Central Bank’s independence is a practice – that should be enforced

The lie of a homegrown strategy

“We have a homegrown strategy” former Central Bank Governor Ajith Nivard Cabraal exclaimed to CNBC in March 2022, as families suffered 5-hour power cuts, people lined up at petrol pumps, and mothers could not find baby Panadol in the market. These were the identical words declared by former Governor W.D. Lakshman during his tenure a year before. A cabal of Rajapaksa defenders glorified the “homegrown” policies of money printing and import substitution, arguing that traditional economics and global evidence of hyperinflation was wrong. 

2 May 2022

Since Cabraal took over the reins of the Central Bank of Sri Lanka (CBSL), he stubbornly held the rupee constant, printed money to fund the treasury, and kept interest rates low. He reinvented economic fundamentals to serve the Rajapaksas over the ordinary people of Sri Lanka, bringing Sri Lanka to the abyss we’re in today.
After coming into power in November 2019, this government removed taxes on the rich, leading to a plunge in tax revenue. Instead of taxing companies and individuals to finance the government’s budget, the CBSL monetized the deficit through money printing, which has led to today’s inflation. Inflation is similar to a tax, but disproportionately hits the poor as the price of food and other goods rise. 

The objectives of the Central Bank of Sri Lanka (CBSL) are economic, price and financial system stability. Looking at the actions of the past two Central Bank governors, it is clear that they failed at their mandated responsibilities. The homegrown strategy failed. 

 

"The CBSL’s mandate is not to serve the ruling party, but to provide price and financial system stability. By appointing a politician such as Mr. Cabraal to the role, they immediately politicized the CBSL"

 

 

Erosion of independence since November 2019

Over the past two and a half years, the government eroded any accountability mechanisms that existed at the CBSL, bringing the country to today’s collapse. 
In mid-2020, the CBSL isolated themselves from critical economic thinkers and compromised the independence of the Central Bank. Economist Dr. Dushni Weerakoon and banker Nihal Fonseka exited the Monetary Board, which is responsible for monetary policy decision-making. 

Next, they put Ajith Nivard Cabraal in charge of the Central Bank. Mr. Cabraal was not qualified for multiple reasons: (1) he was a politician, (2) there were unanswered questions about his conduct in the past and (3) he did not appear before the forensic auditors who surfaced conflicts of interest. No wonder foreign investors fled the markets. 
The CBSL is a venerable institution that serves as a check on the shopaholic tendencies of a Finance Minister. The Governor appointed is usually an official, with extensive experience in economics and finance. The CBSL’s mandate is not to serve the ruling party, but to provide price and financial system stability. By appointing a politician such as Mr. Cabraal to the role, they immediately politicized the CBSL. 

If that’s not enough - he was Governor when the CBSL paid $6.5 million dollars to Zuberi in 2014, who has been imprisoned in the United States for 12 years. There was no cabinet approval for the CBSL to pay this amount. In lieu of an investigation, Mr. Cabraal was rewarded with a re-appointment. 
The Presidential Commission of Inquiry on the Bond Scam did a forensic audit of the transactions that took place between January 2002 to February 2015. The reports show a detailed family tree of Mr. Cabraal’s with possible conflicts. Whilst some family members in these positions were on their own merit, Mr. Cabraal had not disclosed the potential conflicts of interest according to CBSL management and the monitory board members.

 

"Since Cabraal took over the reins of the Central Bank of Sri Lanka (CBSL), he stubbornly held the rupee constant, printed money to fund the treasury, and kept interest rates low. He reinvented economic fundamentals to serve the Rajapaksas over the ordinary people of Sri Lanka, bringing Sri Lanka to the abyss we’re in today "

 

Pass the draft Monetary Law Act

The Yahapaalanaya government drafted a revision to the Monetary Law Act, which would have transformed the CBSL into a more independent monetary authority, increasing transparency and accountability. Consider if this had been passed. The CBSL would not have been an accomplice to the economic crime that the Rajapaksas committed. This is why this government discarded the draft Monetary Law Act in June 2021. 

The draft Monetary Law Act would not have allowed the CBSL to print money like Zimbabwe. It would have prioritized inflation targeting as a core mandate, protecting the poor from the vices of a sitting Finance Minister. Any breach of inflation targets would need to be justified to Parliament, making it accountable to the public. Many countries with low inflation have independent Central Banks. This protects the poor just like Samurdhi does. 
By removing the Secretary to the Treasury from the chief policy decision making body of the CBSL, it would have metaphorically separated the church and the state. The Secretary to the Treasury would have only been involved in coordinating fiscal and monetary policy and would have no power to determine monetary policy. 

The new Bill also explicitly mandates the independence of the CBSL, ensuring that no person or entity can compromise or influence the conduct of its duties. The Bill also restricted the President’s role and discretion in appointing the Governor and the members of the decision-making boards. Changes will need to be made to the Bill to bring it in line with the updated Constitution (whether the 20th or potential 21st Amendment). However, the principle remains that the President will have restricted powers to determine the personnel in charge of the CBSL, for example the 21st Amendment proposed by a private member requires the appointment of the governor to be made by the Constitutional Council. 

Independence of the Central Bank is not a string of words devoid of meaning. It is a practice that earns you credibility. In a country with poor governance and little transparency, it needs to be institutionalized through a system of checks and balances. An update to the Monetary Law Act embeds independence as a practice within the people who staff the CBSL and becomes a public expectation. 
The failures of Mr. Cabraal and Professor W. D. Lakshman have shown us that we cannot use the CBSL as an accomplice for a stubborn executive with no options. We need to revise and pass the draft Monetary Law Act to ensure that the CBSL does not commit such a crime again.