Sri Lanka’s politicians are protesting the hike in value-added tax of 3% to 18% as well as the imposition of VAT on some new items, but far more damaging to the poor is the deadly power given to macro-economists to generate 7% inflation.

Sri Lanka’s macro-economists had inveigled President Ranil Wickremesinghe to hand them the power to conduct monetary policy (read print money) and generate inflation of 5% a year with room to push up the rate of price increases to 7%.

If the power of monetary policy was taken away from macro-economists this country would have a stable currency and inflation between 1-3%.

If Sri Lankans have been misled by macro-economists to have an inferiority complex and cannot think they deserve an inflation rate better than Americans, the Swiss or the British, or they do not know that before 1987 Sri Lanka also had the same inflation rate as Western nations, or cannot relate to Dubai or Saudi Arabia at least they would be able to relate to the Maldives or Cambodia.

Their monarchies have remained due to the stability coming from the fairly hardened peg, unlike Iran’s Shah (and indeed Prince Norodom Sihanouk) who was driven out by inflation around the same time. However, to do that the inflationist and interventionist ideology spread by macro-economists for decades and the International Monetary Fund since 1978 has to be defeated.

Before 1978, the IMF did not discriminate between rich countries and less rich countries to had bad monetary regimes. The big challenge is to defeat the ideology of Progressive Saltwaterism and the relentless drive by the IMF to give central banks powers to conduct monetary policy.

There are several tools to block the macro-economists in this country. The easiest is currency competition or dollarization, the other is a currency board.

Friedrich Hayek called currency competition the de-nationalization of money, but it is the emasculation of the Harvard  – Cambridge macro-economics to take away their powers to push up inflation, depreciate the currency and otherwise create monetary instability.

The advantage to politicians would be that they can remain in power for multiple terms and do reforms to boost growth. The advantage to the people would be that interest rates would fall to around 5% and they can also be free of exchange controls. The stability will also bring in foreign investors and real incomes will rise over time.

The other advantage would be that budget deficits would fall and the debt-to-GDP ratio would be low, at 50% or below. Without central banks, it is difficult to borrow heavily.

Cambodia had very high debt as the currency collapsed in 1989 amid a coup and the country market dollarized without any outside help. The coup leader Hun Sen, a former associate of Polpot (who abolished money after high inflation).

The country is now growing at 5-6% a year (it grew faster in the initial years) getting several billion dollars of FDI and is now moving out of apparel into items like solar panels with the stability brought by dollarization and currency competition.

As a result, the central bank cannot conduct monetary policy (print money to cut rates and generate high inflation and depreciation) effectively. The IMF remains relentlessly opposed to the status quo and is trying to de-dollarize and give a few unelected economic bureaucrats the power to destabilize the nation.

“Cambodia has experienced rapid growth over the past decade, outpacing many regional peers. Growth was driven by industrialization, increased foreign direct investment, and a surge in exports, particularly in labour-intensive manufacturing,” the IMF said in its latest staff report on the country issued in January 2024.

“The Cambodian economy is continuing its recovery from the pandemic, with a GDP growth of 5.2% in 2022, driven primarily by manufacturing exports, especially in garments and electronics. Tourism saw a continued rebound in 2023, reaching close to 80% of pre-pandemic tourist arrival levels by September 2023.”

“Inflation, after dropping significantly in H1 2023, has since rebounded,” the IMF claims. The ‘rebounded’ inflation is a little over 3%. “The fiscal deficit is projected to widen in 2023 due to temporary increases in spending and is expected to decrease in 2024,” the agency also claimed.

However, budget deficits are also around 3-4%. The debt to GDP ratio is 34% a trend that is common in countries with currency boards or are dollarized where monetary policy is constrained but not those in currency unions.

The IMF however wants to give more power to ‘monetary policy’ and enhance “monetary transmission and support de-dollarization by modernizing monetary and FX policy operations. “Establish an effective interest rate corridor and develop an accurate liquidity forecasting framework. Strengthen the market determination of exchange rates and improve the operation of FX intervention procedures.”

The entire benefit and stability to Cambodia that has come from the denial of monetary and FX policy discretion is likely to be lost and Cambodia become increasingly de-dollarized and its monetary policy ‘modernized’ based on various inflationist fads developed in the US and elsewhere.

Eventually, Cambodia may return to its 1970s and 1980s fate or the fate of its unfortunate neighbour Laos which has full ‘monetary and FX policy’ and is a basket case. Then China will be blamed for default.

By constraining the monetary policy discretion of bureaucrats and forcing them to maintain the exchange rate, which is a transparent price unlike inflation indices which cannot be fudged by changing the base, stability can be given for growth and prosperity

Maldives also has low inflation around 1-3% without macro-economists to do complicated ‘monetary policy’. The Maldives monetary authority however does print money from time to time and gets into trouble. Any technical assistance from the IMF to engage in a more aggressive monetary policy would land the country in default. Maldives has borrowed too much, from China and also some of its Middle Eastern friends during about two decades of loose money starting from the Greenspan – Bernanke bubble.

What policy-makers and politicians have to understand is that denying monetary stability by various in-vogue third-rate monetary regimes is not a foundation to base a policy framework. But from 1950 onwards that is what happened to this country. To be fair current Central Bank Governor Nandalal Weerasinghe is doing a good job.

However, the way to achieve stability is not to depend on personalities but to constrain discretionary policy by law. That is to either have a very low inflation target like 2% which has been mostly successful elsewhere, or a hard peg or currency competition through dollarization.

All of these have worked. Where had a 7% inflation target worked? This country ran into default without a war with the room given for open market operations and outright purchases with a 5% inflation target.