The ideal election result for sustained investor confidence

As the days come closer to one of Sri Lanka’s decisive and unpredictable general elections, it appears that the polls are showing a close tussle amongst the two main parties for the office of government.

A clear winner is bound to remove significant amount of political uncertainty in the near-term, over the ability of the government to govern and legislate. As a result, more investments should come through with the rise in investor buoyancy.

The economy is a complicated system with many moving parts. It is also not clear which factors of confidence drive the separate parts of the economy. The ideal election result that brings forth political stability that would pave the way for sustained domestic and foreign investor confidence over the long term for the economy would hinge on the following:

• Re-emergence of political stability through a strong stable government
• Measures taken to boost economic growth
• The assurance of policy certainty
• Fast tracking the reconciliation process to formulate an equitable solution to relieve the grievances faced by all communities
• Successfully concluding the cases on human rights accusations
• Unbiased foreign policy, free and fair election
• A country free of narcotics, protection of property rights
• Less bureaucratic investment process

Further, regaining the GSP+ concessions and lifting of the European ban on the fisheries industries will also be a significant boost to the relevant industries.

Markets hate uncertainty, but the uncertainty seems to be of little concern for some investors as the stock market has continued surge during the past few weeks. As we all know the present political spectrum could indeed be quite challenging and it can ascertained that the market may not be pricing that yet, especially amongst the local investors. Despite this, the election jitters to an extent has affected some foreign investors, as witnessed recently with them exiting their positions in fixed income instruments and equity.

Another cause for the exits has been the prevalent low interest rate environment coupled with the possible increase in interest rates by the Fed. This has exerted significant pressure on the exchange rate that had been held constant with the foreign exchange sales by the Central Bank to defend the currency.

Political stability is an important ingredient in building investor confidence and that’s why this Monday’s election is decisive. It appears that the victory of President Sirisena in the January Presidential election has caused two effects in creating a degree of political instability. The first is the low probability in the formation of a stable government by neither of the two main political parties.

The second is the shift in the floating centrist voters towards the United National Party (UNP) and other political parties such as the Janatha Vimukthi Peramuna (JVP). As many pundits still seem unclear of the weighing of the possible make up of a new coalition government led by either the UNP or UPFA that could sustain resilient investor confidence for the long term, in the event neither party obtains a majority.

Investors require unity in decision making amongst the Executive and Government. Without a proper consensus, decision making will be arduous which could result in dismay. Also a weak relationship between the executive and government could cause prolonged uncertainty, something Sri Lanka cannot afford at this juncture.

This was eminent during the period between 2001 and 2004, when President Kumaratunga was the Executive President in the UNP led Government. The recent disparity amongst President Sirisena and Former President Rajapaksa indicates that the victory of the UPFA in the general election would produce a similar phenomenon that would move the country towards unstable times which could transcend into a snap election adding to despair. Therefore, it is clear that the UNP has the edge going into Monday’s general election with possibility of forming Government led by Premier Wickremesinghe.

In the near term, the clarity delivered in the election by the victory of a party advocating a social market economy, will boost business activity as households and businesses can take investment decisions with greater certainty over tax and regulation.

The UNP will also aim draw investors to build industries to create the million jobs they have promised in their manifesto. The first of which has already been initiated with Volkswagen entering Sri Lanka with investment of $ 30 million to set up a vehicle assembly plant. The Google Loon Project has also been a needed addition, with Sri Lanka set to become the only country in the World with internet access throughout the country. More focus will draw in building a knowledge economy and create an equal playing for prospects on all major projects adding to the transparency and credibility.

Looking further out, the projected election results alone would not result in an ideal investment environment. The Present UNP government created an unsustainable consumption led boom through the increase in salaries and the reduction in the prices of essential goods. Also, liquidity has been pumped in, to artificially keep the interest rates low. The present policy framework has meant that Sri Lanka has a high probability of running into a balance of payment (BOP) crisis quite soon unless a sharp adjustment is made through a rise in interest rates and the depreciation of the currency.

With Premier Wickremesinghe promising more spending for the Free National Health care and education, vowing not to increase taxes and burden the citizens, it makes it even more important for the government to find those efficiency savings and clamp down on tax evasion if fiscal targets are to be met. The fiscal deficit remains high, while the current account deficit has also widened, highlighting a lack of domestic savings relative to domestic consumption growth.

The widening of the current account deficit coupled with the exit of foreign investors, has created an adverse situation on the BOP that would need resolving through a spike in interest rates or a currency devaluation.  This measures are bound to deter the growth of the economy. However, the exports are bound to gain as a result bringing the much needed relief to the current account. In addition, more foreign investments can retain within the country while drawing more foreign investments.  

[The writer is the Assistant Manager – Capital Markets at Candor Equities Limited Sri Lanka. He has a   BEng in Chemical engineering Honours degree from University of Nottingham, United Kingdom and a MBA from University of Colombo. He is also a Chartered Financial Analyst. He can be reached via email on [email protected]. The views expressed in the article are solely of the writer and do not constitute an opinion of the company.]