. Otherwise, given the CB's bureaucratic nature, there is a great tendency to continue its present operations as they are in an indefinite period until they are detected by the Judiciary. The only provision that was implemented forthwith is the suspension of lending to the government to please the IMF.

Therefore, some of crucial areas that should have covered in the policy statement are indicated as follows.

• Monetary policy framework agreement

The new legislation requires an agreement signed between the Minister of Finance and Central Bank on the monetary policy framework with regard to inflation target and other parameters. However, the publication of a monetary policy statement without this agreement published in the Gazette is an unlawful act. Nothing is mentioned on the completion of this agreement.

• Branch operations

At the parliamentary approval process, the Supreme Court determined that the CB did not require branch operations domestic and abroad to carry out proposed functions. However, at the amendment stage, a provision to have the principle office in Colombo has been incorporated quietly to facilitate branches. This is a serious breach nobody has noticed. Therefore, CB's branch operations (i.e., regional offices) continue despite they are not required for new provisions. If the new CB management was frank, the policy statement should have covered how branch operations would be discontinued.

• Non-bank financial institutions in the monetary policy operations

New legislations provide for the inclusion of specialized banks, finance companies and leasing companies under the CB open market operations (OMO) and liquidity management facilities. However, nothing is mentioned how the monetary policy would cover the non-commercial bank sector. Given the current financial problems confronted by this sector, they desperately need the CB liquidity support.

• OMO instruments

Under the new legislations, the trade of government securities for monetary policy OMO is unlawful as even indirect credit to the government is prohibited. The trade of government securities is the indirect credit operation with the government. Therefore, new legislations provide for the use of private securities such as debentures and equities for OMO and CB liquidity operations. However, nothing is mentioned how OMO would be reformed to be compliant with new legislations.

• Divisions of the principal office in Colombo

The CB still operates with Departments established under the Monetary Law Act. Mandates and operational structures of these Departments are in line with relevant Monetary Law Act provisions. Some Departments such as Financial Consumer Relations may not have a legal basis while new Departments will be required for new functions such as promotion of financial inclusion. However, the new legislations do not formalize existing Departments as Divisions of the principal office of the CB. Therefore, nothing is mentioned how the Colombo principle office would be reorganized to implement new provisions.

• Macroprudential authority

The implementation of the macroprudential authority separated from the existing micro-prudence based regulatory and supervisory system requires a series of layers. As macroprudential function is now a law of the land, the law requires the CB to eliminate systemic risks confronted by the financial system. However, nothing is mentioned how this responsibility would be implemented in due course.

Concluding Remarks

• Overall, the CB policy statement is nothing but a composite of technical words that are not even understood by those who drafted it. For example, one para-long first page covers contents that are not relevant to the CB operations under the new law because the CB is no more a central bank specifically involved in macroeconomic and growth subjects. Instead, the CB will be another state-owned wholesale money dealer operating on the state license for monopoly currency printing as the legal tender whereas other banks operate the money dealing business for wholesale and retail on the state licenses.

• The CB will continue to operate what it has been doing under the Monetary Law Act for the past 73 years, notwithstanding the provisions of the new CB legislation, given its long standing bureaucratic culture and lethargy. The continuation of the monetary policy as it is, despite the fact that the country now does not have a legally prescribed monetary unit, is a good example.

• In view of the legal tender-based new monetary system established under the new legislation, the monetary and financial sector policies stated in the CB policy statement have no lawful basis. In fact, the new CB's monetary policy will be nothing but a wholesale money dealing operation on currency printing as it has no statutory link to the real sector of the economy. Therefore, the policy statement and its terminology are just in line with the past practice of policy statements without paying any attention to the new legislations.

• In future, the country runs the risks of the use of private monetary units and systemic financial panics as the new legislations do not cover the provisions for legal monetary unit-based monetary system, lender of last resort-based crisis prevention system and government securities-based monetary operations as in the case of all central banks. Therefore, this will be the only central bank in the world that deviates from the global central banking standards.

As lawmakers have raised their hands to approve the new Central Bank legislation without any study on the subject as a part of the IMF financial programme, they will be solely responsible for monetary and financial crises that the country may confront in the future on the top of the present economic crisis (debt and foreign currency crisis).

Nobody seems to question why the central banking model established by Mr. J R Jayawardena, then Minister of Finance, with the support of Mr. D S Senanayake, then Prime Minister, in line with global standards was demolished in 2023 after 73 years (Read here for details). The history in the future will reveal real facts.

(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)