Revealing that Sri Lanka only has US$ 50 million of usable liquid reserves at the moment, Finance Minister Ali Sabry warned that the present economic crisis cannot be resolved even in the next two years.
Making a special statement on the present status of the Sri Lankan economy and the way forward, the Minister said at this juncture, the usable liquid reserves are at negligible levels, severely impacting essential imports, including fuel, LP gas, and pharmaceuticals.
“I would not hesitate to inform the House that the Government is struggling to find enough foreign exchange to finance these essential imports. Therefore, we need urgent solutions as a country to restore supply chains on 6 essential items, to address the grievances of the people, and to move forward on a reform programme and to work on bridge financing and also to implement medium to long-term growth-related policies.”
Ali Sabry said, it was a historical mistake to have reduced taxes in January 2020 and the rupee should have been floated earlier and should have been allowed to gradually depreciate. A new Budget proposal, that will increase income taxes, will be tabled in Parliament in the near future, he added.
The revenue foregone due to the tax cuts introduced in late 2019, which was estimated to be more than Rs 500 billion, has resulted in sovereign rating agencies downgrading Sri Lanka to near default levels. In my view, these tax cuts should have been gradually reversed in the new environment created by the Covid-19 pandemic. What transpired instead was that the revenue loss led the Central Bank to print money and help the Government to finance the deficit, he said.
Ali Sabry said it will take at least six months for Sri Lanka to enter an IMF programme and the delay in restructuring loans had largely cost the country’s economy.
Right now, discussions are underway to obtain bridge financing with several countries. Talks are in progress to increase the US$ 400 million aid from the World Bank to US$ 700 million. Also, the World Bank, Asian Development Bank, and India are expected to assist in the procurement of essential medicinal drugs.
“By end 2019, the Central Bank reserves amounted to US$ 7.6 billion. By end 2020, the reserves declined to US$ 5.7 billion as a result of gross inflows of US$ 5.8 billion and outflows of US$ 7.8 billion, including foreign currency debt service payments of US$ 6.0 billion.
The reserves declined further to US$ 3.1 billion by end 2021 consequent to the gross inflows of US$ 7.9 billion and outflows of US$ 10.4 billion, including foreign currency debt service payments of US$ 6.8 billion and provision of foreign exchange of US$ 1.2 billion to finance essential imports.
Given the shortage of foreign currency flows to the commercial banks, the official reserves at the Central Bank were utilised to meet foreign exchange needs related to the import of essential items, including fuel, coal and LP gas, pharmaceuticals, and other essential items, starting from August 2021.
Consequently, official reserves declined to US$ 1.9 billion by end March 2022. However, the bulk of these reserves, including the US$ 1.5 billion equivalent swap facility from the People’s Bank of China (PBOC), are not usable to settle USD denominated payments,” he said.
The Minister said he accepts the fact that the aggravation of the issues was due to the delay in restoring fiscal and debt sustainability and failing to pre-emptively address the decline in foreign reserves. Sri Lanka should have focused on regaining capital market access by establishing a credible path of macroeconomic stabilisation, supported by institutions such as the IMF. But now, rather than trying to find fault, it is important to identify the reasons for this situation and concentrate on the way forward.
“We must understand the root cause of the issue such as the unsustainable fiscal policies adopted by many successive governments. We should be humble enough to accept the fact that we as a country have lived beyond our means. Without proper checks and balances, all governments have spent much more than what they earned, of course with the approval of this august assembly, as the responsibility for public finances comes under the Parliament according to our Constitution. In my view, what is happening right now is that ‘we reap what we sow.’”
The Parliament must give priority to implement tax reforms to increase government revenue and rationalise expenditure while ensuring public investment in critical areas such as education, healthcare, and social protection. Macroeconomic policy must be tailored towards boosting national savings, channelling public and private investment towards productive sectors, while driving productivity and competitiveness in all aspects of the economy, Ali Sabry said and added:
“We need to take tough decisions in reforming state-owned business enterprises, encouraging competitive market mechanisms where possible to achieve best outcomes at lowest cost to society. We must learn to harness the immense productive potential of market forces, while being fully aware of market failures and providing appropriate intervention to ensure just outcomes for society. We need to build up credible systems to improve public sector efficiency and productivity.
The decision to seek the assistance of IMF is important in this context. An IMF programme will be a catalyst to undertake these much-needed reforms and will provide a signal to the rest of the world that we are serious in addressing our economic difficulties. But we must realise that the economic reform programme we embark on must be a programme with Sri Lankan ownership. We must put forward a professional and analytically robust economic plan, where the IMF will also provide technical assistance and then endorse. Without that Sri Lankan ownership, and without broad consensus of the Legislature, we would not succeed in providing permanent solutions for our longstanding economic issues.”
Speaking further, he pointed out that Sri Lanka must continue to position itself to take advantage of these opportunities through appropriate engagement in regional and global economic value chains. Towards this end, we must invest in education, healthcare, clean energy, public transportation, social protection, and sustainable infrastructure.
“In this process, the private sector needs to play a greater role in driving employment and growth. Sri Lanka needs to have a more globally competitive, export-oriented economy that is conducive to Foreign Direct Investments (FDI) with appropriate policies.
In doing so, we should take decisions underpinned by evidence-based research. I am in the process of setting up a Research and Analysis Division in my office at the Ministry of Finance. Very soon, we will have a set of Advisors also in the Ministry of Finance. This will help us to promote new ideas and deliver a professional approach to economic policymaking.”
“The budgetary operations of Sri Lanka, over the past several decades continued to suffer several weaknesses, as reflected by most of the key fiscal variables. This includes a sharp decline in government revenue mobilisation, high and rigid recurrent expenditure, and high concentration of capital expenditure towards certain sectors and persistent fiscal deficits that resulted in huge debt accumulation.
The spillover effects of the above fiscal imbalances complicated the conduct of monetary and exchange rate policies as well. Thus, the Sri Lankan economy displayed twin deficits, having both an external current account deficit and a government budget deficit, simultaneously.
Continuous budget deficits have led to accumulated public debt, which is now unsustainable.
In this process, I do not rule out the element of corruption, and this is why we need to emphasise the institutional factors such as an independent judiciary, a credible Central Bank and a strong public service.
At present, the Sri Lankan economy is in an extremely challenging situation and this has triggered social turbulence and political instability. This may lead to catastrophic consequences if the fundamental issues are not addressed immediately.”
Meanwhile, the major hit to the tourism industry together with the slowdown in the workers’ remittance inflows, further aggravated the tight foreign currency liquidity position in the market, exerting further pressure on reserves.
The price controls, in the form of a fixed exchange rate, regulated interest rates, unrealistic petrol, diesel and LP gas prices, and other administered prices, made the situation more complex. The release of these pressure points is now reflected in high inflation. The developments in the global economy after the Covid-19 pandemic and the more recent Ukraine crisis added further pressures on the Sri Lankan economy.
“However, political stability and support from all parties including the private sector are vital factors for us to implement this much-needed reform agenda. We have a critical and deeper issue at hand that needs careful consideration and well-thought-out solutions.
These are accumulated issues in the past over many decades under successive governments. Fortunately, or unfortunately, the current Parliament has been compelled to find solutions. So, it is our responsibility to work as a team to better understand the situation and come up with solutions with much-needed reforms with the support of all the members. There is no doubt that many of these reforms will be painful. Hence, we must take care of the vulnerable segments in the society through appropriate robust social safety nets.”
“I take this opportunity to appeal to the citizens of Sri Lanka on this matter at this critical juncture. I wish to say that we hear your voice very well. What we need to do is make corrections to the previous mistakes and put the fiscal operations and for that matter, the country’s future path, in the right direction.
It will be very challenging, but we must do it for the betterment of the present generation as well as the generations to come,” he concluded.
By Gagani Weerakoon and Methmalie Dissanayake