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Thursday December 8th, 2022

Sri Lanka budget new taxes to hurt insurer profits, premiums to go up: Fitch

ECONOMYNEXT – Several new taxes proposed in the budget for 2022, will hurt insurer profits and the impact on a tax on accidents are still unclear, Fitch Ratings has said.

The budget has proposed a 25 percent windfall tax similar to the ‘super gains tax’ proposed in 2015 as well as an increase in a so-called financial VAT and 2.5 percent turnover tax.

“In addition to the tax proposals, the government announced that it plans to impose a fee on vehicles involved in accidents and allowing policyholders to be reimbursed for this fee by insurers,” Fitch said.

“Insurers will likely price the additional risks in their motor insurance policies, although changes to policy terms may be required as penalty charges or fines are generally excluded from the motor insurance policy coverage.

“Still, the penalty charge and the nature of traffic accidents on which a fee will be imposed remain unclear and are yet to be determined.

It was not clear whether insurers will have to pay the one time increase to 18 percent from 15 percent

“Most Sri Lankan insurers previously appealed against paying VAT on financial services with the view that the VAT Act does not specify insurance companies as liable,” Fitch said.

Insurers however had earned higher profits during lockdown due to lower general insurance claims.
The full statement is reproduced below

Sri Lanka’s Budget Proposals Weigh on Insurers’ Near-Term Earnings

Fitch Ratings-Colombo/Sydney-23 November 2021: The Sri Lankan government’s proposal to introduce new one-off as well as recurring taxes on companies will likely constrain the near-term profitability of some insurers, Fitch Ratings says.

However, we expect the proposals to have only a limited impact on most insurers’ capital positions because of their sound capital buffers accumulated before and during the Covid-19-led lockdowns in the country.

The government’s 2022 budget presented on 12 November 2021 introduced a 25% one-off tax on companies with a taxable income over LKR2 billion for the fiscal year ended 31 March 2021.

The agency believes that Sri Lanka Insurance Corporation Limited (CCC+/AA(lka)/Stable) and potentially National Insurance Trust Fund Board (A+(lka)/Stable) may need to pay the one-off tax as they have larger pre-tax profit bases among Fitch-rated Sri Lankan insurers.

Taxable income of the remaining Fitch-rated Sri Lankan insurers will likely fall below the LKR2 billion threshold.

If the authorities decide to use group or consolidated taxable income as the basis to calculate the tax, the taxable income of some insurers that are subsidiaries of larger parent companies could be considered in the calculation of the one-off tax.

Nevertheless, in spite of taxation, we believe that the capital positions of most insurers will remain satisfactory as their capital buffers were strengthened, especially helped by the low motor and medical insurance claims following lockdowns and insurers’ high retention of profits in 2020.

Fitch believes that the government’s proposed introduction of the 2.5% social security contribution on annual turnover exceeding LKR120 million will narrow the profit margins of insurers in the near-term.

However, we think the burden will gradually be transferred to policyholders through price revisions.

It remains unclear if insurers will be liable to pay the value added tax (VAT) on financial services, which is subject to a proposed one-time increase to 18% from 15% under the 2022 budget. Most Sri Lankan insurers previously appealed against paying VAT on financial services with the view that the VAT Act does not specify insurance companies as liable.

If imposed, the impact of this tax on near-term profit margins will be more pronounced as companies are not allowed to pass the increase in the VAT to customers. In addition to the tax proposals, the government announced that it plans to impose a fee on vehicles involved in accidents and allowing policyholders to be reimbursed for this fee by insurers.

Insurers will likely price the additional risks in their motor insurance policies, although changes to policy terms may be required as penalty charges or fines are generally excluded from the motor insurance policy coverage. Still, the penalty charge and the nature of traffic accidents on which a fee will be imposed remain unclear and are yet to be determined.

We also expect the potential influx of new motor vehicles into the market, following the government’s decision to release vehicles that are currently held in customs due to non-payment of taxes, to be insufficient to result in a material recovery in motor insurance policy volumes.

Fitch believes that the government’s ban on motor-vehicle imports will remain, at least in part, over the near term and most insurers are likely to continue to seek opportunities to diversify their products into non-motor insurance lines.

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Sri Lanka in deep talent drain in latest currency crisis

ECONOMYNEXT – Sri Lanka businesses are facing a drain of talent, top business executives said as the country suffers the worst flexible exchange rate crisis in the history of its intermediate regime central bank and people lose hope.

“We are seeing a trend towards migrating,” Krishan Balendra, Chairman of Sri Lanka’s John Keells Holdings told an economic policy forum organized by the Ceylon Chamber of Commerce.

“We have seen an impact mainly on the tourist hotels side, quite an exodus of staff (migrating) to countries we have not seen in the past. 

“We have seen people go to Scotland, Ireland. It has usually been the Middle East and Maldives. Australia seems like a red hot labor market at the moment.”

Sri Lanka’s rupee collapsed from 200 to 360 to the US dollar after macro-economists printed money to suppress rates.

Sri Lanka operates a ‘flexible exchange rate’ where errors in targeting interest rates are compensated by currency depreciation especially after the 1980s.

Classical economists and analysts have called for the power to mis-target rates and operate dual anchor conflicting monetary regimes should be taken away to prevent future crisis.

Currency crises are problems associated with flexible exchange rate central banks which are absent in hard pegs and clean floats.

“Something new we are seeing is that older people, even those in their 50s, which was a surprise, are looking at migrating,” Balendra said.

Businesses are trying to retain talent as real wages collapse.

Balendra said as businesses they see some stability returning and based on past experience growth is likely to resume, and they were communicating with the workers.

“We have a degree of conviction that the economy should get better, its the stability phase now and it will get better going forward so without the way our businesses are placed we should see good growth,” Balendra said.

“We can’t chase compensation that’s just not practical and we are not trying to do that especially if people are looking to immigrate but what we can do is show the career opportunities in the backdrop of the situation that people would rather stay here because its home.” 

Sri Lanka unit of Heineken says it is also trying to convince workers not to leave, with more success.

“We are all facing the effects of brain drain and it’s not just the lower levels… What we are doing is a balance of daring and caring,” Maud Meijboom-van Wel – Managing Director / CEO, Heineken Lanka Ltd told the forum.

“Why I say daring is, you have to be clear in what you can promise people, when you make promises you have to walk the talk. So with the key talents and everyone you need to have the career and talent conversations.

“I am a bit lucky because I am running a multinational company so my career path goes beyond Sri Lanka so I can say if you acquire certain skills here, then you can move out of here and then come back too, that is a bit easier for me but it starts with having a real open conversation with walking the talk – dare and care.” (Colombo/Dec7/2022)

 

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Despite losses, Sri Lanka to resume “park & ride” transport after complaints  

ECONOMYNEXT –  Sri Lanka’s state-run Transport Board will resume its loss-making City Bus service from January 15, 2022 Cabinet Spokesman Bandula Gunawardena said, after the service abruptly discontinued with the state-run firm’s director board citing losses.

The City Bus service was introduced in 2021, under the government of former President Gotabaya Rajapaksa, from Makubura to Pettah and Bambalapitiya.

The service was started to reduce the number of automobiles travelling to and from Colombo and suburbs by providing a comfortable, convenient and safe public bus transportation for passengers and riders who use cars and motorcycles as their means of transportation.

During the time period in which the service was initiated, there were 800 hundred vehicles that would be parked and would use the system, Gunawardena, who is also the Transport Minister, said.

The service was later collapsed due to inconsistencies in scheduling and it was completely stopped after

“Without informing the Secretary or the Minister of the relevant Ministry, the Board of Directors have come to a conclusion that this is loss making route and must be halted,” Gunawardena said.

“The users of the City Bus service brought to our notice and therefore I gave the Secretary to the Ministry of Transport the approval to start the City Bus service from January 15.”

“If we stop all loss making transport services then massive inconveniences will occur to the people in far parts of the island.”

The chairman of the state run Ceylon Transport Board has been asked to handover the resignation letter by the Minister Gunawardana citing that the head has failed to implement a policy decision approved by the government. (Colombo/ Dec 06/2022)

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Sri Lanka may see rates falling next year: President

ECONOMYNEXT – Sri Lanka’s interest rates are high and hurting small businesses in particular but interest rates are required to maintain stability, President Ranil Wickremesinghe said.

“One is, all of you want to know what’s going to happen to the interest rates?,” President Wickremesinghe told an economic policy forum organized by the Ceylon Chamber of Commerce.

“I wish I know. The governor has told me that the inflation has peaked. It’s coming down. You all understandably want some relief with the interest rates to carry business on.”

“I understand that and appreciate the viewpoint. It’s not easy to carry business on with such high interest rates. On the other hand, the Central Bank also has to handle the economy. So maybe sometimes early next year we will have a meeting of minds of both these propositions.”

Sri Lanka’s interest rates are currently at around 30 percent but not because the central bank is keeping it up. The central bank’s overnight policy rate is only 15.5 percent but the requirement to finance the budget deficit and roll over debt is keeping rates up.

Rates are also high due to a flaw in the International Monetary Fund’s debt workout framework where there is no early clarity on a whether or not domestic debt will be re-structured.

After previous currency crises, rates come down after an IMF deal is approved and foreign loans resume and confidence in the currency is re-stabilished following a float.

This time however there has been no clear float, though the external sector is largely stable and foreign funding is delayed until a debt re-structure deal is made.

Sri Lanka’s external troubles usually come because the bureaucrats do not believe market rates are correct when credit demand picks up and mis-uses monetary tools given in 1950 by the parliament to suppress rates, blowing the balance of payments apart.

The result of suppressed rates by the central bank are steep spikes in rates to stop the resulting currency crisis.

A reserve collecting central bank has little or no leeway to control interest rates (monetary policy independence) without creating external troubles, which is generally expressed as the ‘impossible trinity of monetary policy objectives’.

However, it has not prevented officials from trying repeatedly to suppress rates, perhaps expecting different results.

After suppressed rates – supposedly to help businesses – trigger currency crises, the normalization combined with a currency collapse leads to impoverishment of the population.

The impoverishment through depreciation leads to a consumption shock, which also leads to revenue losses in businesses.

The suppressed rates then lead to bad loans.

In the 2020/2022 currency crisis the sovereign default has also led to more problems at banks. Several state enterprises also cannot pay back loans.

“…[T]he bad debt that is being carried by the banks is mainly from the private sector or the government sector,” President Wickremesinghe said.

“Keep the government sector aside. We’re dealing with it. How do you handle it? Look, one of our major areas of are the small and medium industries. You can’t allow them to collapse, but they’re in a bad way.”

Classical economists and analysts have called for new laws to block the ability to central bank to suppress rates in the first place so that currency crises and depreciation does not take place in the first place.

Then politicians like Wickremesinghe do not have to take drastic and unpopular measures to fix crises and there will be stability like in East Asia.

Sri Lanka had stability until 1950 when the central bank was created by abolishing an East Asia style currency board. The currency board kept the country relatively stable through two World Wars and a Great Depression.

In 1948 after the war (WWII) was over “we stood second to Japan” Wickremesinghe said.

“But we started destroying it from the sixties and the seventies,” he said. :We started rebuilding an economy, which was affected by a (civil) war, and thereafter the way we went, is best not described here.”

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