Sri Lanka trade controls take IMF by surprise

Apr 04, 2012 (LBO) - Sri Lanka's sudden hike in car taxes has taken the International Monetary Fund by surprise, and the lender would like to see tighter monetary policy than selective taxes, its resident representative said.

"The issue of recent taxes on vehicles and other goods, that actually is something we did not discuss with the authorities at all," IMF's resident representative Koshy Mathai said.

"We were not expecting it. We were happy to see that it shows that they are taking this balance of payments crisis issue very seriously. They are trying many different policies in order to address the issue.

"Our own view is probably that adjusting tax rates is not always the most productive way of addressing this kind of problem.

"Because, yes, it certainly true that the rise in vehicle imports was part of the widening of the current account of deficit last year.

"But whether it is appropriate to do selective tax increases to combat it - rather than more generalized instruments that are less discriminatory and apply more across the board - whether that is the more appropriate approach is something we had some concerns about."

Monetary Problem

Pressure on a currency peg comes from excessive credit growth and full scale balance of payments crises are caused by sterilized sales of foreign currency by a central bank that tries to control the exchange while printing money by sterilized sales of foreign exchange.





Mathai said the IMF would like to see a rise in policy rates.
"One thing we have talked about in the past is monetary tightening," Mathai said. "I think there has been a policy rate hike. We've seem market rates rise by more than that.

"So there would there be a case for raising policy rates to match what we had seen with market rates. Those are more the lines in which we are thinking."

Trade controls were widely imposed on people during the Bretton Woods era by rulers of many countries including Western ones until the arrangement collapsed in 1971-73.

Even the United States briefly imposed trade controls during the so-called Nixon Shock, backed by pro-establishment economists around the time it closed the gold window and defaulted on the Bretton Woods agreement.

The US dollar collapsed against gold after the Fed printed money to keep rates down while the state deficit spent for the Vietnam War and the 'Great Society' programs of the then administration.

Nixon imposed a 10 percent surcharge on all imports, something Sri Lanka also did during the 2000/2001 balance of payments crisis.

Sri Lanka imposed severe trade controls on the people in 1970s in particular.

Fiscal Goal

Reduced car imports, due to high taxes can reduce state tax revenues expanding the deficit and putting further pressure on credit, interest rates and the currency, worsening or prolonging the underlying problem.

Last year the state earned tens of billions of rupees from car taxes, which were painlessly imposed on the people.

Mathai said he was not sure whether new taxes would be needed to make up for lost revenues from cars but he was confident that the fiscal authorities were fully committed to meeting targets and would flexible and to counter any problem that arose.

"That said, that is one basic reason that we are not big fans of adjusting tax rates up and down in this sort of manner," Mathai said.

"It is helpful to have a set tax structure that applies, and continues to apply gives some stability and certainty to the market."

Cigarette and alcohol taxes were also raised at the same time.

In Sri Lanka taxes including basic goods can be arbitrarily raised by midnight gazette without debate in parliament literally while citizens are sleeping.

The pathetic pleas of victimized citizens appeared on the finance ministry's website after the car taxes were suddenly raised over the weekend.

"Please consider allowing the old tax for already shipped vehicles as importers are in deep trouble due to sudden increase of taxes," said one poster on the website.

"If vehicles are shipped they are have no other alternative other than getting the vehicles cleared paying amounts not worth."

"Did u think what happen to our plan who already shipped vehicle?," asked another citizen. "So plan to also send a bottle of poison to us."