Colombo urged to get fiscal house in order and restore credibility
View(s):Sri Lanka should restore the credibility of its fiscal accounts, because without credible policies, economic growth could be stifled below its potential, a leading bank suggested in an economic update ahead of next month’s budget. An economic health check by HSBC on Thursday urged fiscal and monetary restraint in the country.
The report also underlines what is common knowledge – that politicians have dragged Sri Lanka off the path of fiscal consolidation evident in the period after the war against Tamil terrorism. In addition, the bank’s report estimates that the external financing requirement in the next 12 months will reach US$6.6 billion and observes that “addressing these external challenges requires restraint from policymakers, both fiscal and monetary.’’ It suggests that the government try to “improve the quality of growth’’, which could help lure foreign capital that is not debt.
The report forecasts Sri Lanka’s economic growth to slow to 4.9 per cent in the last quarter of the year, from 5.5 per cent (estimated) in the third quarter. However, the report says, the economy has been resilient, with 6.7 per cent growth in the second quarter.
Politicians have continued their budget-busting populist policies disregarding fiscal prudence, while also revealing startling levels of additional spending of public money on luxuries such as premium limousines and official mansions costing hundreds of millions of rupees.
The heavily-indebted island, which depends on the billions sent by migrant workers to stay afloat, continues to suffocate from a foreign and domestic borrowing binge.
Sri Lanka’s gross external debt is forecast to balloon to $45.6 billion, (from $43 billion in 2014), while the gross public domestic debt is predicted to expand to $34.2 billion this year, from $32.7 billion in 2014.Standard & Poor’s Ratings Services has forecast Sri Lanka’s external debt (net of official reserves and financial sector external assets) will be about 109 per cent of current account receipts this year.
Moody’s Investor Services sounded an alarm in July saying “Sri Lanka’s sovereign credit profile faces challenges posed by government debt ratios, which, even though they have declined over the last decade, remain higher than the median for similarly rated peers. Consequently, interest payments consume almost a third of government revenues, and limit the fiscal flexibility to increase spending on infrastructure or to introduce fiscal measures to offset a slowdown in growth.’’In August, Standard & Poor’s also noted concern over “improving but still moderately weak external liquidity, and a high government debt and interest burden’’. S&P explains that external liquidity is measured by gross external financing needs as a percentage of current account receipts plus usable reserves.
Gross external financing needs are explained as current account payments plus short-term external debt at the end of the previous year, including non-resident deposits at the end of the previous year plus long-term external debt maturing within the year, as a percent of current account receipts, plus usable reserves.
Current account receipts include earnings from exports of goods and services, income earned by residents from nonresidents and official and private transfers to residents from non-residents. In August, S&P affirmed its B+ long-term and B short-term sovereign credit rating on Sri Lanka.
With a B+ rating, Sri Lanka ranks alongside Angola, Cyprus, Cook Islands, Ecuador, El Salvador, Fiji, Gabon, Kenya, Mongolia, Papua New Guinea, Rwanda, Senegal, and Zambia. S&P also reported that “uncertainty over the government’s commitment to reforms after the August 17 parliamentary elections, and gaps in institutional capacity, pose risks to institutional and governance effectiveness, which we consider to be a credit weakness. These rating constraints weigh against what we consider to be robust growth prospects, which are above average for sovereigns at similar levels of development.’’
In Thursday’s economic report card, HSBC predicts Sri Lanka’s foreign exchange reserves will shrink further to $7.6 billion (enough for 4.6 months of imports) from $8.2 billion (5.6 months of imports) in 2014. The report says Colombo’s “fiscal position has its challenges; for example, last year’s slippage put an end to gradual fiscal consolidation that we have seen since 2010’’.
The bank’s economist based in India, observes that the position of one-off retrospective taxes “remains unclear’’ and yet the government “still plans to achieve a lower fiscal deficit’’ of 0.5 per cent of GDP, having delivered a popular pre-election budget.
The report suggests offering clarity to financial markets through a “reassessment giving progress of fiscal accounts’’.
“Also, announcing a sustainable revenue measure in the upcoming budget will be crucial. By cementing credibility on fiscal accounts the government can overcome two important hurdles: 1) containing the cost of accessing the market, and 2) keeping exchange rate sensitive public debt servicing costs under control,’’ the report adds.
Referring to other policies, the HSBC report welcomes the Central Bank’s decision to let the exchange rate become more market-determined. “The decision, to some extent, was forced after broad-based portfolio outflows and debt repayments made using reserves during the year pulled down forex reserves to $6.5 billion in August from $8.2 billion at the start of the year.’’