Central Bank independence amidst election manifestos

One of the highly praised pieces of legislation passed as part of economic reforms is the Central Bank (CB) Act of Sri Lanka, which was enacted in 2023. The new act aids in strengthening the bank’s independence, accountability and also price stability through a new inflation-targeting mechanism. 

The new CB Act fulfilled a key condition of the country’s EFF program with the IMF. The previous Monetary Law Act – predecessor to the new Act – had numerous flaws. The Treasury Secretary’s presence within the Bank’s then Monetary Board diluted its autonomy and it was able to buy treasury bills from the primary auctions. Also, the Monetary Authority’s three core objectives – economic stability, price stability and financial system stability – were conflicting with each other.

Under the new act, Secretary to the Treasury does not have a representation within the newly constituted Monetary Policy Board (MPB). Its role is clearly defined with price stability being its core objective in addition to being entrusted with the responsibility of achieving financial system stability. The restriction imposed on the Bank to purchase Government securities which

prevents the CB financing the Budget is the most salient aspect of the newly introduced framework. The former apart from the limitation imposed on the Bank’s ability to extend credit to the Government, forces the Treasury to exercise fiscal discipline.

Overall, the widely commended new CB Act paves the way for price stability and its intention of taking politics out of the monetary policy decisions could lead to a stable exchange rate, lower interest rates as well as aiding improved long-term economic growth. However, one needs to be mindful that when this law was enacted in the legislature, the three NPP MPs, including its Presidential candidate voted against it. Wasantha Samarasinghe, a prominent NPP politician and a member of its Economic Policy Council, even filed a petition in the Supreme Court against the bill.

The topic of the CB’s independence has come to the spotlight in the context of electoral promises made by certain Presidential candidates. Few weeks ago, during the debate which was held at the Ceylon Chamber of Commerce, the matter was discussed extensively. When the NPP representative Dr. Harshana Suriyapperuma was questioned by the SJB MP Dr. Harsha de Silva whether they would repeal the new act, the former blabbered with hackneyed rhetoric without giving an answer filled with substance. It was obvious that the NPP economic policy expert did not have a proper understanding about how the fiscal/monetary policy works.

Meanwhile, the NPP’s economic policy statement – Framework for Economic Renaissance – has pledged to maintain pro-economic growth policy interest rates (Pg. 11). In every country, determining policy rates is a task that is carried out by monetary authorities, aided by technocrats and quantitative experts, and politicians do not have anything to do with it. This aspect of the NPP’s economic policy is quite disturbing while casting doubts about their commitment towards giving a free hand to the MPB to decide on policy rates.

The policy interest rate is a monetary policy instrument which is used by monetary authorities worldwide to fight inflation or in other words to achieve the objective of price stability. The CB might hike up rates to control inflation which could slow economic growth. Thus, the NPP’s stance of keeping rates at a level to aid economic growth contradicts with the fundamentals of monetary economics. We all know what happened to the economy when people like W.D. Lakshman and Ajith Cabraal tried to experiment with fringe theories like the Modern Monetary Theory under Gotabaya Rajapaksa’s presidency and none of us would want to see a repetition of such a nightmare.

Under the new framework, the CB has been successful in terms of achieving its core objective of price stability. The last thing the country needs is unwarranted political interference on the CB which has produced unfavourable outcomes throughout history.