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Serving Sri Lanka

This web log is a news and views blog. The primary aim is to provide an avenue for the expression and collection of ideas on sustainable, fair, and just, grassroot level development. Some of the topics that the blog will specifically address are: poverty reduction, rural development, educational issues, social empowerment, post-Tsunami relief and reconstruction, livelihood development, environmental conservation and bio-diversity. 

Thursday, May 19, 2005

The economic predicament

The Island: 18/05/2005" by Garvin Karunaratne Formerly of SLAS. PhD,.Michigan State University

Today Sri Lanka is beset with two main problems. The first and most important is the situation of the economy- the sliding value of the Rupee, the ever increasing debt and the increasingly unmanageable balance of payments deficit. The other problem is the terrorist problem. An attempt has been made to merge the two problems, which to my mind is not necessary. The latter is purely an internal problem of a sovereign country, not negotiable.
The economic problem of Sri Lanka has been man made and is of recent origin. The country had a healthy balance of payments record till 1977. In 1976 and 1977 the balance of payments was recorded positive at 58 million $ in 1976 and 117 million $ in 1977. In fact the 1980 Annual Report of the Central Bank states:
“After many years of disappointing performance Sri Lanka’s balance of payments turned positive in 1977. Since then the balance of payments has again turned adverse.”
It is interesting to note that from 1978 onwards the balance of payments has been in the negative. It became 516 million $ negative in 1982, in barely five years of IMF Structural Adjustment and now stands at a 1,000 million $. Sri lanka did not become indebted till 1977. In that year the international debt was in the region of 700 million $ and that too for non-consumption development projects as compared with over 9,000 million $ today, mostly incurred for consumption purposes. The value of the Rupee was Rs. 15.80 to the pound and Rs. 8.60 to the US $, in 1977, which can be compared to Rs. 190.00 to the pound and Rs. 99.90 to the $ today. This clearly points out to a total mismanagement of the economy in the period after 1977. These are indelible facts.
Something went really wrong after 1977 and the answer to the economic problem of today- the inability to manage the economy, the inability to manage the outflow of foreign exchange with the incomes in foreign exchange, the inability to manage the economy unless by extra borrowing or selling assets for a one off payment like selling the laying hen, and the inability to stop the sliding value of the Rupee, all point to the fact that the economy has been totally mismanaged in the period after 1977. Unless and until one can be certain as to what went wrong, one will never be able to liberate the economy and get it on the right track.
What happened in 1977 was that the new Government of President Jayawardena listened to the IMF and the World Bank and did not have second doubts about their advice.
One of the first voices that pointed out the flaws was the SAARC Report of 1992:
The industrial countries, for the first time since World War II are in need of markets for their products and services just as their economies are made vulnerable by the international debt crisis. So they have put into effect the Structural Adjustment Programme… The main prescription of this SAP is therefore a reduction in government expenditure which tends to fall disproportionately on social services, government subsidies and other forms of Safety Nets for the poor. This has often been accompanied by devaluation, increases in the prices of public utilities and import liberalisation. Studies of these programmes show that they are regressive, that they adversely affect the poor.
Till the Sixties it was the United Nations Organisations that organised development. In the Seventies the World Bank and the IMF usurped this task. It took over half a decade for the United Nations to understand what was happening. The Human Development Report 1996:
“The stabilisation measures of the IMF aimed at reducing both budget deficits and trade deficits and usually involved cutting public spending, reducing wages and increasing interest rates. Restoring growth an objective on paper was rarely achieved in practice. Although these policies reduced deficits in some countries they often did so at the cost of inducing recession. In short they often balanced budgets by unbalancing people’s lives”,
It did take a long time for the World Bank to understand that something was really wrong with their advice. In their words many countries were doing well. Among the economists it was only the Chief Economist Joseph Stiglitz that had the nerve to speak out. When the Structural Adjustment was imposed on Indonesia in 1998 he pointed out:
“I suggested that the excessively contradictory monetary and fiscal program could lead to political and social turmoil in Indonesia. … The IMF pressed ahead demanding reductions in government spending. And so subsidies for basic necessities like food and fuel were eliminated at the very time when contradictory policies made those subsidies more desperately needed than ever.”
Indonesia broke up in flames dethroning Suharto who had followed all the IMF prescription for over two decades, even shooting down the protesters.
Even the foremost Capitalist Journal, The Wall Street Journal ridicules the Structural Adjustment policies of the World Bank and the IMF in the following words;
“The IMF Drill is as follows: A Third World poor country with a pegged currency is working towards taming inflation. Instead of a growth formulae it gets the IMF’s old austerity dosage which slows down the economy.
The Banks begin to falter in paying their old debts. The IMF recommends yet more medicine- devaluation making the bank predicament and capital flight worse. The currency slumps and the banks(countries) are now in real trouble…. Is this any way to run an international monetary system? If sound money and pro-growth economic policies are good enough for the US, they should be good enough for the Developing World” (23-02-01)
Now that it is established in an indelible manner that the IMF and World Bank has messed up the Third World countries, it may be worthwhile to find out what recommendations of the IMF Structural Adjustment Programme have had an adverse effect on the Developing Countries including Sri Lanka. The provisions of the Structural Adjustment that brings about an adverse effect are:
High Interest Rates. The imposition of high interest rates is supposed to boost savings. Simultaneously high interest rates cause inflation and also forces local manufacturers and agricultural entrepreneurs to close down as they cannot compete with foreign companies that can get funds at very low interest in their own countries. This helps the Developed Countries to sell their manufactures to the Developing Countries.
Reduction of Public Sector Activities does not enable the Governments to be effective in bringing about development. The private sector is not the engine of growth due to the fact that socialist legislation has thwarted the activities and they have been plagued with restrictions and would not take the leadership like in Western developed economies. The Public Sector has to provide the infrastructure necessary for development to take place. A good example is the Paddy Marketing Board of Sri Lanka that offered a guaranteed price for rice and other cereals and BULOG of Indonesia that provided marketing for rice . Both were abolished. This has caused the death of agricultural development in both countries. It is important to note that in the Developed Countries the Public Sector determines, controls and provides for development which is denied to the Developing Countries under Structural Adjustment.
Removal of Subsidies. Subsidies are required to enable production that is nationally required and to keep people in employment. It is not well known that Japan offers three times the world price for rice farmers to be in production and to keep its farmers in employment.
Free Trade, Deregulation and Removal of Tariffs By Free Trade the USA and other Developed Countries have opened up the markets of the Developing Countries. Mexico lost severely on the NAFTA. Since 1994 US exports have increased 141% to Mexico and 64% to Canada. All Developed Countries placed restrictions during the time that they developed manufactures. Even today the Developed Countries use quota restrictions, tariffs to control imports.
Liberation of foreign exchange restrictions is imposed. The inflow of foreign exchange is severely limited as foreign exchange has to be earned by exports or exports of services. All countries have foreign exchange restrictions to enable them to match the supply of foreign exchange and the demand. When the demand is liberalised while the inflow is the same there is a severe shortage which cannot be found unless by seeking loans. This leads to indebtedness. The currency value falls as a result. This is directly due to the IMF policy of not allowing the Governments to control and restrict the outflow of foreign exchange. In short the IMF itself creates a foreign exchange problem whereby the countries become indebted.
The devaluation of currencies is also caused by foreign banks that hoard their collection of foreign currency and bid the price upwards when any bill has to be paid in foreign currency. The foreign banks in Sri Lanka were caught in this in January 2001, when the State Banks had to pay a large petroleum bill and wanted foreign currency from the other banks. The foreign banks bid the price upwards causing the dollar to reach Rs 116 from Rs. 85 and settle for the day at Rs. 100. This is all due to the IMF policy.
All these policies when worked together will definitely cause the collapse of any economy.
What the IMF and the World Bank did to the Developing Countries is evident in what happened to Tanzania. Under Julius Neyerre Tanzania was proceeding well on its path to self sufficiency, development and self reliance, when the IMF and the World Bank provided them the wrong advice. This is aptly given by Cheryl Payer:
“The IMF in routine consultations advised Tanzanian Leaders that their reserves were embarrassingly large and might lead the country’s Aid donors to reduce their contribution. A poor country, the Fund argued should not hoard its reserves but spend them in order to develop more rapidly. They persuaded the Government to abolish the foreign exchange budgeting system… and lift controls on imports: by the end of 1978, Tanzania had only reserves for ten days worth of imports. Then the Imf imposed its Structural Adjustment Reforms. Tanzania which had a stable self reliant economy was broken down and brought to its knees.”
Now the mantram of the World Bank and the IMF is investment. After breaking down the economies by following the Structural Adjustment policies the economies are opened up for investment. The Third World leaders like this investment because it comes in foreign exchange and gets converted into local currency enabling the leaders to spend it on extravagant budgetary expenses. It is investment for the foreign investors.
They come on tax havens use local resources and get into manufacture and export the products without paying any profits. But their produce and profits gets taxed at 40% or more in their mother countries. It is in reality exploiting the resources of the Developing Country.
A good example is Noritaki that has since its inception been working on a tax holiday which was extended about two years ago. It is true it provided employment but in the process it also depleted the ceramic resources of Sri Lanka. The net result was the taxes it paid to the exchequer of Japan.
A further problem that this investment creates is that the investors move their money from country to country and when they leave the country falters, become bankrupt, the investors run away and once the currency falls comes back and reinvest reaping a fanciful profit.

The futility of this process of investment as a element to bring about development is given by Paul Krugman,
“ The idea of a country or even a whole region that for some reason becomes a favourite of investors and as a result experiences a temporary boom that is not grounded in fundamental productive success is by no means hypothetical. Mexico in the late 1970s, Mexico again in the early 1990s, Russia in 1995 to 1998 all were places that experienced a feverish consumption boom driven by foreign investment for a few years only to crash when some of those investors concluded that the real economy to justify their investments simply wasn’t there”. In fact he concludes that “the world is lurching from crisis to crisis, all of them crucially involving the problem of generating sufficient demand”. Krugman has correctly identified the futility of investment though he fails to find the solution.

Sri Lanka is not alone in this plight. Many are the Third World countries that have become indebted in the process of following the IMF and the World Bank prescriptions of Structural Adjustment. Many countries have had to have their currencies devalued and this has brought a windfall to the Developed Countries by enabling them to obtain imports from these countries at a very low cost purely because the currencies of the exporting countries have been devalued. The following table will illustrate the fall in value of the currencies from 1983 to 2003:

Country Currency Value of currency to the pound Fall %
In 1983 in 2003
Sri Lanka Rupee 35.00 180 415%
Indonesia Rupiah 1330 14,575 996%
Turkey Lira 336 2,395,000 712,000%
Ghana Cedi 5.7 15,711 275,000%
Nigeria Naira 1.11 240 21,800%

The extent to which the local currencies have been devalued illustrates the extent to which poverty that has also been created in these countries. In short the people cannot live with their wages. I have travelled on the vast motorways in Turkey recently. The cost of petrol and other necessities have created a people who have to resort to petty thieving to live. The motorways are empty. A wage earner cannot buy fifty gallons of petrol with a months wages. Turkey spent billions of borrowed money to build these motorways and the country is so indebted that it has to allow the currency to be devalued. Sri Lanka’s present craze on motorway creation will end up the same way making the country indebted and increasing the poverty. There will be no riders on the motorways like in Turkey.

What is the solution
To my mind no expert has come up with a solution. Jeffery Sachs has recently said that extreme poverty can be eliminated by 2015. Poverty can be eliminated in a few years if only the World Bank and the IMF will understand that it is their policies that has aggravated it. Jeffery Sachs thinks that it is the military prowess of George Bush that is the constraint.

It has to be first understood that the IMF and the World Bank has to understand what has gone wrong, which they have failed to understand as yet.

To start with these two institutions have to free the Developing Countries of the yoke of Structural Development that they have imposed. It is a heavy mill stone that they have tied round the neck, a burden which no country can bear.

It is necessary also to study the loans that have been provided so far causing the countries to fall into the debt trap. If the loans had been given for development purposes, i.e. to bring about production, then rightly the onus of repayment falls on the country. If the loans were given for consumption purposes, then the loans should be written off completely because the onus of responsibility also falls very squarely on the donors that did give the loans. Also the officers and the leaders who obtained the loans should be personally held responsible in case they are alive.
This is the only method of starting on a clean sheet.

As far as future loans are concerned the donors should be well aware that the record of loans by the World Bank and the IMF is such that there is not a single country in the entire world that has benefited from their Structural Adjustment Policies.

In the circumstances it is hoped that the donor nations, the IMF and the World Bank will infuse fresh thinking and help the Developing Countries to develop instead of imposing reforms that have been proved to be failures

I humbly request the World Bank and the IMF to impose these Structural Adjustment policies on the USA, UK, France, Germany or any other successful country and see for themselves their economy falling to bits in months not years.

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