A Proposal For A Currency Board In A Democratic Burma

A Proposal for a Currency Board in a Democratic Burma

By Sean Turnell*

Abstract

This paper argues that a currency board will provide a newly-democratic Burma with the stable monetary system it will need after decades of currency debasement under military rule. An old idea that has successfully re-emerged in recent years in a number of countries, currency boards are relatively simple and transparent institutions that can provide stability, predictability and credibility to an emerging economy's monetary institutions. Currency boards impose certain constraints on the ability of governments to conduct discretionary economic policies. The advantages they bring in establishing confidence in the currency, however, outweighs such considerations in countries whose greater need is the establishment of the sound foundations of a market economy.

The 'Currency Board' arrangement is a plan desperately needed in a country rebuilding itself, and where there had been a widespread mistrust of government and the banking system.

Peter Nicholl

Governor, Central Bank of Bosnia and Herzegovina

Introduction

Burma's economy is a disaster. Forty years of inept economic management under military-rule has reduced a once relatively prosperous economy, the ubiquitous 'rice bowl of Asia', into a country that qualifies as 'least developed' by the World Bank. Extreme poverty, endemic corruption, rampant inflation, negligible foreign exchange reserves, large monetised budget deficits, foreign debt arrears and a currency that barely qualifies as a means of exchange - are all features of Burma's economy and symptoms of a country in broader socio-political distress. Burma's economic and social problems are such that in all likelihood they can only be solved with the advent of a new political regime enjoying democratic legitimacy. Even then, however, the task will be extraordinarily difficult. In the development stakes Burma will begin a long way behind, and there are many competitors for the overseas investment and markets that Burma will need to attain any measure of prosperity.

A necessary first step in reforming Burma's economy and, indeed, in providing for healthy democratic structures more generally, will be to establish confidence and stability in the currency. There is, as Keynes observed (1919, p.220), 'no subtler, no surer means of overturning the existing basis of society than to debauch the currency'. Burma's military regimes have debauched the currency and they have overturned society. Righting this endemic practice should be a priority for a new and democratic government.

Restoring confidence in Burma's currency and in its monetary and financial system will be greatly aided by the use of a currency board. Relatively simple structures, currency boards can be used in the place of a central bank. Unlike a central bank though, their purpose is narrowly and simply defined to that of being the issuers of currency. What further distinguishes currency boards though, is that they can only issue the domestic currency to the extent that it is backed by a foreign 'anchor' currency, to which the domestic currency is freely convertible at an exchange rate fixed by law. In a pure currency board system the stability of the domestic currency becomes that of the anchor currency.

Currency boards have no control over monetary base, which fluctuates according to the reserves of the anchor currency, and therefore cannot determine a discretionary monetary policy. Currency boards cannot allow for the monetisation of government debt either, which puts some constraint on the use of fiscal policy too. In the context of Burma, and given the propensity of the military regimes to resort to money financing, this will be no bad thing and will do much to foster international and local investor confidence. Lender of last resort facilities for the banking system are also problematic in a currency board system, but such arrangements can at least be partially replaced by the opening up of Burma's financial system to foreign institutions and the application of the global Basle Accord.

One of the most attractive features of a currency board for Burma is that it does not require substantial economic reform before it can provide for a sound and stable currency. This will, in itself, greatly aid the process of achieving these same reforms and for establishing an economy that functions around the rule of law.

The paper will proceed by first examining some recent experiences with currency boards in a number of inflation-prone and transition economies. The remainder of the paper will be spent in examining currency boards themselves, their essential features and their implications for macroeconomic and banking policy. The paper will highlight throughout the specific circumstances of Burma, and the potential benefits a currency board could bring.

Recent Currency Board Arrangements

Although an idea dating back to the nineteenth century, currency boards have come back into vogue in recent years. There are currently 14 currency boards (or currency board-like systems) in operation around the world in countries with widely varying economies. Though down on the 50 or so that were in place at the beginning of the 1950s, it is a substantial increase on the few residual colonial systems that were the sole remaining examples of currency boards in the early 1980s (Enoch and Gulde 1998, p.40). For many years out of intellectual fashion, the disappointing performance of central banks, especially in developing countries, has seen the idea re-emerge in a 'new wave' of currency boards established in the last decade or so.

The most relevant of these to Burma, and the primary reason for the resurgence of interest in currency boards, have been the experiences in the 1990s of a number of transition and/or inflation-prone countries in introducing currency board systems. Argentina, Estonia, Lithuania, Bulgaria and Bosnia-Herzegovina are all examples of such countries and their experiences have largely been extremely positive. Argentina introduced its version of a currency board in 1991, whereupon its long experience of very high (sometimes hyper) inflation was brought to a halt (Bennett 1994, p.24). Argentina's is not a pure currency board and its required ratio of anchor currency to currency on issue is only 66 percent, though in practice it never usually goes