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Monday February 6th, 2023

Sri Lanka per capita GDP edges lower amid soft-peg collapse

ECONOMYNEXT – Sri Lanka’s gross domestic product edged marginally lower to 4,102 dollars per person in 2018 from a revised 4,104 dollars in 2017 amid a collapse in the currency from operating a soft-pegged exchange rate.

Sri Lanka’s economy grew 3.2 percent in 2018, with growth in the fourth quarter slowing to 1.8 percent amid a political crisis and greater moneary instablity than the earlier two quarters.

Sri Lanka’s Central Bank has an explicit strategy of targeting a real effective exchange rate index but does not have a floating policy rate to enforce it, generating balance of payments troubles.

The Central Bank also cuts rates and prints money when inflation falls (independent monetary policy) effectively operating a de facto inflation targeting regime with a exchange rate peg, generating balance of payments troubles through what economists call the impossible trinity of monetary policy objectives.

Last year, the Central Bank also brought in Nixon shock-style trade restrictions to cover its monetary policy errors, shattering a key plank of the current administration’s economic strategy.

Sri Lanka has seen back-to-back balance of payments troubles since 2015, with monetary stability only maintained by the Central Bank in 2017.

In 2017, the rupee was permanently depreciated despite the Central Bank generating a balance of payments surplus by mopping up inflows, to ostensibly target a real effective exchange rate index.

According to revised data released by the statistics office, per capita GDP grew from 3,821 dollars in 2014 to 3,842 in 2015 and to 3,886 dollars in 2016, when the rupee fell from 131 to 150 to the US dollar.

In 2017, per capita GDP rose faster to 4,102 dollar from 3,886 with some monetary stability returning.

In 2018, per capita GDP edged down to 4,102 dollars from 4,104 with the rupee collapsing first to 161 and then to 180 in two episodes of instability. The census department is using an average exchange rate of 163 rupees for 2018.

Sri Lanka’s per capita GDP fell 869 dollars to 838 dollars in 2001 and the economy contracted 1.5 percent, after a case of severe monetary instability and currency collapse in the midst of a war.

Sri Lanka’s growth has flagged in recent years after spiking with the end of a war in 2009, partly as GDP computation changed but also due to lack of liberalisation to spur growth, combined with monetary instability, analysts say.

For about a decade, Sri Lanka pursued a strategy of crony protectionism, expropriation, and building loss-making state enterprises mis-allocating resources, which hurt long term growth prospects reducing the usage of infrastructure built with state borrowings.

Monetary instability had worsened since 2015. Monetary instability has been a key constraint on the economy and people’s freedoms since a soft-pegged Central Bank was set up in 1950 leading to draconian exchange and trade controls.

Currency depreciation and unsound money in general destroys real wages and also destroys real capital available to invest and increase labour productivity and cut slashes the economic foundations of a family.

From 2015, Sri Lanka tried to implement ‘ a social market economy’ in without the fundamental building block – Central Bank reform – as Germany did for its own social market economy, while Britain which won World War II regressed with monetary instability and currency collapsed (Sterling crises) as it pursued Keynesian economics.

"Stability may not be everything," said Karl Schiller, one-time economy and finance minister of Germany. "But without stability everything is nothing."

Sri Lanka is planning to move from a second class (soft-pegged) exchange rate regime which is called a ‘flexible exchange rate’ to a second class (flexible) inflation targeting regime. (Colombo/Mar21/2019-SB)

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Sri Lanka’s banks may have to re-structure loans caught in progressive tax

ECONOMYNEXT – Sri Lanka’s banks should explore restructuring loans of salaried employees hit by progressive tax, Central Bank Governor Nandalal Weerasinghe said as progressive income taxes were imposed at lower thresholds amid high inflation following a sovereign default.

There have been complaints mainly by picketing state enterprise executives and also other workers of such agencies such Sri Lanka Port Authority that high progressive taxes were putting their bank accounts into overdraft after loan installments were cut.

“Yes, they have mentioned that,” Governor Weerasinghe said responding to questions from reporters.

“We have told the banks earlier as well. Because the interest rates are high and their business being reduced, the SME sector, the repaying capability has reduced.

“We have told them to explore their repaying capabilities and restructure their loans in order to safe guard both sides. At this time also we are asking the banks to do that.”

In the case of some state enterprises, the Pay-As-You-Earn tax, through which income tax is deducted from salaried employees in the past was not paid by the employee but the SOE.

Bad loans of the banking system overall had risen after the rupee collapsed, reducing the spending power in the economy, while rates also went up as money printing was scaled back, foreign funding stopped and the budget deficit widened.

The rate hike has prevented possible hyperinflation and a bigger implosion of the economy by stabilizing the external sector in the wake of previous mis-targeting of interest rates.

In the current currency crisis a delay in an IMF program due to China not giving debt assurances as well as fears of domestic debt re-structure has kept interest rates elevated.

Sri Lanka’s economic bureaucrats in 2020 cut taxes and also printed money, in a classic ‘Barber Boom’ style tactic implemented by UK economists and Chancellor Anthony Barber in 1971 to boost growth and employment.

The ‘Barber Boom’ ended in a currency crisis (at the time the UK did not have a floating rate and the Bretton Woods system was just starting to collapse under policies of Fed economists) and inflation of around 25 percent in the UK.

The UK implemented a three-day working week to conserve energy after stimulus while Sri Lanka saw widespread power cuts as forex shortages hit.

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Anthony Barber budget of 1971

Anthony Barber budget of 1972

Similar policies saw a worldwide revival as the US Fed economists injected money during the Covid crisis mis-using monetary policy to counter a real economic shock and boost employment while the government gave stimulus checques.

Now the world is facing an output shock as a hangover the Covid pandemic recedes.

The re-introduction of progressive tax at a maximum rate of 36 percent while tax brackets high jumped with the rupee collapsing from 200 to 360 to the US dollar had reduced disposable incomes further.

Salaries employees were encouraged to get loans in 2020 with the central bank mandating a 7 percent ceiling rate for five years.

However, any borrower who got loans on floating rates long before the scheme are now facing higher rates. (Colombo/Feb06/2023)

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Sri Lanka to address SME tax problems at first opportunity: State Minister

ECONOMYNEXT – Problems faced by Sri Lanka’s small and medium enterprises from recent tax changes will be addressed at the first opportunity, State Minister for Finance Ranjith Siyambalapitiya said.

Business chambers had raised questions about hikes in Value Added Tax, Corporate Income Tax and the Social Security Contribution Levy (SSCL) that’s been imposed.

It should be explored on how to amend the Inland Revenue Act, Siyamabalapitiya said, adding that the future months should be considered as a period where the country is being stabilized.

Both the VAT and SSCL are effectively paid by customers, but the SSCL is a cascading tax that makes running businesses difficult.

In Sri Lanka SMEs make up a large part of the economy, accounting for 80 per cent of all businesses according to according to the island’s National Human Resources and Employment Policy.

(Colombo/ Feb 05/2023)

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Sri Lanka revenues Rs158.7bn in Jan 2023 up 51-pct

ECONOMYNEXT – Sri Lanka’s government revenues were 158.7 billion rupees in January 2023 but expenditure and debt service remained high, Cabinet spokesman Minister Bandula Gunawardana said.

In January 2022 total revenues were Rs104.5 billion according to central bank data.

Sri Lanka’s tax revenues have risen sharply amid an inflationary blow off which had boosted nominal GDP while President Ranil Wickremesinghe has also raised taxes.

Departing from a previous strategy advocated by the IMF expanding the state and not cutting expenses, called revenue based fiscal consolidation, he is attempting to do classical fiscal consolidation with spending restraint.

President Ranil Wickremesinghe has presented a note to cabinet requesting state expenditure to be controlled, Gunawardana told reporters.

State Salaries cost 87.4 billion rupees.

Pensions and income supplements (Samurdhi program) were29.5 billion rupees.

Other expenses were 10.8 billion rupees.

Capital spending was   21 billion rupees.

Debt service was 377.6 billion rupees for January which has to be done with borrowings from Treasury bills, bonds and a central bank provisional advance of 100 billion rupees, Gunawardana said.

Interest costs were not separately given. (Colombo/Feb05/2023)

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