The Sunday Times Economic Analysis

The Sunday Times Economic Analysis By the Economist

Retrospective reflections on the economy in an anxious year: 2005
Christmas day festivities encircle us today. We therefore begin on a heartening note with some reassuring thoughts on the economy. The economic performance this year could be viewed as having been acceptable in a year that began with the ravages of the tsunami, followed by uncertainty about the Presidential election and then the election itself.

It was an uneasy year for the peace process. Given these, and the adverse impact of oil price increases, the termination of the Multi Fibre Agreement (MFA) and a not too favourable international economic environment, a growth rate of between 5 to 6 percent that is expected, could be deemed an accomplishment. All in all we can be satisfied that 2005 did not turn out to be the abysmal year, it seemed heading to be during the course of the year.

The Sri Lankan economy has demonstrated resilience over the years. For several decades the economy has had to operate in some sort of uncertain environment generated either externally or internally. This year was no exception. There were external and internal shocks. Yet the economy emerged somewhat unscathed by these. Paradoxically, the tsunami helped. The inflow of funds stabilised several macro economic factors, especially the balance of payments, the exchange rate and the foreign reserve position.

The attainment of an economic growth of around 6 per cent was induced by a good paddy harvest in Maha, a record tea crop and continued growth in industry and services. These sectors grew undeterred by the unfavourable conditions that affected other parts of the economy. It is these that contributed to the overall growth of the 6 per cent in the first quarter, 5.4 per cent in the second quarter and an expected 6 per cent in the second half of the year.

The tsunami that struck the country almost exactly a year ago did not affect the growth rate adversely, though tourism and fishing were adversely affected. The tsunami reconstruction would have contributed to growth in several sectors, especially construction and related activities. This may have more than offset the reduced performance in fisheries. Though the numbers recorded as tourist arrivals increased by 3.4 per cent, the actual earnings from tourism dipped significantly by as much as 16 per cent in the first ten months. This divergence between arrivals and earnings is indicative of non-tourist arrivals connected with the Tsunami relief work. Fishery output too would have dipped significantly.

The Maha harvest was a record one and rice imports were minimal at about 800 metric tons. Tea production raced to a new high with production in the first eleven months being 3.5 per cent higher than in the same period last year. The year's production is likely to reach around 312 million metric tons. Rubber production is likely to be around 6 per cent higher than last year. Coconut production dipped by about 7 per cent in the first ten months of the year. Overall agricultural growth is likely to have been positive, though as in most past years, unimposing.

Industrial growth is likely to be around 4 per cent, even though public sector industrial production continued to decline. Industrial exports, particularly those other than apparel exports grew significantly, though their contribution was about a third of the total industrial exports. While all industrial exports grew by 9.5 per cent, the country's main export, textiles and apparel grew by only 3 per cent. Overall export earnings increased by 10 percent, but import expenditure increased by a much higher amount, by 14 per cent.

The increased expenditure on oil imports due to about a 40 per cent increase in prices and increased capital expenditure resulted in a huge trade deficit of US $ 2.1 billion in the ten months of the year. The trade deficit is likely to rise to around 2.3 billion US$ by end of the year surpassing last year's record deficit of US $ 2.2 billion.

The good news however is that even with such a huge trade deficit, the country is likely to have a balance of payments surplus owing to capital inflows as Tsunami relief funds, increased portfolio investment in the Colombo stock market in the early part of the year and increased private remittances.

Private remittances are likely to reach about US$ 1700 million for the year, about a 20 per cent growth from that of last year. Foreign exchange reserves were 18 per cent higher at US$ 4000 million, than at the end of last year.

The Budget presented at the end of the year granted a number of subsidies that have generated some anxiety about a larger fiscal deficit than those given in the estimates and fears of higher inflation. The progress on the peace front has also been a cause for anxiety politically and economically. Higher corporate taxation rates and the continued rise in international oil prices are factors that the economy would require to contend with. On the other hand, the fear of adverse trade and tariff policies has been averted and the economy will continue to function broadly within a liberalised framework.

This broad continuity in the economic policy framework since 1977, undisturbed by the political changes thereafter, especially in 1994, have been a major factor accounting for the resilience in the economy in the face of external and internal shocks that it has had to face. The economy has averted a serious setback and we can be pleased about this outcome.

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