Financial Times - Central Bank urged to promote entrepreneurship

It was a refreshing, out of the ordinary lecture the other day when Sri Lankan-born Nalini Jeyapalan, a proud alumni of the Central Bank of Sri Lanka and retired professor of Business Finance of the California State University, delivered the 56th anniversary lecture at the Central Bank auditorium. Making her intentions clear from the onset she called for radical changes to Central Banking in Sri Lanka to play an active role in the economy and move the country out of the vicious circle of stunted growth by actively promoting entrepreneurship.

Tracing Sri Lanka’s transformation from a British colony to a independent nation, she noted that during the latter part of the 20th century our small country disassociated itself from the global economy that was put in place by the British by neglecting the indigenous entrepreneurs associated mostly with the plantation sector, and also lost the great advantage of the fluency of the English language, plantations were nationalized English speedily abandoned, she asserted that its prudent to hold on to advantages you already possess while reaching out for more.

British
Stressing on the spirit of entrepreneurship that prevailed, she said that in the colonies British entrepreneurs assisted by the hand-in-glove relationship with the British colonial government cleared the land, planted crops, built infrastructure of fine roads and railways to transport the produce to auction houses in the sea ports from there, British ships carried those goods to the mother country for further processing, secondary or tertiary, or as the case of tea went further to distribute the producer globally through their well oiled net work. The work was not easy but British entrepreneurial foresight and tenacity made it possible.

Entrepreneurship is not easy; it is fraught with risk and uncertainty perhaps that is the reason why Sri Lanka remains under developed. Today while much is said about the British occupation and the economy they created it was no easy life for James Taylor and his followers in setting up tea bushes in the thick jungles infested with disease and many hardships. Dr Jeyapalan brought out a beautiful story about a young British planter who underwent many travails in his maiden trip through the jungles that she said was picked up from the reading room of the British museum whilst researching for her doctorate. An entrepreneur is someone who pushes the threshold of danger outwards; they are bold, ingenious, risk taking and daring

It was also Dr Jeyapalan’s contention that we have not achieved double –digit economic growth because we have neglected innovation and entrepreneurship in financial planning and economic policy making not realizing the importance of both in the development of the western economies.

Looking back at our country’s history, it could be said that there were entrepreneurs amidst us and unwittingly let those indigenous entrepreneurs languish. Independent Sri Lanka inherited the vibrant capitalist based export economy of tea, rubber and coconut well served by a purpose built financial system while the other comparatively self sufficient economy of rural farmers, artisans and craftsmen who prior to British occupation were operating under the patronage of kings and chieftains, but who were later leveled to subsistence status by war and overthrow of the monarchy.

Subsistence
It is these artisans and craftsmen who transformed wood, stone, copper, brass, silver and gold into incomparable works of art seen today in temples and the ruined cities. At present most Sri Lankan entrepreneurs operate at a subsistence level aiming for a small target income to cover the bare necessities.

China is a good example where indigenous artists have been mobilized well and connected them to western multinational companies who are trying to create new global markets and Chinese factories are working in full steam. Using the advantage of strong export markets in toys, textiles and small appliances China is diversifying the economy rapidly and sustaining a growth rate of 10 per cent.

Dr. Jeyapalan posed the question why have we failed to energize our corporate sector that is so critical for economic development? Why has our objective of rapid economic development through diversification eluded us for almost sixty years?

She attributes our pre-occupation with the study of economics and macro-economic variables such as GDP, National Income, exports, Imports, savings and investment as a major drawback. In USA more than 1.1 million enterprises are launched each year, the roe of the Central Bank in such economies is mainly supervisory and new firms create nearly all the new jobs. In Sri Lanka the support small entrepreneurs get from venture capitalists, financial institutions and policy makers is poor or non-existent. Poor presence of the corporate sector is another issue. Government agencies like the Central Bank don’t have the power to push growth while focused on stability.

Dr Jeyapalan proposed that the Central Bank establish a Department of Innovation and Enterprise (DIE) to understand the role of new business in the economy and supply business incubation services to entrepreneurs. DIE should formulate, implement and execute policies to assist new entrepreneurs. DIE should provide Business support. She was of the view that a distinguished businessman should head DIE.

Sri Lanka in recent times have developed a few good entrepreneurs like Dilmah, Milesna, Munchee, Imperial, DSI, Nippolac, Sierra etc who have well established their brand names beyond the shores. As Dr Jeyapalan states we need to do more and lift the levels of the Dumbara mat weavers, Pilimatalawa craftsmen, Weligama beeralu weavers, jewelers, etc above the subsistence levels and link them to global markets as the Chinese have successfully demonstrated to achieve sustainable economic benefits.

Role of CB
Excerpts from her presentation:
“My purpose (today) is to comment on the incompleteness of the Bank’s role in the context of a developing country like Sri Lanka. Bear with me as I trace the political and economic events over several decades because the Bank’s evolution took place against that backdrop.

Ever since Sri Lanka gained independence from the British in 1948, we have been criticizing the economic structure that we inherited. Sometimes, we even imply that there was some Machiavellian reason that the British designed it so. If we reflect rationally, it was a design by the British to create a vast global economic empire.

Production in the colonies was a minor component of an economic network that brought together the whole world into a global marketplace.

Monetary Law
The Monetary Law Act of Sri Lanka bewilders me; bewildering because its responsibilities, objectives and goal appear to be stated out of sequence. The Central Bank is “responsible for the administration, supervision and regulation of the monetary, financial and payments systems of Sri Lanka.” Its objectives are to secure ‘economic and price stability’ and ‘financial system stability’ with a view to encouraging and promoting the development of the ‘productive resources of Sri Lanka’, i.e. economic development of our country. Underlying this sequence in the statement of purpose and objective there is the implication that promoting economic and price stability and financial system stability will promote economic development. My questions are: In a developing economy, if we secure financial and price stability at any given moment in time would our goal of promoting the development of our productive resources have been interrupted or assisted? How compatible is the economic development of a developing economy with financial and price stability? Hark back to American economic history and recall the facetious statement that was a popular tutorial subject in the University of Ceylon in my time, “America developed on bad banking.”

Within an economy, there are two identifiable flows, a real flow of goods and services and the money flow that finances it. In a developed economy like the United States where the flow of goods and services is strong and sustained, a stabilizing monetary role is appropriate for its central bank, the Federal Reserve Bank. We, in Sri Lanka, inherited from the British a financial system that serviced the self-sufficient, plantation-based economy rather well. It was not designed to serve the needs of a developing economy.

From time to time, the Monetary Law Act was changed to bring it in line with the economy’s needs, but those changes have not done so because we have been too cautious to stray from the trodden path. In Sri Lanka, central banking theory assumes that regulating and stabilizing the flow of money and credit, will somehow increase the flow of goods and services.

The conventional role of central banking when simply conceptualized is: Central Bank controls commercial banks’ reserves and the Bank Rate to influence the nation’s money supply.

The lower cost of credit and greater availability of credit influence investment spending and capital formation, leading to more employment and more income; thus the wealth of the nation is enhanced. I do not disclaim that regulation of the banking and financial system, in the sense of the simple transmission of orders is useful to maintain a semblance of order. It makes everybody believe that something is being done to correct imbalances, but whether it will ease the country toward the full employment of its productive resources, land, labour and capital is highly debatable. It is my contention that by attempting to stabilize prices and money supply in the context of a developing economy, the central bank may even hinder rather than assist the process of economic growth. As I see it, because of so many bottlenecks that characterize underdevelopment, a developing economy puts pressure on prices, balance of payments and so on, as it moves toward the fuller employment of it productive resources.

When operating, as it should, the central bank in a developing economy must move it toward the full employment of all its resources by helping to initiate the production of goods and services. More important than financial and price stability is the initiation of entities called firms so that there is plenty out there to stabilize and put in order.

It is my contention that we have not achieved double-digit economic growth because we have neglected innovation and entrepreneurship in financial planning and economic policy making not realizing the importance of both in the development of the western eonomies.

Neglect
The attributes of small-scale agricultural production were officially promoted even by the Central Bank. We sponsored a small network of rural banks to assist small peasant farmers. In the context of Ceylon where the average holding outside the plantation sector was small, the characteristics of underdevelopment were unwittingly perpetuated by the government in the many decades that followed independence:Output per capita remained small, surplus generated in the rural agricultural sector was small, and technology used in that sector was unsophisticated. We neglected occupations such as jewelry making, blacksmithing, woodcarving, ivory and bone carving, and jaggery making.

Rather interestingly, those Sri Lankans with an entrepreneurial bend of mind are the poor.

They are entrepreneurs who, because of their poverty and few options, are compelled to exercise ingenuity, creativity and resourcefulness just like entrepreneurs in the west. However, their resources and capital investment are meager; often a shed by the roadside and within, a few tables on which they display their stock-in-trade.

In 1992, I bought a beautiful tablecloth from an old woman who was standing outside Laksala. It is still admired by my guests, but she had only one to sell. Most Sri Lankan entrepreneurs operate at subsistence level; they aspire to earn a small target income sufficient to feed the family barely and to keep a flimsy roof over their heads.

Subsistence entrepreneurs
They do not have the capital to expand their business; I shall describe them as subsistence entrepreneurs.

In Sri Lanka, the Central Bank is looking down from up above. For decades the Bank has put policies in place that it hopes will impact the macro-economic variables to move them in the desired direction. However, macro-economic variables such as Gross Domestic Product and exports are aggregates, and I do not believe that a government agency has the power to change them in the desired direction, from less growth to more growth while focused on stability. In my opinion the major obstacle to development is the lack of an entrepreneurial force, the absence of incentives for the emergence of an entrepreneurial class, the lack of financing for the sustenance of the indigenous entrepreneurial class, and its limited access to markets, both domestic and international.

The poor presence of the corporate sector may be gleaned from the report of the Central Bank that at the end of September 2005, all debt instruments in the debt market totaled Rs.962 billion of which government securities amounted to Rs.949 billion or 99 percent, while corporate debt accounted for a measly 1 per cent. I do not know what satisfaction the Central Bank of Sri Lanka can gain from this fact that corporate debt has not increased the stress on financial events; stability we have, but at what price?

Challenge
I challenge the Bank to do what it takes to cause the highest penetration possible by the corporate sector in the debt market; let the Central Bank aim to achieve a fifty-fifty split between government and corporate debt; if it succeeds we will have more capital formation and more corporate activity.

Why has so little been done so far to energize the private sector? Why has there been disconnect between the macros and the micros for so long? Why has the theory of the firm that is critical in employment creation, income generation, and production of goods and services been omitted from central banking policy making discussions? Why have we failed to establish a framework within which firms can flourish and grow?

The theory of the firm is private enterprise and it is associated with capitalism, a word we economists learned to despise in the University of Ceylon.

We were committed to social justice and the distribution of the output mostly from public ‘enterprise.’ We nationalized the tea estates, the only vigorous and buoyant sector of our struggling economy. We, including myself, cast the entrepreneur in the role of an exploiter. Today, the capitalist system has snuck in through the back door, but we treat it as we would a stepchild.

In Sri Lanka, the middleclass who has disposable income to set up in business educate their children to function as civil servants; only those who are denied admission to the several institutes of higher learning are encouraged to become entrepreneurs. Our culture does not place a high value on being your own boss.

The environment does not support or promote entrepreneurship. Quite often children from middle class families are too protected and therefore they do not develop the psyche of entrepreneurs. Few among our youth know how to swim in the turbulent seas surrounding our country; perhaps many do not know how to swim at all.

Shift focus
In my lecture I urged the Central Bank to play a unique role in our economy by initiating and instituting the changes I have described. By shifting its focus from mainly macros to the micros also, including the theory of the firm in its purpose and functions, and shifting some attention from the financier to the entrepreneur, the Bank will help create the corporate culture and the supportive environment for business formation.

Successful intervention to promote entrepreneurship requires as much skill and insight as are needed to regulate the financial system, but look at the outcome: more growth, production and employment.

Entrepreneurship innovates and creates; it creates supply by bringing products and services to the market, and creates demand for those products and services by providing employment.