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Sunday, 13 May 2012

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New Policies helped rebalance external sector - Dr. Saman Kelegama

Policy measures already adopted by the Government to address the imbalance in the external sector and the other issues in the economy are sufficient at present and the Government has gone quite a distance, said Executive Director of Institute of Policy Studies (IPS), Dr. Saman Kelegama.

According to political-economic conditions, some tough policies are not feasible anywhere in the world and the tax, exchange rate and pricing policies incur costs. Therefore, taking further policy measures depends on how much people are ready to bear the brunt, he told a seminar held in Colombo to launch the Economic and Social Survey of Asia and the Pacific (ESCAP) -2012 report.

Sri Lanka achieved high economic growth of 8 percent in 2010 and 8.4 percent in 2011 from a 3.5 percent slow growth in 2009. According to the ESCAP report, many Asia Pacific countries recorded lower growth in 2011 compared to 2010 except for a few countries such as Sri Lanka, Bangladesh, the Maldives and Indonesia.

These Asia Pacific countries brought inflation under control and were able to pursue growth-oriented strategies.

Sri Lanka is now on a high growth trajectory. However, the question is the sustainability of growth, he said.

It was not sustainable because high growth had a large domestic consumption element with a large influx of imports. In 2011 the import bill amounted to 34.3 percent of the GDP as against 22.2 percent of the GDP in 2010 and 24.7 percent in 2009. Investment and intermediate goods, imports increased following the development activities in the country.

However, oil accounted for 25 percent of imports and oil import increased with the increase in vehicle imports facilitated by the highly appreciated exchange rate.

Overall exports grew by 50 percent during 2011. But exports grew only by 22 percent during the year and this was far below compared to some neighbouring countries such as India- 29.3 percent, Bangladesh - 41.5 percent, Pakistan - 29.3 percent and the Maldives - 82 percent.

Sri Lanka's global export share has remained stagnant at 0.06 percent and exports as a percentage of GDP has declined over the last seven years. Among other factors, the overvalued exchange rate during the last five years contributed to this outcome.

This huge gap between imports and exports contributed to the major imbalance in the external sector.

Due to all these factors, Sri Lanka's high overall growth accompanied by the external sector imbalance reflected as 16 percent of GDP trade deficit and 7.8 percent of GDP current account deficit.

Dr.Kelegama said that under these circumstance, to achieve sustainability, imports had to be reduced while increasing exports. It was necessary to let market forces determine the exchange rate. In November last year, this was done partially by depreciating the rupee by 3 percent and thereafter implementing flexible exchange rate policies from February 9th this year.

We are now on the right track as far as addressing the external imbalance is concerned.

To curb imports, the exchange rate policy alone was inadequate, a tighter monetory policy and high taxes on non essential imports were also necessary. Curbing imports as well as increasing exports and other foreign capital inflows are essential. As a result of these policy measures, imports have reduced.

For instance motor vehicle imports will reduce from $1.7b in 2011 to $0.7 b in 2012.

This can be seen in other imports as well. However, due to the increase in commodity prices in the global market, the price effect will nullify the import volume reduction effect and the estimated import flows in 2012 is $ 20.9 b compared to $ 20.3 b in 2011, he said.

Increasing exports is not easy, due to the prevailing global conditions, especially the crisis in the EU and US economies, the main export markets of Sri Lanka.

Quoting the ESCAP report, he said that increasingly growing Southern markets should be looked at as new export markets in particular the growing Asia-Pacific region.

Sri Lanka should make maximum use of existing regional bilateral and multilateral trade arrangements such as SAFTA, APTA and FTAs with India and Pakistan, he said. The largest source of foreign exchange earnings of Sri Lanka, worker remittance is increasing and will not affect with the crisis in the Middle East countries.

As highlighted in the ESCAP report these remittances are dominated by unskilled jobs which have been less vulnerable to economic downturns and migrant recipient countries in West Asia having strategies to retain migrant workers.

The outlook for remittance flows in the coming years is positive because the aging population in North East Asia and Russia, the FIFA World Cup in Qatar in 2022 and oil price increase based prosperity in West Asia.

Sri Lanka is expecting $7b capital inflows in 2012 via FDI and through other capital inflows, $ 2 b in FDI is expected.

However, the ESCAP report warns of increased volatility of global financial markets and periodic bouts of volatility can complicate macroeconomic planning. Therefore, these factors have to be accommodated in increasing Sri Lanka's earned reserves in the coming years.

Interest rates have been increased to bring about the required stability in the external trade sector. This will curtail borrowing and reduce the overheating of the economy and the challenge is to ensure that it happens. Reduced borrowing will ensure that inflation is maintained at a single digit level.

Recent price adjustments of oil and price increases due to depreciation of currency will be one-off phenomena. The stability that will come with high interest rates will permit to relax monetory policy in the future.

The ESCAP report highlights risks and opportunities for 2012 , providing many policy lessons and compares one country with another in the policy-making process.

 

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