The release of another tranche of US$ 426.8 million of the IMF US$ 2.6 billion standby facility provides the country a breathing space to come out of the balance of payments crisis. It gives the country time to adjust policies to ensure a lesser trade deficit and thereby avoid balance of payments difficulties. Apart from the replenishment of the reserves by US$ 426.8 million, it restores international confidence in the Sri Lankan economy.
 The grant of this tranche was preceded by several policy measures that were in the right direction. There was a depreciation of the currency, import duties on many items were increased; interest rates were raised; banks were asked to curtail lending for consumption purposes; and administered prices for imported items were increased. The increases in prices for gas, electricity, petrol, diesel and kerosene were the most noteworthy. Whether these increases in prices and credit controls would make an adequate dent in import expenditure will be seen during the course of the year.
IMF facility
Obtaining the IMF tranche of US$ 426.8 million was indeed a relief and support to the balance of payments. It would boost the depleted reserves, but much more than this, the international confidence that it creates would stabilise the exchange rate and encourage more capital inflows into the country.
There is also another important reason. The complacency that characterised policy responses was a serious problem. The government was not taking adequate measures to correct the trade imbalance. With the IMF intervention the government took the emerging balance of payments problem seriously and several measures have been taken towards the correction of the imbalance. In fact the IMF Resident Representative Koshy Mathai observed they were happy that the government was taking the balance of payments problem seriously.
Recognising the serious balance of payments problem is the first step towards remedying it. The country should be relieved that there is now a serious concern with the balance of payments. Even though many of the measures taken have heaped hardships, especially on the lower income groups, yet they were essential to stem a growing balance of payments problem.
Different view
The Central Bank was of the view that the trade deficit would be offset by worker remittances, earnings from services, foreign direct investment and other capital inflows and that the balance of payments problem was a temporary turbulence that would pass away during the year. In fact this was the case in 2009 when workers' remittances financed 97 percent of the trade deficit. In 2010, some 84 percent of the trade deficit was offset by remittances. However in 2011 the trade deficit had ballooned so much that it was able to offset only about half of the deficit. Although workers' remittances increased by as much as 25 percent in 2011, remittances could finance only 53 percent of the deficit. This is likely to be the pattern this year, too, unless imports are curtailed by the new measures. In January this year the trade gap had increased to nearly US$ 1 billion for the single month. However, the Central Bank is of the view that there would be a balance of payments surplus of US$ 1.2 billion this year.
Resolving the problem
The character and magnitude of the problem is such that there are no easy ways of resolving it. There is a misconception that the problem can be solved by containing consumer imports. Last year consumer imports accounted for only 20 percent of total imports and food imports were only 10 percent of import expenditure. There is a limit to reducing such imports, as most of these are essential imports. When you increase the price of wheat, sugar, milk powder and other essential food imports you may not reduce imports inadequately since the amount demanded of such essential commodities do not decrease by much.
It is important to reduce intermediate and capital goods imports. Intermediate imports constituted 56 percent of import expenditure. Petroleum imports were as much as nearly 25percent. Unless some of these imports are curtailed significantly one cannot make a dent in the trade deficit. Admittedly, as much as it is important to reduce oil import expenditure, it is difficult to do so. The increase in oil import expenditure is due to both increased imports and increased prices. We have no control of international prices and oil prices are very volatile. Therefore, we need to curtail petroleum imports.
No doubt the increase in duties for cars would reduce imports of vehicles, provided various concessions are not given to persons that would negate it. The effect of the increase in prices for petroleum products and electricity would reduce consumption but the extent of the reduction in consumption would matter. The interest rate hike would no doubt curtail expenditure on imports. All these measures it is hoped would bring down the trade deficit by about 25 percent to enable capital inflows to bridge the deficit.
Conservation
Price increases would reduce consumption but not by much. Other measures such as limits on travel days may have to be imposed. The reduction of government expenditure on petrol could have a big impact in reducing the oil bill. The government expenditure on petroleum should be rationed by reducing the allocation of funds for government transport. Similarly lighting, air-conditioning and electrical usage in public buildings should be reduced. The reduction of the conspicuous consumption of petrol and electricity by the government could make a significant contribution towards reducing oil imports.
Power and Energy Minister Champika Ranawaka made a plea for conservation of fuel and electricity. President Mahinda Rajapaksa set an excellent example on Earth Day when all lights at the President's House in Kandy were switched off for an hour by himself. Conservation measures should be more broad based and continuous.
Export growth
The long-term solution to the trade imbalance is increasing exports. Export earnings should be closer to import expenditure. The Central Bank has praised last year's export performance as exports grew by 22 percent. That this growth in exports was inadequate in comparison with the growth in imports by 50 percent was underplayed. The export to GDP ratio has declined and the country's share of exports in international trade has declined over the years. All these point to a need to enhance exports.
The depreciation of the currency is likely to have improved the country's competitiveness. To retain the country's competitiveness, it is essential to also keep inflation down so that costs of production do not rise above those of our competitors. Product and market diversification of exports are needed.
Concluding observations
The plain truth is that import expenditure is too large for services incomes, workers' remittances and other capital inflows to bridge the trade gap.
One of the reasons for the widening of the trade gap has been the substantial increase in investment goods imports by 60 percent last year. Because these are capital imports it is argued that they are developmental expenditures. All infrastructure investments do not contribute to economic growth. Many of the large investment expenditures lead to a huge leakage into imports. Machinery, transport equipment and building materials constitute a high proportion of these imports.
When investment expenditure does not increase export earnings or reduce import expenditure they create serious balance of payments difficulties. So there is a need to seriously evaluate developmental expenditure taking into consideration their balance of payments implications. There is, therefore, a need to contain imports of large items of imports irrespective of whether they are consumption, intermediate or capital imports. In fact the government's public expenditure has to be reassessed in the light of the balance of payments crisis that we are facing.
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