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President Gotabaya Rajapaksa’s address to the nation on March 16 was noteworthy for announcing that he was expecting to seek the assistance of the International Monetary Fund (IMF). He also outlined how the external finances would improve this year.

Expectations

Although the interest in that speech has waned owing to the fast-changing political events and economic changes, it provides a starting point to reflect on his economic expectations. How realistic are his economic expectations for this year?

IMF assistance

Most significant was the disclosure that the government was reaching out to the International Monetary Fund (IMF). The President indicated that the government was considering asking the assistance of the IMF and outlined how the country will resolve the balance of payments and foreign currency crisis this year.

Changes

Coming soon after significant economic policy changes in the previous week, he announced the government’s intent or serious consideration of going to the IMF for advice and assistance to resolve the country’s economic crisis.

IMF

The President said that subsequent to his discussions with the IMF team, whom he met in Colombo, he had decided to work with them after examining the advantages and disadvantages.

Reversal

This is not only a categorical statement of the intent to seek IMF assistance, it is a reversal of the firm stand taken by the Central Bank Governor that we would not seek IMF assistance owing to the conditions (conditionalities in IMF terminology) laid down by them. Instead, the Central Bank Governor had boasted that it had a home grown solution and expertise to handle the external financial crisis.

These homegrown and alternate economic policies like the New Monetary Theory (NMT) have in fact aggravated the country’s economic woes. Furthermore, these policies remain unknown and ineffective, while the crisis has deepened.

The coming months will unravel the new road map of the government in its seeking the assistance of the IMF. This was the advice of most economists, think tanks and business chambers for many months. The delay in seeking IMF assistance has been costly. For consolation, we could say better late than never.

Balance of payments

The Presidential address was unusual in its discussion of how the government expects a more favourable outcome in the balance of payments. The address explained how the crisis in the balance of payments would be mitigated.

Expectations

This year’s balance of trade deficit is projected to be US$ ten billion. This is larger than last year’s trade deficit of US$ 8.1 billion. This is due to an increase in imports owing to higher international prices of our main imports, as well as higher food imports, due to a shortfall in domestic food production.

Exports

A slight increase in merchandise exports is projected this year. The government projects merchandise exports to reach US$ 13.6 billion, higher than last year’s US$ 12.5 billion. This is a realistic target, if not for some unfavourable conditions that are developing. The export target may not be achieved owing to several supply constraints.

Constraints

Manufactured exports that account for about 70 percent of total exports is currently affected by raw material shortages, lower work duration due to power cuts, unavailability of diesel and transport difficulties of workers and materials. The export trade expects a shortfall in exports unless these deficiencies are eliminated.

Tea

Tea exports that accounted for US$ 1.3 billion last year are expected to dip owing to a shortfall in production of about 20 percent or more   due to reduced output owing to a shortage of fertiliser and agrochemicals. Consequently, tea export earnings may fall by about US$ 300 million.

In addition, there is also a threat of a loss of the significant Russian and Ukraine markets owing to the war in Europe. When these factors are considered, the target of export earnings of US$ 13.6 may not be realisable.

Remittances

The most urgent need is to boost the reserves by increasing inward remittances to around US$ five billion, which is much less than US$ 7.1 billion achieved in 2020 and even slightly less than last year’s US$ 5.5 billion. In January remittances were the lowest for a month and increased somewhat in February. There may be increased remittances and capital inflows, if there is a conviction that there would be a more liberalised trade and payments regime.

Foreign assistance

The President’s expectation of foreign assistance to tide over the current balance of payments difficulties appears to be materialising. Last week, Finance Minister Basil Rajapaksa inked an agreement to obtain a credit line of US$ 1500 million in addition to a deferment of a loan repayment of US$ 400 million.

On March 22nd the Chinese Embassy in Colombo made a statement that China was considering giving Sri Lanka a credit line equivalent to about US$ 1900 million.

These two lines of credit may not be in convertible currency and only utilisable for imports from the two countries. Yet they are a formidable balance of payments support as they could be used for the import of essential food, fuel, pharmaceuticals and raw materials. These imports would relieve the balance of payments by meeting these import expenditures and releasing foreign currency for other imports.

Both credit lines amounting to about US$ three billion are a significant boost to the country’s foreign currency shortage.

Summing up

The expectation of a more favourable trade deficit than that of last year is unlikely due to difficulties being experienced by exporters and a decrease in tea exports. Imports, on the other hand, are likely to increase owing to higher prices of our main imports. The expectation of increased remittances, earnings from tourism and other inflows is shrouded in many uncertainties. Both remittances and tourist earnings are likely to be higher, but not to the projected amounts. There is a prospect of earnings from ICT services increasing. It is the Chinese and Indian lines of trade credit of about US$ three billion that is a significant indirect support to the balance of payments.

All the foregoing factors considered, this year’s balance of payments deficit is likely to exceed US$ two billion. If however there is a reversal of international economic conditions and oil and grain prices decline, tourism revives and the assistance of the IMF enables a liberalisation of the capital account, then remittances too could rise towards  the US$ seven to eight billion mark. The liberalisation of the capital account and the floating of the rupee would however see a higher outflow of capital at first, but would increase capital inflows in due course.

The intervention of the IMF is vital to ensure these favourable developments, as in 1977, when the economy was revived by the devaluation of the Rupee and the liberalisation of trade and payments. The President’s statement that subsequent to his discussions with the International Monetary Fund, he has decided to work with the IMF may be the most significant move in the right direction.

Concluding reflections

Seeking IMF assistance is the way forward to stabilise our finances and usher in an economic recovery. The reforms in foreign currency, fiscal and monetary reforms that such a move entails would be extremely painful and politically challenging.