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Friday, 18 July 2014 00:03 - - {{hitsCtrl.values.hits}}
By Cathrine Weerakkody
Q: The huge reduction in interest rates has in many ways helped the Government reduce its borrowing cost. However the two million people who live on fixed income have seen their income drop by over 50% in six months. What were the key factors that led to the decision to reduce interest rates?
A: The pace of increase in general price levels, as reflected by the rate of inflation, is the main factor in determining the interest rates of any country. In an environment where inflation is high, the interest rates are maintained at a higher level, whereas in a low inflation environment, interest rates are adjusted downwards. In the past in Sri Lanka, due to inflation being at high levels, the lending and deposit interest rates were at high levels. However, during that period, although a depositor would receive a higher interest income due to high interest rates on deposits, the real gain to such depositor was diminished due to the high inflation environment, which absorbed a substantial portion of the gains from the deposit interest.
As is now well known, Sri Lanka has been able to maintain low levels of inflation for well over five years. As a consequence of the continued low levels of inflation, the interest rates too have adjusted downwards. As a result of the lower lending interest rates, investments and economic activity in Sri Lanka have been stimulated and the people of the country are expected to reap the benefits of these conditions in the medium to long term.
"Sri Lanka has been able to maintain low levels of inflation for well over five years. As a consequence of the continued low levels of inflation, the interest rates too have adjusted downwards. As a result of the lower lending interest rates, investments and economic activity in Sri Lanka have been stimulated and the people of the country are expected to reap the benefits of these conditions in the medium to long term
The measurement of inflation is done by the Department of Census and Statistics (DCS) in a professional and scientific manner, based upon consistent surveys and other internationally accepted practices. I am satisfied that the methodology applied by the DCS is consistent and scientific, and in fact their figures are accepted by all international agencies. Of course, the politicians from the opposition would have been happier if the inflation figures were higher and the economy showed signs of stress, because that would be to their advantage
Sri Lanka’s growth has been carefully planned and nurtured and the sustainability has been assured through these strategies. We have opened out our economy to enable investments to enter the economy through several convenient channels into both government sector and the private sector. These channels are now effectively in place and investments can now flow with minimum bureaucratic controls. At the same time, we have diversified our economy into new areas, on a planned basis
It is also likely that Sri Lanka could move towards a per capita income of more than $ 7,000 by the year 2020, and towards that goal, we are now well on track
The consolidation process was decided upon as a major thrust economic policy measure for 2014. It is vital that the financial sector is strong and stable so that it could support the real economy on a sustained basis
It is essential that the current policy thrust and directions be continued uninterrupted, so that the major economic transformation that was commenced in 2006 could be realised in great measure to the satisfaction of all future Sri Lankan generations"
At the same time, although year-on-year inflation has decreased to 2.8% and the annual average inflation has declined to 4.9% in June 2014, the one to five year fixed deposits offered by various licensed banks and non-bank financial institutions still carry comparatively high deposit interest rates ranging from 7 to 13%. Further, the Government Treasury bills and bonds also offer attractive yield rates ranging from 7 to 12%. In addition, debentures issued by companies in 2014 have been at relatively high interest rates, ranging from 11 to 16%. In this context, when the deposit interest rates and inflation are considered, it is clear that Sri Lankan depositors currently enjoy one of the highest real interest rates in the world.
In the meantime, the current environment has also provided a timely opportunity for the introduction of new annuities, pensions and insurance schemes that provide relatively high benefits to senior citizens, in the medium to long term. Considering this opportunity, the Central Bank has already initiated several rounds of discussions with the relevant banking and insurance institutions, and already, new superannuation schemes yielding reasonably high gains, are being introduced by these institutions. This would further address the current challenges faced by citizens who rely on interest income.
Q: Moving on to exchange rates, what are the reasons as to why you say that the Sri Lankan Rupee is currently one of the most stable currencies in the world?
A: From 1977-2005, the Sri Lankan rupee depreciated at an average of 9.9% each year. During the past eight years, from 2006 to 2013, this massive depreciation was reduced by two-thirds and the average depreciation was checked at 3.3% per annum. In contrast, from about August 2013, the Sri Lankan rupee has recorded a gentle appreciation of almost half a percentage point. Hence, over the last one year, it is clear that the Sri Lankan rupee has been functioning as one of most stable currencies in the world, with its volatility being at very low levels. In this background, our exports have soared, imports have remained at reasonable levels, the external account has shown a remarkable buoyancy, and the balance of payments has recorded a comfortable surplus of around $ 1.5 billion. As a result, our reserves which were only around $ 2 billion in 2005, have now reached a level of around $ 9 billion. All these developments indicate that our exchange rate stability is based upon sound macro fundamentals, and therefore, we can be confident that this outcome is now at a sustainable level.
Q: Is the movement of the Sri Lankan Rupee driven by supply and demand or managed by the Central Bank?
A: The main drivers of the value of the Sri Lankan rupee are the supply and demand of foreign currency, and the quantum of foreign reserves. Nevertheless, in the interest of all stakeholders, the Central Bank, as a policy, makes limited interventions to ensure that the volatility is reduced, since we still have a fairly thin foreign exchange market, and sometimes, sudden large inflows or outflows could materially affect the exchange rate in an undue fashion. This year, our interventions have been more towards absorbing fairly large foreign currency inflows in order that we build up reserves and to ensure that our export industry is supported with a reasonable exchange rate. The Central Bank has given effect to that appreciation trend, but at a reasonable pace, so that all stakeholders in our economy could adjust themselves to the emerging conditions. At the same time, the current stability in the exchange rate has not adversely affected the competitiveness of the Sri Lankan Rupee as we have been able to maintain domestic inflation in line or better than our competitors.
Q: The country is facing an increase in inequality; what is the Government doing to address this problem?
A: All economies face the challenge of dealing with inequality within different sections of its population, particularly at times when economic growth is strong. However, in the case of Sri Lanka, that situation has been managed reasonably well, and even with the very strong growth that has been witnessed, the gini coefficient of the country, which measures income disparities, has improved over the past several years. In addition, low unemployment has been maintained; poverty has declined sharply; and the contribution of all lagging provinces to the national GDP has shown a marked improvement. These factors show that the Government has been successful in dealing with inequality quite successfully, and I believe there have been several reasons for that favourable outcome.
First, there has been a major improvement in the road network in the country at national, district and village levels; second, the electricity coverage within the country has been increased from 74% in 2004 to 97% as of now; and third, there has been a major drive towards financial inclusion through the better delivery of loans to SMEs by banks and finance companies. A large number of major infrastructure projects are being carried out covering all provinces. I think we could be quite pleased with our progress at this point in time, and this is borne out by the fact that today, the success of the Sri Lankan financial inclusion model is being studied by many analysts all over the world, which shows that our success has been recognised globally as well.
Q: The Government released the inflation figures recently, which is one of the lowest since independence. But critics say that real inflation is much more than this. Your response?
A: The measurement of inflation is done by the Department of Census and Statistics (DCS) in a professional and scientific manner, based upon consistent surveys and other internationally accepted practices. There are more than 300 items of goods and services that are tracked by the DCS each week and month, in order to compile the CCPI. Obviously, every month, some of those items will go up in price, some will decrease, while others will stay unchanged. However, many of the critics who are often politically motivated, do not make scientific assessments of price movements, but merely highlight the absolute increase in prices whenever such increases take place. But they keep quiet when the prices of the same items come down.
I am satisfied that the methodology applied by the DCS is consistent and scientific, and in fact their figures are accepted by all international agencies. Of course, the politicians from the opposition would have been happier if the inflation figures were higher and the economy showed signs of stress, because that would be to their advantage. Therefore, they must be naturally frustrated by these current benign members, and that is probably why they seem to be keen to attack the compilation of the inflation numbers.
Q: Many claim that Government debt has gone up tremendously over the past few years and needs to be managed. Is this correct or has it really seen a drop?
A: As we all know, the indebtedness level of any person is generally measured according to his ability to pay the debt back. Therefore, the method usually employed to measure indebtedness is to examine the debt outstanding of a person in relation to the income of that person. Obviously, a person with a higher income could afford to have a higher debt level in absolute terms, while a person with a low income could only afford a lower level of debt in absolute terms. That is why the proportion or ratio of indebtedness to income is an excellent measure in assessing the debt of any person. The same is true with countries as well. Accordingly, there is an international norm whereby a country’s debt is assessed against its GDP, and such ratio is generally used as the key yardstick in determining the debt sustainability of a country.
In this background, if we look at Sri Lanka’s figures, we would find that in 2002 and 2003, the Sri Lankan Government recorded its highest debt to GDP levels, where that ratio was over 104%. Even at the end of 2005, when this Government took office, the debt to GDP level was nearly 92%. However, through prudent debt management and the careful management of the economy, we have now been able to bring down the debt GDP level to 78% by the end of 2013. This achievement is all the more salutary because it has been achieved at a time when the Government has been making massive investments in infrastructure, and also while global economic conditions have been extremely hostile which has resulted in the debt to GDP levels of many countries increasing to alarming levels. So, it is evident that Sri Lanka’s debt and fiscal policy has been managed prudently and professionally, and that we have been able to move towards sustainability on a gradual basis.
Q: Sri Lanka has achieved unprecedented growth over the last two years. What is driving that and can we sustain these growth levels?
A: Sri Lanka’s growth has been carefully planned and nurtured and the sustainability has been assured through these strategies. We have opened out our economy to enable investments to enter the economy through several convenient channels into both government sector and the private sector. These channels are now effectively in place and investments can now flow with minimum bureaucratic controls. At the same time, we have diversified our economy into new areas, on a planned basis. In 2006, our economy was mainly focused on the plantations and the apparel industry, with limited contribution from gems and jewellery, tourism and other traditional services like banking, insurance, transport and construction.
But, today, we have been able to position our economy with new growth drivers in the form of the now well-known five hubs: maritime, aviation, energy, knowledge and commerce. These have been supplemented by the significant renaissance in tourism, and we have seen all these sectors providing a great thrust to the growth momentum of our economy. In addition, we see the health and education sectors also making rapid advancements, together with the workers’ remittances from the employment of Sri Lankans abroad. As a consequence, we see the Sri Lankan economy reaching a diversified stage, which would allow it to better absorb any external shocks in the future.
Considering all these factors, we could be optimistic that our growth levels could be sustained, and that we could seamlessly overtake the middle income trap which has affected many countries in the world. It is also likely that Sri Lanka could move towards a per capita income of more than $ 7,000 by the year 2020, and towards that goal, we are now well on track.
Q: There has been so much discussion around the hub concept. Some say we should focus only on one or two for maximum impact and others say the hubs are all interconnected. Where would you put your effort if you had to make a choice?
A: The hubs that we have initiated are not in competition with one another. We are also not expecting all these hubs to progress at the same pace, every year. The growth of the different hubs would be different from one another, and certain hubs may overtake others in growth in certain years. Also, some hubs may blossom a little later than expected, and perhaps become very vibrant drivers after an initial slow start. In all this, what is important for us to realise is that each of these five hubs have been selected because the country has the inherent strength and comparative advantage in each of those areas. No one can dispute that.
It’s like selecting new stars to nurture, so that those become the cash-cows of the future, in the case of a company. In the same way, a country must also select certain economic activities which could grow in time, and the economic planners must gradually support those in order to develop a sustainable economy. Already, there are many stakeholders who are focusing on each of these hubs, and our people will see the massive benefits of this policy, in the foreseeable future.
Twenty years ago, the IT industry in Sri Lanka only generated about $ 20 million worth of economic activity. Today, it has arisen to record nearly $ 800 million, and is expected to surpass $ 3 billion in the next few years. In the same way, port and port-related activities are currently gathering a vibrant momentum. From a commercial view point too, Sri Lanka is experiencing many improvements which seem to be encouraging global companies to enhance their presence in our country.
In relation to energy, we have been able to ensure that there would be power 24x7 going into the next few decades, and the potential for the extraction of oil and gas off the shores of Mannar also seem to showing very positive signs. From an aviation point of view, Sri Lanka is professionally positioning itself towards serving the global aviation industry and our country location is now being increasingly recognised as being very attractive particularly in the context of the peaceful political environment we enjoy. Tourism, of course, is recording an unprecedented growth and our original targets are now well within striking distance, and we could now perhaps even more confidently support all these hubs so as to ensure that we have to truly diversified economy.
Q: The Banking and the Non Banking Financial sector is set to consolidate in the next few years. What will be the final outcome for the economy and the people?
A: The consolidation process was decided upon as a major thrust economic policy measure for 2014. This initiative will enable us to position our banks and non-bank financial institutions to be strong and stable, and to be ready to face the challenges in the context of the massive development that is envisaged in our country. As you know, it is vital that the financial sector is strong and stable so that it could support the real economy on a sustained basis. Therefore, we as regulators and economic planners, believe that through this initiative, the financial sector will have the ability to grow at a sustained pace as well as support the foundation of our economy.
Q: What will our economy look like in five years?
A: If we take the time horizon of 2020 and try to visualise the Sri Lankan economy, we would see a strong, stable, and sustainable economy.
Our debt to GDP level would be about 50%; the GDP would be over $ 150 billion; the per capita income would be above $ 7,000; inflation would be at the lower range of the single digits; economic growth would be at around an average of 8%; poverty would be less than 1%; unemployment would be at around 3%; our foreign reserves would be more than $ 20 billion; the Sri Lankan Rupee would have gently appreciated over the years; our productivity levels would have improved sharply and people would be working smarter and contributing more; Sri Lanka would be in first 20 countries in the Doing Business ranking; the country’s credit rating would be at an investment grade; the present day hostile UN Resolutions would have been withdrawn; the disparities that are now being seen in certain lagging districts would have reduced considerably; our people would be enjoying a much higher standard of living in all districts; the five hubs would have reached a reasonably mature level, with each of the hubs, together with tourism and the current drivers, contributing significantly towards the growth of the economy; our infrastructure would be at a significantly better level, and probably similar to what is currently prevalent in Malaysia; our ports and airports would be popular worldwide; our people would be having skills in many fields; many Sri Lankan conglomerates would be having an expanded regional and global presence; several Sri Lankan business tycoons would be travelling around the world in their own private jets; our tourism industry would be attracting over four million tourists; the Colombo skyline would have undergone a major change; our current construction boom would be still continuing. I could go on further but I think what I have described so far would give a reasonably clear picture of the likely conditions in 2020. All these outcomes would of course be contingent upon professional and sound leadership being provided to the economy and the country, and the maintenance of the consistency of policies, so that stakeholders could take a long term view in their economic activities and decision making. Therefore, it is essential that the current policy thrust and directions be continued uninterrupted, so that the major economic transformation that was commenced in 2006 could be realised in great measure to the satisfaction of all future Sri Lankan generations.
(The writer is a CIMA Graduate and a final year undergraduate student in the UK.)
