Financial Times

International capital flows and the economy
By Sunil Karunanayake
In recent times we have observed the strengthening of the rupee due to anticipated capital flows and strong performance of the Colombo stock market even after the tsunami devastation.

Capital flows could come through Foreign Direct Investment (FDI), portfolio investment and other forms like loans and grants. FDI has been in the Sri Lankan economy from colonial days owing to plantation and shipping interests. These investments now come under the BOI. Unilever, Nestle, James Finlay, ICI, Hong Kong Bank and BAT (Ceylon Tobacco) have been in this country for a very long period and most of them are now public quoted companies.

In the recent times FDI has increased owing to privatization and a liberalized economic environment. During the last decade big names like Telia (Sweden), NTT (Japan), Holcim (cement), Solideal (solid tyres-Belgium), P&O (shipping logistics-Australia), Apollo Hospitals, and Indian Oil Corporation have made substantial investments. There's little doubt that these FDIs have added innovation, technology, human resource development, and raised the overall industry standards in addition to contributing to state revenue through taxation. Consumers too have benefited from the services provided by these ventures.

The Solideal-Jinasena joint venture, Loadstar, an ideal vertical integration, has emerged as the world's largest solid tyre manufacturer exporting mainly to USA and Europe.

FDI over the years gather strength in the local environment and do not attempt to leave the country at signs of unrest and instability. Despite prolonged conflicts even leading to the bombing of the Central Bank none of these companies panicked to leave our shores thanks to their resolute commitment. This clearly confirms why FDI is called "good cholesterol" in economic parlance. Even during the East Asian crisis FDI remained unscathed while other forms of capital flows were adversely affected.

Sri Lankan companies too have displayed flexibility and growth to move with the international capital flows to set up companies overseas. Leading blue chips Haycarb (USA), Commercial Bank (Bangladesh), John Keells and Aitken Spence (Maldives) took the lead in this regard. In recent times emerging conglomerates like Ceylon Biscuits (India), Dilmah (tea), Sierra (India and Australia) and Samson group have followed suit.

The capital flows we are witnessing today by way of grants and loans too have a major impact on the economy. International capital flows of short-term variety are categorised as "bad cholesterol " due their quick withdrawal from troubled economies. These short-term flows are dictated by speculation on exchange and interest rates.

Portfolio investments develop capital markets enabling local businesses too to obtain equity and thereby enhance growth. On the other hand portfolio investments have the quickest exit facilities and could make stock markets highly vulnerable and dampen the capital market activities. This has been clearly witnessed in Sri Lanka in the past. However in recent times, the Colombo stock market, which has out performed most in the region, remained bullish amidst setbacks and political strife. In December despite the tsunami devastation indices reached record heights along with active foreign participation accounting for nearly 30 percent of the turnover. Perhaps the CSE efforts to popularize share trading may have given stability to the market. It's time that the authorities move to take advantage of the portfolio mechanism to ease the financial burdens of the Ceylon Petroleum Corporation and Ceylon Electricity Board to provide a better deal to the general public.

Given the extreme importance of capital, productivity, technology etc for countries like Sri Lanka, the government must provide consistent policies to provide a conducive investment climate backed by regulatory safeguards.

These must embrace all elements of governance such as investment, taxation, security infrastructure, education and judiciary. For a country that has missed the bus on many occasions due to communal strife, civil unrest, militant trade unionism and irresponsible party politics, major commitments are needed from our political leaders to emulate the recent developments in neighbouring countries.

(The writer could be reached at - suvink@eureka.lk)

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