7 June, 2023


Reality Behind Potential Output: Critical Reading By Practical Economist Is Commendable

By W.A. Wijewardena –

Dr. W.A. Wijewardena

Dr. W.A. Wijewardena

A critical reader objecting to potential output

A critical reader writing under the penname ‘Practical Economist’ has raised several objections to this writer’s ‘My View’ in the previous week under the title ‘Potential Output in Sri Lanka: It is dangerous to speed the car beyond the installed engine capacity’.

The My View under reference could be accessed here – , while his objections titled ‘Potential output: The reality behind the fiction’ here.

The substance and not the identity of the writer that matters

The critical reader in question has chosen not to disclose his identity but that should not be an issue. That is because it is the substance which he has written that matters for other readers to gain wisdom and not his identity. About writing in pennames, one should not forget that even Chanakya, the 4th Century BCE Indian Sage, wrote his treatise on economics, the ‘Arthashastra’, under the penname ‘Kautilya’. It in no way devalued the richness of that masterpiece and it was many centuries later that people identified who this Kautilya was.

This writer is familiar with situations involving undisclosed identities of questioners at seminars at schools and universities. In those seminars, students either because they are unwilling to disclose their identity or because they are stage-shy, choose to pass a little piece of paper using the hand-chains of fellow students to the speaker asking questions, some for clarifications and some putting down their objections. This writer has always made it a point to answer those questions passed onto him at the stage because they always help all those present to gain wisdom. He has also appreciated those who had criticised him, even scathingly, more than those who had praised him. That is because one can learn more from his critics than from his followers.

The ‘Practical Economist’ is an excellent analyst

First of all, the Practical Economist should be commended for the rich language he has used to explain himself. His arguments are brief, precise and to the point. They display his maturity, erudition and grasping power. Hence, reading his critical objections was like savouring a delicious meal especially at a time when many in society today find it difficult to express themselves properly. He was certainly an exception and that exception has to be recognised and given due credit.
Above all, his critical objections have given this writer an opportunity to further clarify the arguments made by him in his article. He has helped not only this writer but also all other readers to understand the issues properly. Hence, such critical reviews by readers should be welcome as value addition to the understanding of the prevailing issues.

Three areas to be discussed

The intervention by the Practical Economist could be categorised into three areas. First, the common grounds which he and this writer share; second – the objections which he has made about this writer’s arguments; and third – the subtle remarks which he has made to reveal his dislike of this writer and his writings.

Let’s change the order of exposition in this review: Start with the third and quickly dismiss it since it has no relevance to the substance in this review and then touch upon the first and the second in that order.

The subtle remarks about this writer

The subtle remarks could be found in a number of places in the Practical Economist’s piece of writing. He has been “surprised to hear” of an indication by this writer about the impatience of politicians since this writer is “regarded as a reputed economist by some” thereby clearly distancing himself from that ‘group of some’. This is a fair enough remark because this writer has never attempted to project himself as a reputed economist though to his embarrassment, some have attempted to give that honour to him. This writer is still a student of economics and will continue to be so even in the future though he had been in this trade for more than four decades by now. He firmly believes that one has to learn continuously for otherwise one’s knowledge will become outdated pretty soon.

The Practical Economist has not been happy that this writer, despite the so-called title of being a reputed economist, does not know that “when it comes to individual economic ambitions, any rational economic agent’s intention is to grow as fast as possible” and emphasises that this writer “should know” it. However, this is not an accurate representation of what this writer has been writing about the economic man. He has always upheld the economic man’s selfish motive of serving himself first and then serving the society through helping himself. However, in many of his writings in this series, this writer has drawn attention to an aberration in this selfish game when it comes to politicians and bureaucrats.

In this game, known as the Principal-Agent Problem, both politicians and bureaucrats have incentives to work for themselves and not for the benefit of the principals who have brought them to powerful positions if there are no effective controls, checks and balances. In many countries in the developing world, these controls, checks and balances have become ineffective leading to a failure of the discharge of the fiduciary responsibilities of those powerful people.

Limitations highlighted by this writer would not have been sufficient

About the limitations of the research study on estimating potential output in Sri Lanka, the Practical Economist has surmised that this writer may have “conveniently chosen to ignore” them. Probably, the Practical Economist would have considered that the following qualification made by this writer in his article would not have been sufficient to highlight the limitation of the research study to his readers. This is what this writer said: “Working Papers are in fact advance presentation of the findings of an ongoing research study for eliciting comments and views to facilitate the researchers to finalise the final results. Hence, their results are not yet conclusive and awaiting for moderation. Yet, they give a good indication about the direction to which the research under reference has taken the researchers. According to the authors, the preliminary findings of the research work have been presented in a seminar at CBSL and they have been benefited by the feedback received from the seminar participants.”

If this is not sufficient, then, of course, it is this writer who should be blamed. The Practical Economist should not be faulted for pointing it out.
The charge of the political bias is not new

The insufficiency of the highlighting of the limitations, the Practical Economist has further attributed “due to the increasing political bias” in this writer’s recent analyses. He has reasoned out that that political bias has prevented this writer from “understanding things and making rational assessments”.
The political bias referred to here is the ‘alleged bias against the present government which could be interpreted as a bias for its opponents’. This is not a new allegation against this writer.

During the short rule of the Ranil Wickremesinghe Government in 2002-4, this writer was the Deputy Governor of the Central Bank. Some Cabinet Ministers were not happy because this writer did not endorse their policies. Hence, they charged that this writer was working against the Government (a presumed political bias against the Government) supporting the one that had been voted out of power.

They even demanded at the Cabinet level that disciplinary action should be taken against him. A communication by Governor A.S. Jayawardena addressed to the Ministry of Finance clarifying this writer’s position put the things to rest.

Then, in the subsequent government that came to power in 2004, two leading politicians charged that this writer was personally forcing the Sri Lanka rupee to depreciate in a bid to discredit the Government, a charge of political bias, supporting the one that had just been voted out of power. Again, a meeting arranged by Governor Sunil Mendis with one of the politicians clarified the position regarding the exchange rate management. To his credit, this politician did not raise that issue again.

This writer’s political bias is for a free economy

After the My View series was started, there were similar allegations against this writer by a few readers. They had been prompted to do so because this writer did not follow the official line of analysis and opposition parliamentarians had used them to criticise the Government.

The explanation by this writer was that after the articles have been published they are public property and anybody can quote them to prove or disprove a point. This writer’s political bias, if one chooses to call his ideals so, is very clear. He stands for liberty, freedom of choice, protection of property rights, rule of law, strong institutions and a small but a smart government. Some political parties do not uphold these principles and therefore it is quite natural for them to regard this writer as a politically biased analyst.

A beautiful summary by the Practical Economist

The following is the common ground which the Practical Economist shares with this writer. He had said that rational people always want to improve their conditions to which this writer agrees. One problem they have is the resource constraints and the limitation of the capacity of the engine with which they have to work. Thus, they take measures to increase the capacity of the engine.

This is a beautiful summary of what this writer has presented in his article and hence a common ground which the Practical Economist shares with this writer. But there is a disagreement about the extent of the enhancement of the capacity of the engine. The Practical Economist is happy about the sufficiency of the increase in the physical investment ratio and the new opportunities after the end of the war to sustain a high economic growth. But this writer has recommended a multi-pronged approach that includes the increase in the physical investment ratio plus many more.

Not mere investment but productive investment that matters

This writer has emphasised on the need for investing in the productive infrastructure and not any infrastructure. There are many investment projects undertaken in the recent past which have not made a commensurate value addition to the economy. They have increased the investment ratio, but not the output in the economy. Many are reported to be relying on government funds, as revealed in Parliament in answers to questions, to continue their operations.

This writer has specifically recommended that the unemployed youth have to be employed in productive employments and not in unproductive government jobs. Though they have got jobs and it has helped Sri Lanka to report a lower incidence of poverty, they have become a burden to the budget which is already constrained by lack of resources.

With regard to budgetary reforms, it was recommended that the Government should divert resources from unproductive subsidies to human capital development – education and health – and the acquisition of modern technology. Since, Sri Lanka cannot produce technology overnight, it is necessary to create the ground condition conducive for attracting foreign technology to the country.

The important requirements in this area are the protection of property rights, observance of the rule of law, maintenance of law and order and independence of the judiciary. Without these ground conditions, it is unlikely that Sri Lanka could attract worthwhile foreign investments.
An often-quoted example of Sri Lanka’s losing opportunity due to its failure to maintain law and order properly during the ethnic riots of 1983 is the loss of the Motorola Chip Making Facility that was under construction at that time to Malaysia.

King Parakramabahu the Great was also impatient but his advisors were smart

This writer has not discredited politicians with impatience and ambitions to super-charge their economies. What he has said is that they should have resources and take measures to increase the capacity in the economy. If they presently do not have that capacity, it is the duty of the advisors to moderate their plans to suit the conditions and take effective measures to increase the capacity of the economy. A good example is provided in Sri Lanka’s history attributable to King Parakramabahu the Great who ruled Lanka during 1153-86 CE. According to the author of Chulavansa, the second part of Lanka’s Chronicle Mahavansa, after the young king became the ruler of the Dakshina Desa, he wanted to wage war with other rulers with the objective of becoming the king of the whole country. He had asked his Treasurer, equivalent to today’s Minister of Finance, whether he had resources to do so. The Treasurer being a frank and a responsible advisor had opened the Treasury and showed the young king that it was empty. The King immediately embarked on a massive export drive to generate the necessary funds for his enterprise. He is said to have set a special export processing zone called the Antharangadura bordering Kalu Ganga, Benthara Ganga and Sinharaja. Thus, ambitions of Parakramabahu were realised without imposing a burden to the economy or its people.

JRJ’s impatience overheated the economy, according to PBJ

There have been examples of the impatience of the politicians and how advisors performed their duty well in Sri Lanka’s recent history too. After assuming power in 1977, President J.R. Jayewardene desired to accelerate the Mahaweli Project, earmarked for being implemented in 25 years, to six years.

This writer recalls that a special study unit was set up in the Central Bank immediately at the instance of the Deputy Governor the late Dr. W.M. Thilakarathana to identify the risks involved in undertaking a massive investment program of that nature and recommend measures to minimise the same. However, the massive public investment overheated the economy increasing the inflation rate to 26% at one time, putting constant pressure on the Sri Lanka rupee to depreciate in the market.

The Central Bank adopted a set of stringent monetary policies liberalising interest rates, restricting government borrowings only to those from concessionary sources, introducing quantitative credit ceilings on banks and putting pressure on the Ministry of Finance to discipline the budget. The final outcome of JRJ’s impatience has been eloquently explained as follows by Dr. P.B. Jayasundara, then a Senior Economist at the Central Bank, in a paper presented to the Annual Sessions of the Sri Lanka Association of Economists in 1985 under the title ‘Fiscal Adjustments to Sustain Economic Growth: A Review of Post – 1977 Experience in Sri Lanka’: “The expansionary role of the government in the economy during 1978-80 period thus made conventional wisdom to hold that the expansionary involvements were the primary source of inflation and appreciation in the real exchange rate. Despite the adjustment in the exchange rate, Sri Lanka’s real exchange rate appreciated between 1978-80 reducing the competitiveness in the external trade,” (p 142 of the Proceedings of the Annual Sessions).

Thus, the legendary JRJ was impatient but it led to a serious overheating of the economy during that period. The fact that JRJ was in power did not deter the reputed economist to assess his policy critically and it was not regarded as a display of political bias.

Of impatient politicians, failures are more than successes

The Practical Economist has pronounced that the East Asian Miracle has been delivered by such impatient politicians. This is true only for the success countries like South Korea, Taiwan, Hong Kong and Singapore. The impatient politicians in those countries had expanded the capacity of the engine by adopting the multi-pronged strategies recommended by this writer. However, there are many countries in the region as well as in Africa and Latin America where politicians have been impatient with mega projects but ended up in failure.

This writer can document hundreds of them but that is reserved for a future article. In those countries too, the politicians were impatient but since they had not adopted the required measures to increase the capacity of the economies, the result was, as was the case in Sri Lanka during JRJ’s time, the overheating of the respective economies. Thus, it is not the impatience which brings problems to an economy. It is the impatience not associated with appropriate economic strategies that will bring problems to an economy.

Perhaps this is the disagreement between the Practical Economist and this writer.

*W.A. Wijewardena, a former Deputy Governor of the Central Bank, could be reached at waw1949@gmail.com

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Latest comments

  • 0

    The pseudonym of ‘Practical Economist’ as opposed to ‘Theoretical Economist’ is in line with the claims of the regime to offer home grown practical solutions for most of the issues facing the country. The practical people are not adverse to changing the definitions or standards to suit a particular situation. For instance the GDP can be increased a few points by a ‘Professional Statistician’ resigning or being removed from his post.

    The ‘Conventional’ or ‘Therotical’ are looked down in disdain as the country is run by ‘Practical’ people. CBSL governer is a ‘Practical’ accountant and former politician, not a professional economist. The new head of BOC is a ‘Practical’ ex-military man, not a financial expert. The President himself is a highly ‘Practical Human Rights Activist’ who himself went to Geneva to convey the Human Rights Abuses of previous govts.

    The people being neither practical not theoretical can be classified as fools because they swallow all the lies dished out by the brigade of ‘Practical’ laptop Journos sponsored by the Govt. It is plain to see that Hambantota is a giant white elephant which is being compounded by forcing ships to dock. Similiarly Mattala and Norochcholai. Govt is surviving mainly on the forex sent home by our womanfolk in the Middle East which is the practical truth.

  • 0

    I came across this rather interesting article which seems to apply to the situation in Sri Lanka –

    Three stages of debt

    Minsky had a theory, the “financial instability hypothesis”, arguing that lending goes through three distinct stages. He dubbed these the Hedge, the Speculative and the Ponzi stages, after financial fraudster Charles Ponzi.

    In the first stage, soon after a crisis, banks and borrowers are cautious. Loans are made in modest amounts and the borrower can afford to repay both the initial principal and the interest.

    As confidence rises banks begin to make loans in which the borrower can only afford to pay the interest. Usually this loan is against an asset which is rising in value.

    Finally, when the previous crisis is a distant memory, we reach the final stage – Ponzi finance. At this point banks make loans to firms and households that can afford to pay neither the interest nor the principal. Again this is underpinned by a belief that asset prices will rise.


    When will we reach stage three is the question? Some organisations like Mihin Air, Sri Lankan, CEB, SPC have already reached this stage. Problem will arise when individuals, private sector and small businesses reach this stage.

  • 0

    Seems like Colombo University family dept Economics.

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