Business

What Sri Lanka, IMF, and World Bank can learn from each other

By Karen Hapuarachchi

Former World Bank Chief Economist Georgetown University Professor Dr. Shantha Deverajan

Pathfinder Foundation recently moderated a webinar with the participation of former Central Bank of Sri Lanka (CBSL) Governor and well-known economist Dr. Indrajit Coomaraswamy, together with Georgetown University Professor Dr. Shantha Deverajan, to discuss what Sri Lanka, the International Monetary Fund (IMF), and the World Bank (WB) can learn from each other. 

 “I think Dr. Devarajan is unique, as he has been a senior economist for three regions. When he was sent to these regions due to a problem, he was like a troubleshooter as a chief economist. Also, he was formerly the acting Chief Economist of the World Bank for 20 years,” Dr. Coomaraswamy stated.

Dr. Coomaraswamy further requested a brief history of the “genesis of the two Bretton Woods institutions”.

 

Genesis of the two Bretton Woods institutions

 

Central Bank of Sri Lanka (CBSL) Governor Dr. Indrajit Coomaraswamy

With the Bretton Woods reference being in relation to the monetary management system, the “Bretton Woods System” was established as the rules for financial and commercial relations after the 1944 Bretton Woods Agreement, between countries of the Western European, United States, Canada, Australia, and Japan.

Dr. Devarajan answered that the two Bretton Woods institutions, the World Bank and the IMF, were born out of chaos. “Following World War Two, where the global economy was in shambles, and several countries were devastated as a result, the Bretton Woods Conference in New Hampshire identified the need for the two institutions.” Dr. Devarajan stated.

He later clarified that one institution was incepted to keep the world safe from future capital account crises, or financial crises such as the 2008 financial crisis, whilst the other was for the reconstruction of the economies that were devastated by the war.

Accordingly, the establishment of the IMF was to keep the global financial system stable whilst the World Bank was created for reconstruction. He also stated the World Bank was reputed to be the international bank for reconstruction and development.  

However, as maintaining global financial stability mainly focuses on correcting the balance of payments (BOP) difficulties, correcting BOP issues is what the IMF was initially meant for, with the WB’s initial purpose being in reference to the reconstruction of France, Japan, and Germany’s economies.

He further stated the real issue lies where developing countries have the need for a capital for growth and funds to reduce high levels of poverty. As a result, the World Bank evolved into an institution of development finance for developing countries.

“When the IMF tries to help countries with balance of payments difficulties, some of those balance of payments difficulties have to do with the structure of the economy and its long term growth prospects,” Dr. Devarajan stated.

He further added that if the economy doesn’t grow with the aid given, the economy will always run into balance of payments difficulties. As a result, the IMF started looking at the structural aspects of an economy, Dr. Devarajan mentioned.  

Accordingly, the World Bank also realised that while countries needed development finance to build bridges, roads, and other infrastructure, many of these countries were suffering from structural problems as the policy framework is distorted.

Thereby, Dr. Devarajan pointed out that the World Bank got involved in the policy dialogue in order to fix this issue where one institution prevented the balance of payments difficulties from recurring whilst the other institution enabled the investment projects to be actually productive.

 

The real reasons behind the tainted Image of the two institutes

 

Furthermore, Dr. Coomaraswamy noted the two institutions have faced many reputational challenges, as the developing world views the alliance with these institutions as paving the way to be dominated by “Western countries”.

He further highlighted that such a perception reflects the world of 1948 than that of 2021, and that these institutions are not as sensitive as they should be to specific countries’ situations.

 “You’re absolutely right, you’re right to call it an image flaw. One level is quite straightforward, that the IMF usually comes into a country that has suffered a major shock,” Dr. Devarajan stated.

He highlighted the example of how, when oil prices plummeted, Nigeria suffered a major shock to its economy, and the IMF responded by helping the country with funds and technical assistance.

In this case, Dr. Devarajan explained that one of the IMF’s goals was trying to provide the country with finance to smoothen the adjustment out of the shock. Accordingly, he stated, there’s no question that when the price of oil falls so drastically, adjustment is essential; however, the country is now 20% poorer.

“On the other hand, the problem is that the people in Nigeria, all they may see is that they’re having to tighten their belts at the time that the IMF is in town. So they associate the IMF with having to tighten their belts,” Dr. Devarajan explained.

Accordingly, out of such crises, in the World Bank’s case, these policies are necessary to make that financing productive. It was also mentioned that some people have been questioning the conditions and the measures taken by these two institutes in many countries.

“The third problem is the track record of these structural adjustment loans. Into the 1990s, the track record was not very good. So, these countries got lots of structural adjustment loans, and the conditions were to liberalise the trade regime, deregulate financial markets, devalue the exchange rate, and reduce tariffs,” Dr. Devarajan stated.

He further mentioned that after the conditions were taken into operation, the growth, in some cases in Africa, did not increase. He mentioned that Sri Lanka has experienced these effects as well, and that he has documented it in Sub-Saharan Africa.

 

Corrupt governments that blame IMF and the World Bank

 

He explained that there are some industries that are protected, where a particular player is earning profits in that industry, even if it is not a productive industry. As these parties are politically powerful in the country, the conditions given to the country reduce the protection given to that industry.

Thus, the government will be hesitant, as it has to alienate a party who may be a major political supporter, and who may make the difference in the next election.

“I think many governments then have used this as a way of saying, well, we don’t really want to do this, but the World Bank makes us do it, and it’s a way of absolving themselves from what they need to do, but it’s not helping them at all.” Dr. Devarajan pointed out.

Accordingly, a fair amount of pressure is present to make sure these loans are processed, while the World Bank also sometimes overlooks conditions that haven’t been met.

“So my conclusion is that it was not that the policies were the wrong policies. But they weren’t genuinely owned, or there wasn’t a political consensus for undertaking those policy reforms in those countries,” Dr. Devarajan concluded.

On the other hand, a prominent challenge where the government authorities do not consult with the public was also addressed. He stated that this would lead to less parties being held responsible for the consequences that those undiscussed or unpublished measures may bring.

“I think that’s not unfamiliar to us in Sri Lanka. You know, this whole thing about ownership, building consensus around reforms. There have been a few countries which have done this successfully, right?” Dr. Coomaraswamy questioned. 

Dr. Devarajan answered that only a few countries have done so, and that the World Bank has changed its approach to conditions because of this syndrome he was describing earlier.

He further stated that reversing this would require governments to inform people of the reforms being conducted, and consult the public and relevant critics prior to implementation.

Accordingly, Uganda has a reform programme for structural adjustment. Before they even discussed it in Parliament, meetings were held all over the country to consult the public for their views and explain the measures before implementation.

He concluded that it is a different culture in Uganda, as opposed to a government operating behind closed doors and suddenly surprising people with the reforms. He further added that the Government rather let it build up organically from below and that it is thus no coincidence that in Ghana and Uganda, the two structural adjustment programmes were sustained over time.

 

China-IMF relations and what China learned from WB

 

Dr. Coomaraswamy, on the other hand, explained changes in the approach of two institutions. As per the last programme that had been conducted with the CBSL, he had seen the changes more from the perspective of the IMF.

“But I think for instance, China; you were telling me they use the World Bank in a very different way, and to great effect. That’s something that many countries miss out on, and certainly in Sri Lanka, we probably have not really taken advantage of this resource,” Dr. Coomaraswamy noted.

Dr. Devarajan responded by noting that even with a trillion dollars in reserves, China borrows about $2 billion annually from the World Bank.

When he queried Chinese associates as to why the loan was needed if the country was wealthy, they responded that China has a requirement for the technical expertise of the World Bank, rather than its financial aid.

“Countries like China use the World Bank exclusively for its knowledge. But they use it in such a way that they can get the best out of it. And that’s really the only reason why they continue to borrow,” Dr. Devarajan commented.

He later added that many low and middle-income countries are beginning to realise that the real value of the World Bank lies in the knowledge that it can provide, adding that the same knowledge can be useful for unlocking some of the political polarisation that countries including Sri Lanka are facing.

He clarified that Sri Lanka cab be helped by carrying out the “knowledge work”, by conducting an analysis and then putting it out to the public. Dr. Devarajan then delved into the issues in Sri Lanka and took the example of the electricity price reforms.

As the problem lies between the Ceylon Electricity Board and the public, it becomes a serious issue, noted the former Chief Economist, referring to the fact that the less fortunate cannot afford high electricity prices.

“But the truth of the matter is, the electricity subsidies are overwhelmingly going to the rich, because they’re the ones who consume more electricity,” Dr. Devarajan explained.

He added that gasoline subsidies are also consumed more by the wealthier than the less fortunate, and mentioned a story where a couple started driving around at night in the car because they could run the air conditioning in the car.

In the example, as the couple ultimately utilised subsidised gasoline, Dr. Devarajan implied that consumers who can afford a similar lifestyle to this, are able to pay higher prices.

He further stated that the bank doesn’t necessarily need to recommend a solution, but it does get the information out there, which can be a powerful tool along with the bank’s ability to undertake these large scale analytical projects.

“It can be particularly useful for small countries like Sri Lanka. And I really feel like that’s something that Sri Lanka should have been taking advantage of as much as possible, the way the Chinese do.” Dr. Devarajan commented.

 

What Sri Lanka can do to make things right

 

Dr. Coomaraswamy further queried how Dr. Devarajan saw that the IMF and the WB can assist Sri Lanka in addressing issues such as facing a fiscal and current account deficit whilst dealing with the Covid-19 pandemic.

“From the view of the Sri Lankans, I think the situation is very serious. If you have a very serious debt problem, as well as the current account problems, it looks like there has to be some kind of debt restructuring in order to prevent this from recurring,” Dr. Devarajan answered.

Accordingly, the IMF is well placed to provide knowledge and technical assistance regarding different options of debt restructuring and different combinations of policies that could lead to a restructured debt profile.

“And they have lots of expertise on this; they did the same thing for Argentina, for instance. This is not the IMF dictating things, it’s the IMF doing the analysis needed with the government, with the Sri Lankans, to come up with a package of debt restructure,” Dr. Devarajan commented.

He further stated that Sri Lanka has faced a series of major distortions in the economy when considering the long term, but despite all of these distortions over 30 years, the economy has gone from a low income country to a middle income country.

As per capita growth was almost 3% annually during a 25-year civil war, he suggested that Sri Lanka was growing despite these distortions, and noted the potential growth when overcoming these distortions.

“The second thing is, the fact that these distortions haven’t moved in 50 years, means that they’re probably never going to move; the best thing for the World Bank to do is to say, let’s take these distortions as their constraint,” Dr. Devarajan commented

Accordingly, he said, if trade restrictions were present, they would not apply to some industries, pointing to the garment industry taking off as it wasnt subject to those labour regulations, and the sophisticated high tech version of the garment industry it has grown into.

The third was noted to be the labour market as he delved into the labour crisis in the 70s, and 80s, where there were a large number of young people entering the labour market, and there were no jobs because of these labour restrictions.

“So if you had a real crisis, that leads to something like the Arab Spring, in the Middle East. But one thing opened up, which was the Gulf. So a whole bunch of the young people found jobs in Kuwait and Saudi Arabia and UAE, and places like that,” Dr. Devarajan commented

Having worked for 10-20 years, the workers are now retired and old, whilst Sri Lanka, because of its low population growth, has now come into a labour shortage.

Dr. Coomaraswamy then handed over the webinar to the Pathfinder Foundation, where a Q and A session was moderated. 

 

How Sri Lanka to get out of the ‘vicious cycle of a debt trap’

 

During the Q and A session, he was queried about the assistance that can be given to Sri Lanka to get out of the “vicious cycle of a debt trap”.

“I think there are two areas; one is the debt restructuring, as the IMF is in a position where they can provide technical assistance, and the second is the knowledge that the World Bank produces, but use it in a strategic way to use it to help build a consensus in the country, I think it has tremendous potential,” Dr. Devarajan commented.

He also suggested that publications be made in all three languages of Sinhala, Tamil and English, as the public would get a better understanding.

He later mentioned an anecdote from Tunisia, where the World Bank prepared a report which showed that the friends and family of the Ben Ali regime owned the businesses that received the most protection in the country, which contributed to the high unemployment in the country and to the Arab Spring.

“We presented it to them and they were polite, but basically ignored it. However, the   cartoon video of the report in Tunisian Arabic went viral. The same minister who refused to talk about it, started talking about it, as the cartoon was even popular amongst the Minister’s kids. This is what you can do in Sri Lanka,” Dr. Devarajan commented.

 

Lessons from a homegrown reform programme

 

As per the lessons needed to design a homegrown reform programme in a country like Sri Lanka, he lastly stated that homegrown reform has two parts to it, the first being the people involved in designing policies can either make or break a country, while the second part that the voice of the people is heard in the policymaking circles.

 “This is what is lacking in Sri Lanka. So I think a truly homegrown programme like the examples I was giving you of Uganda and Ghana is one way you consult the people first to actually get a sense of Sri Lanka,” Dr. Devarajan concluded.