Economic imperatives post 8 January

Tuesday, 6 January 2015 00:57 - - {{hitsCtrl.values.hits}}

By The Ceylon Chamber of Commerce Background Since the end of the conflict in 2009, Sri Lanka has achieved economic growth above 7% on average and a relatively stable macro-economic position. Inflation and interest rates have been low, fiscal deficits have been steadily reduced, balances of payments have been stable, and investment in infrastructure has increased. However, household incomes have not kept pace with GDP growth. As per the Household Income and Expenditure Survey of the Department of Census and Statistics, inflation adjusted per capita monthly income has increased from Rs. 6,411 in 2006/07 to just Rs. 6,953 in 2012/13. Therefore, a key objective over the medium term must be to ensure more robust growth of incomes at household level along with broader economic development. Economic growth must be broad-based, and not limited to a few narrow sectors that benefit only some segments of society. Whilst overall unemployment is at a historical low of 4.4%, youth unemployment remains significantly higher at 19.1%.

Furthermore, as a small nation of 20 million people, achieving the country’s full economic potential and sustaining growth over the long term will depend on its ability to build a robust export led economy. To achieve these ends, the country requires reforms to enhance its competitiveness and productivity. Considering the above, we make the following recommendations and remain committed and ready to contribute to the progress and prosperity of our nation. 1.Focus on exports, FDI and competitiveness Whilst post-war growth has largely been infrastructure led, going forward it is necessary to focus on an exports and FDI led growth strategy. Diversifying Sri Lanka’s basket of exports and export markets is essential. Export oriented investment – both local and FDI – will be an important avenue to create productive and remunerative employment for Sri Lankans. A focus on FDI will reduce dependence on foreign borrowings, enhance access to foreign markets and facilitate transfer of technology and management skills. In this connection we recommend the following: nA predictable and competitive exchange rate to provide confidence to exporters in particular and the business community in general.

Develop deeper economic ties with India beyond the current FTA and complete the proposed FTA with China. Similarly, Sri Lanka should seek greater market access to countries in the wider Asian region where dynamic supply chains are located and consumer markets are vibrant.
nSri Lanka’s thrust towards exportable services as articulated in its 5+1 hub strategy is both encouraging and challenging. Sri Lanka would thus compete with world class hubs such as Singapore and Dubai. These hubs are open to foreign factors of production and to compete effectively Sri Lanka too would have to gradually liberalise such markets to international competition and attract the best of global talent, including from amongst Sri Lankan professionals based overseas.
Import substitution may have merits in the short term. However, in the longer term, insulating sectors from competition results in a lack of innovation and undermines productivity. Sri Lanka should not allocate resources to sectors where it is not competitive. Going forward, import substitution sectors should be gradually opened to international competition, resulting in improved choice and prices for domestic consumers. A gradual reversal of para-tariffs will help this process.
Link Sri Lanka’s foreign policy to its economic objectives. Develop good relations with all countries, particularly its major trading and investment partners. Engage professionals and career diplomats in Foreign Service positions. Enhance the resources of commercial offices attached to Sri Lankan Missions abroad to enable them to effectively support overseas business development for Sri Lankan firms. Staff overseas commercial offices with qualified local staff who will help break linguistic and cultural barriers and create robust business networks for Sri Lankan exporters.

2.An attractive investment climate Sri Lanka’s limited internal market offers less potential for profitable returns when compared to countries such as Vietnam, Myanmar, Thailand, Bangladesh, Indonesia, etc. Further, exploitable resources are also limited. Thus, the investment climate is one of the few assets the country could leverage in order to attract FDI. Therefore Sri Lanka’s business environment must be perceived as more efficient, attractive and predictable than its competitor countries. Such an investment climate will also encourage local investors including the SMEs. In this context we recommend the following:

Consistent, transparent and predictable policies, which limit room for subjective discretion are crucial to build confidence and draw investors to Sri Lanka. A fully empowered, professionalised, Board of Investment – which must also perform the role of a true ‘one-stop shop’ – will play a crucial role in attracting investment.
A vibrant, structured and robust process to consult key stakeholders in policy formulation. An inclusive process will lead to a shared vision and drive stakeholders towards shared national goals. A regular, formal dialogue between relevant public sector institutions – especially the Ministry of Finance – and the Business Chambers will form a vital component of such a consultative process as will be the publication of ‘White Papers’ on important policy initiatives.
Ease of doing business is an essential pre-requisite. This requires effective coordination between the public and private sectors with the former playing the role of facilitator. Further, the public sector needs to be appropriately empowered to play this role. Sri Lanka must reach ‘top tier’ status in global rankings such as the Doing Business Index, Global Competitiveness Index and Economic Freedom Index. A suitable mechanism with public and private sector participation should be created for this purpose. Further, a smaller number of ministries will help improve the business climate since it will lead to efficient service delivery, lower transaction costs and clarity amongst investors.
Ensuring property rights and sanctity of contracts are secure, as it’s a non-negotiable requirement of investors, be they local or foreign.
Base energy prices on a transparent formula linked to global market prices with adjustments being made at pre-determined intervals.

3.Factor market reforms As Sri Lanka moves from labour intensive activities to greater capital-intensive investments, reforms are required to align factor markets with the country’s development needs. mLand:

Create an inventory of land available for development and investment and link it to the one-stop shop referred to previously. This will help investors and improve ease of doing business in Sri Lanka.
Permit Sri Lankan incorporated, foreign controlled, businesses to acquire land subject to a minimum investment threshold and BOI approval with a specific exclusion of residential purposes (other than apartments).

Education and Skills:

It will be impossible for Sri Lanka’s households to benefit from improved investment opportunities if skill levels in the economy are not sufficiently developed. Furthermore, it will be difficult to attract investment without the relevant skill availability. In this context, education is the most important of all investment and public service priorities.
Link skills development, especially tertiary and vocational education and training to an export led growth strategy.
Sri Lanka’s education system at all levels continues to be examination based and focused on the transfer and retention of knowledge. The labour market in a knowledge economy, that Sri Lanka aspires to become, is one where emphasis is on the ability to think in an independent, critical manner whilst challenging norms. An education system that fosters creativity is a prerequisite for developing an innovation oriented work force. The Science and Technology policy must be strengthened to encourage innovation and research.

mLabour: The current labour laws are a disincentive for the expansion of local businesses and for foreign investment. Current laws incentivise unprotected part-time and casual employment as well as growth of the informal sector whilst dis-incentivising the creation of sustainable, productive permanent employment. With unemployment is currently low, reforms to improve flexibility in the labour market should be initiated. This will stimulate productivity and encourage development of both formal employment and the formal sector. This in turn will be more supportive of an aging population which requires more formal income streams and safety nets. Capital: The measures taken in recent years to deepen capital markets - both the corporate bond market and equity market - are positive. Going forward, a gradual liberalisation of capital markets could be considered. 4.SMEs Small and Medium Enterprises (SMEs) are the backbone of a developing economy and is thus an important sector. We recommend the following to develop this sector:

Promote alternative sources for SME capital including venture funds, private equity, and other forms of capital market development that is supportive of SMEs.
Link SMEs to larger enterprises to enable greater access to markets and other spill-overs such as knowledge and technology transfer, financial stability, etc.
Rationalise the multitude of institutions tasked with regulating/ providing services to SMEs in order to facilitate ease of doing business.

5.Infrastructure nAn institutional mechanism for promoting investment into the new transport and integrated hub in Hambantota – on the lines of Penang in Malaysia – to make best use of the new port and airport in the district. nCloser scrutiny of new infrastructure projects to ensure cost effectiveness, viability, etc., and also better assessment of priority areas prior to investment.

Encourage greater private participation in infrastructure projects. For this, there must be robust and transparent PPP mechanisms, with necessary legal frameworks in place to ensure a level playing field for investors as well as protection for national assets. This will help ease pressure on Government finances and public debt, as Sri Lanka’s infrastructure needs will only continue to grow.

6.Agriculture

At present, 30% of Sri Lanka’s labour force is engaged in agriculture, but the sector accounts for just 10% of GDP. This indicates a lack of productivity in the sector, which in turn leads to lower incomes accruing to its workers. It is necessary to gradually encourage greater competition within agriculture, so that resources are allocated to sectors where they are most productive. For instance, significant value can be derived by linking with global supply chains in segments such as high value added spices, processed fruits and vegetables and rice and rice based products.

7.Welfare and income transfers

Sri Lanka’s prevailing welfare programmes entail a number of market price distortions such as minimum prices, subsidies, etc. which result in sub-optimal allocation of resources to uncompetitive sectors. It is necessary to transition towards income transfer based re-distribution albeit without political bias. The administrative costs of such policies are now significantly lower due to advances in information and communication technology (ICT).

8.Public services and State enterprises Commercial activities should be the domain of the private sector. In the very few instances where the public sector needs to be involved (e.g. strategic security interests):

It should still be subjected to private sector competition on an equal, market driven playing field to ensure competitiveness and productivity.
Create accountability in management and link employment benefits to performance.
List minority stakes of such enterprises on the Colombo Stock Exchange. This will result in improved accountability and transparency and also benefit liquidity in the stock market.

9.Governance Institutional quality and governance including the rule of law and independence of the Judiciary are essential elements of a vibrant investment climate. These are essential pre-requisites to provide equal opportunities and a level playing field to all investors. On the other hand, an excessive concentration of political power is detrimental to long term economic outcomes. In this context we recommend:

The full implementation of a further strengthened 17th Amendment to ensure the independence of the Judiciary, law enforcement, public sector and other key public institutions.
Introduce a Right to Information Act.
Competitive procurement procedures across the board to ensure quality of suppliers, reasonable costs and transparency of contracts.

10.A tolerant, harmonious and inclusive society that celebrates diversity Sri Lanka must embrace diversity and value the benefits it brings to society. From an economic perspective, a harmonious and inclusive society is essential to sustain the growth and development scenarios being proclaimed by all political parties. Further, diverse cultures help foster creativity and innovation which are essential for success in the global economy. Above all else, Sri Lanka’s long term stability and security will be ensured only when all communities perceive an equitable stake in the Country and come together under a shared National vision. Under the circumstances we recommend the following: nUndertake as a top priority, a bipartisan approach to reconciliation and inter-faith measures together with a visible and structured political dialogue. In this connection the implementation of the LLRC recommendations will be a good initial step. nAppropriate and urgent measures to address the ethno-religious issues that have been emerging at a faster pace since 2012, before they worsen and become uncontrollable. Failure to do so could de-rail all the progress that has been made in the post-war era.