The country is in the midst of a crisis in business confidence. The latest blow to business confidence was the takeover of 37 named business enterprises and assets under the Revival of Underperforming Enterprises and Underutilized Assets Act.
This Act has shocked the business community and eroded their confidence. Foreign investors will no longer view the country as a hospitable place for investment. Much needed foreign investment will no longer be forthcoming. Domestic investment too would be discouraged. A capital out flow is most likely. Already there are significant capital outflows from the stock market. The country's rating is likely to be downgraded and foreign investors would be dissuaded from investing here.
This Act is like a Damocles Sword over private enterprise. Assurances by the Central Bank that there would be no more takeovers under this act are not taken seriously. Only the rescinding of this piece of legislation, followed by a clear statement on the government's policy towards domestic and foreign investment could reverse the state of affairs. However, this is most unlikely.
Once business confidence is eroded, it is difficult to regain it. This happened in the 1970s when nationalisation of enterprises and the Business Takeover Act shut out foreign investment. It took a change of government to enact new legislation and follow policies conducive to investment.
The business takeover powers of the Revival of Underperforming Enterprises and Underutilized Assets Act are a serious disincentive to private investment. There is considerable uncertainty about what the government may do to private business enterprises. Investors require a certainty that their investments are secure and that they could make profits out of their investments. Now there is uncertainty about the safety of their investments. Consequently private investments are not likely to grow at a rate that will support a sustained growth path.
Other policies
It is not only this legislation that has eroded confidence. Several other policies have also eroded business confidence seriously.
Several economic enterprises that were previously privatised have been taken over by the government. The government is attempting to control the commanding heights of the economy by the state control of enterprises through government institutions taking over banks and other companies. The government now has control of several commercial banks. These policies have given rise to apprehension about the attitude of the government towards private sector business enterprises. The government's recent measures are likely to scare away foreign investment which is vital for the achievement of high rates of growth.
An important prerequisite for investment is the certainty of economic policies. Business confidence is influenced by political and economic stability, certainty in, and predictability of, economic policies. Specific economic policies such as tax and other incentives, labour regulations, work ethics, social and economic infrastructure and costs of production are important considerations.
An overall assessment of political and economic conditions, the guaranteeing of property rights, the rule of law and law and order are among the important prerequisites for developing a climate conducive for investment. These conditions were already in the breech when the latest blow was struck by the Revival of Underperforming Enterprises and Underutilized Assets Act. There is no economic rationale for this piece of legislation.
This uncertainty has come at a time when the economy was expected to sustain its growth at 8 per cent and when foreign investments were expected to flow in at a higher rate than before. Both these objectives are now jeopardised. The erosion of business confidence has affected potential foreign investment as well as domestic private investment as well.
Waste of resources
Apart from the erosion of business confidence and the likely disincentive to domestic and foreign investment, there are other serious repercussions on the economy. Public resources that are needed for priority sectors such as social and economic infrastructure would be spent on the "revival" of these enterprises. This is a task that the government is ill-equipped to perform.
Government business undertakings are notorious for making huge losses. Incompetence in management, overstaffing, waste and corruption characterise these public enterprises. Ironically most underperforming businesses are in the public sector. The recent report of the Parliamentary Committee on Public Enterprises (COPE) makes this very clear. It revealed that the government has lost an astounding Rs.10 billion from 2010 up to now due to the mismanagement, inefficiency and corruption at 24 state institutions. The government has now taken over another 37 enterprises that are likely to be white elephants. These resources could have been better spent on infrastructure development and poverty alleviation programmes. Decreases in production in these would affect the economy.
Impact on foreign investment
The impact of these on foreign investment flows would be a serious setback to the economy. Already there have been large outflows of foreign funds from the stock market. Very soon the country's credit ratings by international rating agencies would down grade the country. These will change the perception of Sri Lanka as an investment location.
This will be a serious stumbling block to economic development as foreign investment fills the savings-investment gap and contributes towards supplementing domestic savings with foreign savings to enhance its capacity for investment and thereby increase economic growth.
The quantum of foreign investment and the nature and type of such foreign investment determine the long term development of the country. Foreign direct investment also contributes to improving work ethics, discipline, skills and knowledge of workers. It is an important means of technology transfer and transmission of management practices. The country has once again lost the opportunity to attract foreign investment that could make these contributions to the country's economic development.
Many countries in Asia attract a large amount of foreign investment with China leading the world as the largest recipient of foreign investment. Their economic policies encourage private foreign investment. There is confidence that foreign investment would be guaranteed in these countries. In as far as Sri Lanka is concerned the climate for foreign investment has changed drastically owing to recent economic policies.
Summary
The recent nationalisation of previously privatised government undertakings, the control of private commercial banks by having controlling interests in such banks and appointing government nominees to the boards of these banks and above all the erosion of business confidence by the enactment of the Revival of Underperforming Enterprises and Underutilized Assets Act will slow down private investment both domestic and foreign.
The downtrend in the Colombo Stock Market is evidence of this. The decrease in foreign investment as well as domestic investment will affect the rate of growth of the economy and damage the long-term development of the economy. Now that the damage is done it would take drastic measures to restore business confidence.
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