Rationale

Over the years, most particularly during the last half century, cross-border capital flows have played a significant role in promoting world economic development and contributing to world prosperity. The process was facilitated by progressive liberalization of exchange controls, first with respect to current account transactions, and later extended to capital transactions as well. International capital flows, however, are certainly a “mixed blessing”. Experience has shown that at times such flows can become highly volatile, exposing countries to financial crises and painful adjustment programmes. These experiences, in turn, have led to doubts about the wisdom of having open capital account regimes.

Sri Lanka liberalized its transactions on the current account only in 1994 when it accepted the obligations under Article VIII of the IMF. However, restrictions on capital account transactions continue to be in force. Limited facilities have been made available for private capital to flow in and out of the country on a restricted basis. Full liberalization of capital account transactions remain a contentious issue.

Objectives

This study discusses the rationale and prospects for liberalizing Sri Lanka’s capital account in the context of the emerging international and domestic economic environment. It examines the current state of exchange controls in Sri Lanka, and considers the preconditions for fully liberalizing the capital account. It recommends the need for a liberal capital account if the country is to overcome insufficient investment levels and accelerate economic growth.