Sri Lanka is a ‘no danger zone’ now

By Cheranka Mendis

Sri Lanka, teetering on the brink of a crisis, just managed to save itself through the recent policy measures taken by the Government such as the exchange rate changes, said the Commonwealth Secretariat Economic Affairs Division’s former Director Dr. Indrajit Coomaraswamy yesterday.

Speaking at a forum on flexible exchange rates held by the Exporters Association of Sri Lanka (EASL), Dr. Coomaraswamy noted that even though the country is in no danger zone at the moment, failure to implement the recent measure of policy stances by the Government would have inevitably led to a major crisis in a short period of time.

“Sri Lanka would not have been able to finance its essentials such as imports or meet foreign obligations. The authorities need to be commended in this regard.”

Noting that there was a perfect storm generating in terms of external development and misaligned policies which led to the changes, Coomaraswamy asserted that if the country was in crisis, it would have had to rely on the mercy of markets, which is significantly different from the concessionary bailouts as in the past.

“In the last 10 years Sri Lanka came close to three crises, but was bailed out with concessional money, which we received as a low income country. We are no longer eligible for the same amount of concessional monies; in fact we are eligible for very little now with the new status as a middle income country. So if Sri Lanka gets into trouble, it is at the mercy of markets.”

He noted that with the market environment posing different challenges in comparison to concessional monies, he noted that if it had not been prepared, the country could have been severely burnt in the process.

Despite being back on track, the next 12 to 24 months will be a tough for the country, he said, adding that this is likely to have a negative impact on investment, growth and employment.

While a short term dip is to be expected due to the changes in the exchange rate, it will work against growth and employment in the short run.

“However, provided we get the policies right and sustain the adjustment and stabilise the economy and at the same time strengthen the growth framework and investment climate through the unfinished agenda in terms of reform of factor and product market, education and training skills and strengthen policy making in terms of predictability and existence of policy and all red tape agenda and the stabilisation, then in my view, Sri Lanka will have no major drags.”

He noted that the country had a backlog of adjustments that had not taken place in the past, which was one cause for it to lose competitiveness in the market and lead it to the state it was in before the adjustment.

When the exchange rate is said to be overvalued by 25% and is aggressively reducing interest rates and with the easing monetary policy, it is inevitable that an expansion of credit and surge of imports will take place.

Sri Lanka’s key policy rate Repo rate was reduced by approximately 300 basis points between 2009 and 2010. Moral suasion was used for banks to lend aggressively, as a result of which over 30% credit growth took place. “The situation was compounded because the physical consolidation trajectory that was hoped for was not achieved.”

He noted that the target for the budget deficit for 2011 is likely to be 7.8% even though the target was 6.9% exclusive of the losses in CEB and CPC, which together amount to some Rs. 140 billion.

A former Deputy Governor of the Central Bank, Dr. W.A. Wijewardena said: “Final accounts of the Petroleum Corporation in 2009/ showed Rs. 24 billion in losses. In 2011 the losses were recorded at Rs. 90 billion and in 2012, even with the fuel adjustment, the loss will come down to only Rs. 63 billion.”

He noted that in the case of Ceylon Electricity Board too, the projected loss was Rs. 63 billion prior to the 40% fuel surcharge. SriLankan Airlines’ 2012 projection is Rs. 12 billion in losses while Mihin Air expects Rs. 3 billion in losses.

“The Government will be made to adjust the fuel prices again,” he warned. “The risk here is a secondary fuel price increase, which we will have to learn to adjust to.”