• If real buying power in December 2021 was Rs. 100, it is now only Rs. 29
• Country’s future is bleak without a concrete plan to rescue economy
• President must take immediate action to cut Govt. size, extravagant expenses
• With China blocking debt restructuring plan, ball now in Foreign Ministry court
• RW administration behaving as if there is no economic crisis in the country
• SL needs concrete economic plan to be implemented by all governments

Amid rising costs and taxes and the non-delivery of a timely International Monetary Fund (IMF) bailout, things are looking increasingly bleak for Sri Lanka on the economic front. This, amid a dismal budgetary situation that seems unsurmountable.

“The Government is planning to earn a revenue level of Rs. 3.4 trillion in 2023 as against a gross expenditure of Rs. 11.7 trillion – a massive gap of Rs. 8.3 trillion or 28% of GDP estimated at Rs. 30 trillion for the year,” points out Economist and former Central Banker Dr. W.A. Wijewardena, noting that the country’s economy, which is undergoing its worst crisis since independence, is still not out of woods

In an interview with The Sunday Morning, Dr. Wijewardena also emphasised the importance of a concrete plan to rescue the economy. “The Ranil Wickremesinghe administration and the MPs supporting his Government behave as if there is no economic crisis in the country. It is only Wickremesinghe who makes pronouncements about the difficult period ahead and opines that Sri Lankans should be ready for the worst crisis. What is the use of such pronouncements if no action is taken to address the issues?” he queried.

In the course of the wide-ranging interview, Dr. Wijewardena also highlighted the importance of immediate action to cut the size of the Government and extravagant expenses, revenue-generating mechanisms, the brain drain, and where we stand in relation to the IMF bailout.

Following are excerpts of the interview:

How do you view the latest developments on the economic front? Where does the country’s economy stand and in which direction is it heading compared to last year?

The economy of Sri Lanka, which is undergoing the worst of its crises since independence, is still not out of the woods. From immediate macroeconomic signals to long-term economic growth prospects, there are no signs of a quick turnaround in the economy. 

On the macroeconomic front, the general price level in the economy has accelerated to a very high level. As measured by the Colombo Consumer Price Index (CCPI) that tracks the price levels in the Colombo District, it has increased by 101 units from 143 in December 2021 to 244 in January 2023. This is a 71% increase over the 13-month period involved, though the Central Bank has said that annually it is just a 54% increase.

The Central Bank’s pronouncement is misleading from both the welfare of people and the monetary policy points. From the welfare side, the cost of living of a household in the Colombo District has increased by 101 units, amounting to Rs. 61,000 over this period. What this means is that if the real buying power of a family in December 2021 was Rs. 100, it is now only Rs. 29. That is why there is still public agitation against the rising cost of living although the annual change has recorded a marginal decline. People are asking for higher salaries and it has led to social instability, which is a killer of long-term economic growth. 

From a monetary policy point, the Central Bank goes not by the headline inflation of 54% but by inflation that is directly determined by the increases in money supply. That inflation is called core inflation and excludes the increases in food items and transport expenses. That inflation has accelerated on average from 35% in December 2022 to 38% in January 2023. Hence, it is too early for the Central Bank to relax the tight monetary policy package it introduced since April 2022. 

The budgetary situation of the country is still not in good shape. The Government is planning to earn a revenue level of Rs. 3.4 trillion in 2023 as against a gross expenditure of Rs. 11.7 trillion. The latter is made of the Government’s recurrent expenditure, capital expenditure, the expenditure needed to repay the maturing foreign debt that is not subject to restructuring, and new and maturing Treasury bills and Treasury bonds. That is a massive gap of Rs. 8.3 trillion or 28% of GDP estimated at Rs. 30 trillion for the year. 

This massive consumption by the Government is a killer on private sector initiatives. What is to be done is therefore not merely increasing the tax revenue but a drastic cut of the Government size that will reduce total expenditure, which is the real burden falling on the people. President Ranil Wickremesinghe is reported to have informed the Cabinet of the dire state of the cash flow of the Treasury in January 2023. Instead of making this complaint, he should take immediate action to cut the size of the Government and extravagant expenses. Without this, there is no peace for the Treasury and consequently for the people. 

The current economic crisis was manifested as a foreign exchange crisis that led to the depreciation of the rupee on one side and imposition of drastic import and exchange controls on the other. The Government sought an IMF bailout rather late, but there were some preconditions which it had to fulfil. Most of these conditions have been met, except the major one relating to the restructuring of the unsustainable public debt.

Out of a total foreign debt of some $ 61 billion, the Government has been planning to restructure only the commercial debt of the Central Government and what had been borrowed from bilateral sources. There, China, a major lender, had been uncooperative with the rest of the creditors. After long negotiations, it had offered only a loan moratorium of two years, which would indeed increase Sri Lanka’s foreign debt obligations. Hence, the bailout is now notorious for getting postponed every month. 

Bangladesh, which does not have this debt sustainability problem, was able to secure the loan within two months. With the non-delivery of the IMF bailout in time, Sri Lanka’s foreign exchange issue has now become more catastrophic. 

On the growth side, Sri Lanka’s economy is shrinking every year. Growth had been in the negative range by 9% in 2022 followed by a further negative growth of about 4-5% in 2023. President Wickremesinghe is planning to make Sri Lanka a developed country by 2048 when Sri Lanka will celebrate the centenary of independence from the British. To reach this goal, it is necessary to increase the per capita income which stands at about $ 3,000 at present to above $ 12,000 by 2048. 

The underlying minimum growth rate needed to reach this goal is about 8% at a compound rate over the next 25-year period. This requires a concrete economic plan to be implemented by all successive governments. This is a formidable challenge, and it has so far not been properly addressed by Sri Lanka.

How do you view the revenue generation mechanisms adopted by the Government this year? Are they progressive or regressive? Are they practical and sustainable?

The Government is planning to increase revenue to Rs. 3.4 trillion in 2023 mainly through increased income and value-added taxes. In economics, this strategy is known as revenue-based fiscal consolidation, meaning the measures being adopted to reduce the budget gap to a manageable level through an increase in revenue. This is the prescription by the IMF.

What is to be done is, as I have mentioned above, is the adoption of both revenue-based and expenditure cut-based fiscal consolidation. Without the expenditure cut in operation, any increase in revenue through taxes will be like watering a sinking well. The revenue will disappear faster than the Treasury officials can even touch it.

In this connection, the Treasury Secretary’s recent directive that all Government entities should cut their expenditure by 6% is in the correct direction but not sufficient compared with a gross budget gap of some 28% of estimated GDP, as I have pointed out above. There should be a ‘great shrinking plan’ put into operation by the Government. 

There is heavy opposition to the move to increase Pay As You Earn (PAYE) tax. How do you view this move?

PAYE has now been re-designated as Advance Payment of Income Tax or APIT. The popular perception refers to this as a tax. It is not a tax but only a more convenient method of collecting taxes. The tax is the income tax.

Gotabaya Rajapaksa’s move to cut both income and value-added taxes in 2019 was an extremely costly measure. It created an unfillable hole in the Budget, amounting to about 4% of GDP. Similarly, Ranil Wickremesinghe’s tax increases appear to be an extreme measure at the other end.

There have been some major defects in this measure. One is the disregard of rising inflation when the threshold limit of Rs. 100,000 per month was fixed. As I have mentioned above, rising inflation has cut the income of people by about 70%. There, the people have already paid an inflation tax of about 70% on their current earnings. Hence, there is a reasonable case for increasing the threshold limit to the previous level of Rs. 250,000.

The other defect is the high tax slabs and tax rates. At the lower level, people should have been taxed at about 1-2% instead of the 6-12% imposed now. As it has been done in countries like Singapore, the highest rates of taxes should have been applied to high-income people. Right now, with increasing opposition to the tax changes, it will be a serious challenge for the Government to implement it. 

While revenue generation is important, negative impacts on people’s purchasing power in turn negatively impact the overall economy. How can these factors be balanced and managed favourably?

Already the real income level of people has been reduced by about 70% through accelerated inflation. People have already been forced to cut their consumption. The same principle should be applied to the Government too. Instead of going for a great Government shrinking programme, the gross expenditure of the Government has been increased to Rs. 11.7 trillion, as I mentioned above.

Both private citizens and the Government should implement a joint programme of living a simple lifestyle, managing within the resources available, and using all real resources to increase the real output of the country. This was done by the Japanese after World War II, when their country had been destroyed beyond recovery by the disastrous war that included the dropping of two atomic bombs. 

The brain drain, especially in relation to professionals, is a very real threat. What is the impact this will have on the economy and how can it be tackled in the current environment?

The movement of people from one country to another seeking greener pastures had been the normal trend ever since Homo sapiens had left Africa some 70,000 years ago. In Sri Lanka, the trend had been for people from other countries to come and settle down here till recently.

At present, young professionals are planning to do an outward migration in large numbers. This is evident from the dramatic increase in the number of passports issued by the Immigration and Emigration authorities in 2022 compared with 2021. Is this a cost to Sri Lanka? The answer is ‘yes’ and ‘no’. 

No, because it is a safety valve to release the social pressure being built within the country and a shock absorber to permit the economy to move forward smoothly. When a country fails to create conditions conducive for its people to realise their life aspirations, a great deal of social tensions begin to build up within the system, becoming both implosive and explosive. The social cooling systems that would naturally neutralise those tensions before they reach the boiling point have been disabled by the present Government by using authoritative power to repress the people. In that context, young people leaving Sri Lanka is a relief. 

Yes, because Sri Lanka loses young talents in large numbers and does not have resources to train a new batch immediately. Hence, what should be done is to have a policy of open migration, under which it should entertain both inward and outward migration as had been practised by ancient Lankan kings throughout history. Further, instead of branding those who leave as traitors, let them go, gain experience, and accumulate capital. Then, it is Sri Lanka’s job to create conditions conducive for them to return and contribute to economic growth. 

This was the policy adopted by Vietnam to encourage the boat people to return with money, experience, and entrepreneurship. India also created a Silicon Valley in Bangalore by adopting the same policy. Let Sri Lanka also follow these good practices.

The IMF has called for an increase in welfare programmes, while the Government also needs to increase revenue. Some of the revenue generation steps taken are pushing people into economic hardship. How can these two goals, which are seemingly at odds, be feasibly met?

There is no conflict between the two goals as perceived by many. Normally, when an economy goes through a reform programme aimed at those who can work harder and make a better contribution, there are segments that fail to reap the benefits and as a result fall through the system. Hence, there should be a mechanism to capture them through a social safety net, allow them to gain capacity to operate under the new reformed economic system, and integrate them seamlessly to the mainstream of the economy.

Sri Lanka’s social welfare programmes have failed to incorporate these last two requirements. As a result, welfare was just a consumption-oriented safety net. 

There is another grave error being committed by the present Government. In the Budget 2023, President Ranil Wickremesinghe introduced a new tax called the Social Security Contribution Levy of 2.5% payable by businesses. Instead of crediting this to a special fund for use of welfare programmes, it is treated as general revenue of the Government. Thus, it goes to the general kitty and is used for numerous extravagant programmes of the Government. 

Where do things now stand with regard to the IMF programme? Without the uniformity that the IMF has called for in relation to Sri Lanka’s bilateral creditors, where will we stand with regard to the EFF?

The ball is now in Sri Lanka’s Foreign Ministry’s court because China, a major bilateral and commercial creditor, has come out as the ‘holdout creditor,’ blocking the smooth debt restructuring plan prepared by the Finance Ministry for use at the Paris Club dealing with bilateral loans and London Club dealing with commercial loans.

China says ‘no to a haircut,’ the normal method of restructuring debt, and offers only a debt moratorium under which Sri Lanka will not pay loan instalments for two years. It provides a relief to Sri Lanka’s strained foreign payments, but it does not reduce its foreign debt liabilities because deferred loan instalments will be added to the principal, increasing the total amount repayable. Therefore, it is an acid test of the handling of foreign affairs by the Ranil Wickremesinghe Government. 

As we mark 75 years since independence, what is your outlook for Sri Lanka in the year ahead and in the next decade?

The future of Sri Lanka is bleak without a concrete plan to rescue the economy. The Ranil Wickremesinghe administration and the MPs supporting his Government behave as if there is no economic crisis in the country right now. It is only President Ranil Wickremesinghe who makes pronouncements about the difficult period ahead and opines that Sri Lankans should be ready for the worst crisis in the future. What is the use of such pronouncements if no action is taken to address the issues?