india as well as states while considering fiscal responsibility legislations. the point of harmony between fisc and monetary policy is, therefore, well taken and i would stress, on the basis of our experience in india, the value of coordination between fiscal and monetary authorities in matters of structural transformation, specially legislations relating to the economy. thirdly, on the emphasis placed upon the tool of short - term interest rate, the real interest rate is, in some ways, an outcome of policy implementation in containing inflation expectations. shifts in inflation expectations are indeed the proximate cause of the changes in the mean level of inflation and the policy makers do, therefore, focus on maintaining credibility by carefully monitoring inflation expectations for any indications that they are rising. this forward - looking approach has helped india in bringing down inflation rates from over eight per cent to about four to five per cent in recent years. there is also a need to recognise the importance of inflation perceptions. in other words, if the prices of commodities, which are purchased frequently, rise, the perception of inflation would be different from say, a rise in the price of television set. while recognizing the overlap, the distinction between inflationary expectations and inflation perceptions in the context of inflation policy is worth bearing in mind. for example, inflation perceptions tend to harden if prices of frequently purchased goods increase. there is an interesting issue here on delicate distinction between monitoring and influencing inflation expectations on the one hand and giving forward indication on the other. in practice, it is a delicate task to make such distinction but it is critical to bear such a distinction in policy - making and communication. as governor mervyn king eloquently argued in his speech yesterday at the lord mayor ’ s banquet in the city, there are dangers of a central bank trying to give forward guidance in this highly uncertain world. governor king said, “ the monetary policy committee ( mpc ) reaches a new judgment each month, made afresh in the light of all the new information about the prospects for inflation. we don ’ t decide in advance. so trying to give direct hints on the path of interest rates over the next few months risks deceiving financial markets into believing there are definite plans for the next few months when no such plans exist ”. in fact, the fed announced a few days ago that chairman ben bernanke had established a subcommittee to examine a number of communications issues. more generally, the appropriateness of a central bank doing the thinking on course of markets for the market -

development. what will the exchange rate do? under the floating exchange rate regime, the sri lankan currency can no longer be regarded as a steadily and continuously depreciating currency. with the maturing domestic foreign exchange market, the exchange rate is now more responsive to, and determined through, market forces of supply and demand, while the intervention by the central bank is limited to mitigate excessive volatility in the market and to build up official external reserves. the stabilization of the sri lanka rupee utmost underlines the need for the export and import competing sectors to focus more on productivity improvements and market access in order to maintain external competitiveness. instead of waiting for the exchange rate to depreciate and then for our businesses to become competitive, it is time for all of us to improve our productivity in whatever manner we can. the garment sector, i hear is trying to gain from higher productivity and also through cost efficiencies. how does inflation and productivity affect each other? increased productivity is an important prerequisite to achieve low and stable inflation levels in the long - run. the lower productivity allows cost increases that flow through to product prices and thereby raises inflation. therefore, the lower productivity growth thus represents a negative supply shock that generates inflationary pressures. in such context, it is necessary to pay due attention to improving the productivity in order to prevent potential inflationary pressure associated with high income arising from faster nominal growth and cost - push factors that raise the cost of production. the long run containment in inflation necessarily relies on containment of monetary expansion and increase in production in the country, particularly by improving productivity. as the central bank, what we can do? obviously we cannot produce goods or services for the consumption of the economy, but certainly we can create the right conducive environment enabling the country ’ s economic performance. why should the central bank be interested in productivity? our role is to maintain economic and price stability and financial system stability. we also provide necessary payments and settlement infrastructure. we advise the government in economic affairs and policy making, and we provide important agency services such as exchange control, public debt management, provident fund management and regional development activity. in all these functions, our mission is to “ contribute to sri lanka ’ s prosperity ”. at the same time, the central bank widely pronounces the theme of “ success through productivity ”. but, obviously this cannot be done by ourselves … the success through productivity needs a consolidated national effort. that is why