Sri Lanka economic policy clarity needed, says Fitch Ratings

ECONOMYNEXT – Fitch Ratings agency has said greater clarity on economic policy by Sri Lanka’s new government is critical, as the regime change in January had not strengthened economic management despite progress in good governance and other reforms.

“Improved economic policy credibility and coherence would strengthen Sri Lanka’s resilience to growing investor uncertainty towards emerging Asia,” the rating agency said in a statement.

The clear mandate given in the parliamentary elections on 17 August to the ruling alliance led by the United National Party (UNP) should “mitigate some political uncertainty”, Fitch said.

But, it added, the direction of economic policy and the stability of the likely coalition remain unclear.

“The new administration inaugurated in January under President Maithripala Sirisena has made some progress in addressing perceived governance shortcomings, in particular by adopting a constitutional amendment limiting presidential powers and launching anti-corruption investigations.

“However, there has been no corresponding strengthening in economic management,” Fitch Ratings said.
 
“A populist budget was introduced in February that raised public sector wages and reduced publicly administered prices,” it noted.

The government has also disclosed that the 2014 budget deficit was around 1pp higher than previously thought, owing to revenue shortfalls.

“This indicates that fiscal consolidation has stalled,” Fitch Ratings said, noting that Sri Lanka has the fourth-highest share of government debt – 72 percent of GDP – of any country in the ‘BB’ range, after Portugal, Hungary and Croatia.

The rating agency noted that the government’s monetary policy has also been “accommodative”, allowing credit growth to accelerate sharply to 17.6 percent in May 2015 from a year ago and from almost zero percent in 3Q14.

“This has fuelled a 45 percent year-on-year rise in consumer goods imports in the first five months of the year at a time when exports were unchanged owing to stagnant agriculture and textiles.”

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A rise in tourism receipts and remittances has acted as a buffer, although the trade deficit widened to 3.4 billion US dollars in May, up from 3.1 billion dollars in May 2014, Fitch said.

The current account deficit had narrowed to 2.7 percent of GDP in 2014 from 7.8 percent in 2011, but should widen back to 3.0 percent this year.

Gross foreign reserves had dropped sharply to 6.8 billion dollars by end-May 2015 from 7.5 billion dollars a month earlier, further highlighting pressures on external balances.

The authorities indicated that reserves had been bolstered back up to 7.5 billion US dollars by end-June through a 650 million dollar sovereign dollar debt issue and 338 million dollar Sri Lanka Development Bond, though the latest data for end-July show reserves had fallen back down to 6.9 billion US dollars.

External liquidity has been buffered by a 1.1 billion US dollars swap facility with the Reserve Bank of India in July.

“These factors have buffered external liquidity recently, though it is not a sustainable way of improving the stability of the external accounts,” Fitch Ratings said. (Colombo/August 19 2015)

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