continuous domestic inflation is a sign of a central bank ’ s failing to fulfil its primary obligation to the community. the new role of auditors of a central bank the central bank auditors, both internal and external, have for long confined themselves to the financial type of auditing of the operations of a central bank. the objective of this auditing is to identify whether a central bank has complied with the set - financial rules and procedures, whether there are irregularities or malpractices in payments or recording transactions or whether frauds have taken place in the operations of a central bank. internal auditors report on these aspects to the top management of a central bank, while the external auditors do so to alert both the management and the legislators. such compliance auditing is necessary and useful, but not sufficient to gauge the risks faced by a central bank and, accordingly, to take early prescriptive measures. a central bank may operate quite perfectly with regard to its internal procedures and systems. the accounts of a central bank may have been prepared having compliance to the best accounting standards. the external auditors may have given an unqualified certification to a central bank ’ s financial statements. in the eyes of the public, a central bank may have been projected as a model institution to be emulated by others. yet, all these salutary features which pertain to a central bank ’ s past or current actions may hide the major risks it may be facing with regard to its future operations. it is the duty of the auditors to dig out these risk aspects and alert the management and, if necessary, the legislators, before it becomes too late to take any prescriptive measures. this poses a daunting challenge to the auditors of a central bank. a central bank, with its unrestrained resources, may have staffed itself with the best technical talents in the main field of its operations. auditors are now required to assess their work and make judgments about the adequacy and the consequences of such work. in doing so, they should exert utmost care not to make wrong or spurious judgements and give false alarms about an impending catastrophe in a central bank. to do their job effectively, auditors should be more knowledgeable of the technical side of the operations of a central bank than its internal technical staff. moreover, they should arm themselves with knowledge of how other central banks are operating, how some central banks had got into difficulties due to irresponsible behaviour

foreign exchange swap arrangements which cbp entered with domestic banks ; losses which cbp had to bear on account of providing forward cover for exchange risk involved in international borrowings of domestic corporations and interest rate losses arising from higher out - payments on foreign loans and central bank ’ s own securities than domestic interest earnings. the swap arrangement was a mechanism used by the cbp to boost its dwindling foreign reserves. when cbp lost its ability borrow abroad due to the continuously experienced balance of payments deficits and cbp ’ s refusal to allow the currency to depreciate, it got the state banks and private corporations to borrow abroad under a guarantee by the government and swapped pesos for the foreign currency loan proceeds. in the process, cbp assumed the exchange rate risk at the time the swap was reversed. though this provided a temporary relief to cbp in the form of an augmentation of gross foreign reserves and a higher import cover adequacy, it forced cbp to take a huge loss amounting to 31 billion pesos during 1983 - 90 on account of exchange rate risks. at the same time, the use of the foreign exchange balances so acquired for defending the currency led to an undue reserve risk by converting the foreign assets to a net negative position and forcing cbp to borrow abroad to settle its liabilities. the forward cover was provided by cbp to local corporations, especially the oil corporation, by guaranteeing the exchange rate when they borrowed abroad in the wake of the balance of payments crisis. when cbp had to relax its grip on the exchange rate from time to time due to the non - availability of reserves, the forward covers given by cbp resulted in massive losses. the total of such losses for the period 1983 - 90 amounted to 20 billion pesos. there have been a number of central banks which had become insolvent due to the erosion of capital. for a survey, see, kazuo ueda, “ the role of capital for central banks ”, the text of speech delivered at japan society of monetary economics on 25 oct 2003. www. boj. or. jp. a lucid description of the events that led to cbp ’ s insolvency is given by mario b lamberte in central banking in the philippines : then, now and the future discussion paper series 2002 - 10, philippine institute of development studies. various annual reports of the central bank of the philippines. the author is grateful to deputy governor of bs