The country is facing a downward spiral in the economy. Will it be a temporary phenomenon as assumed by the government which hopes to restore 7-8% growth in the next two years, or a secular decline? There is the balance of payments crisis with exports continuing to fall while imports are still rising despite a deceleration in the rate of decline. Many investors in the stock market are burnt and left holding unrealised losses. Owing to the balance of payments crisis the Central Bank has to tighten monetary policy by imposing a ceiling on credit provision by the banks. With the current account in the balance of payments being in deficit the money supply is declining (unless offset by foreign capital inflows) which is pushing up the interest rates unless the Central Bank prints more money by buying up Treasury securities. If it doesn’t do so, interest rates will go up and the debt servicing charge of the government will move up. If it does, then inflation will move up and worsen the lot of the poor but also create distortions in the economy – discouraging long term private sector investments. It will also create a bubble in the stock market and land market. In this situation, it is the growth in the private sector that will be curtailed.The budget speech says the budget deficit will be reduced to 5.8% of the GDP. It is Rs507 billion and the nominal GDP next year would then be Rs8742 billion. This seems to be overly optimistic.Living beyond our means
The crisis was brought on by the massive investment in infrastructure by the Government, funded not by domestic savings but foreign savings received in the
form of loans.What sort of budget is called for in these circumstances? Certainly not more of the same kind as in the previous years. The authorities (at least the secretary to the Treasury – ST) seem to have realised the risks involved. He has said that he would not resort to foreign borrowing for the budget in 2015. Foreign borrowings in the next year’s budget has been held down at Rs234 billion of which Rs143 billion is for repayment of foreign debt. He is now urging the private sector to borrow from foreign countries instead. But the risk of over-borrowing applies to the national debt and not only to the government debt. A better option is to limit government investment for if the Government borrows locally instead of from abroad it would pre-empt resources from the private sector and also crowd out private sector investment.
A better option is to attract more direct foreign investments to the country. This is really the selling of our assets instead of building up foreign liabilities. Apparently the Government will not sell land to foreigners. But foreigners cannot take away the land and if anyone invests in land and develops it, it will benefit the whole country whether they are foreigners or not. An economist cannot see any opposition to foreigners owning land. There should instead be liberalisation of rules regarding foreigners buying land or local businesses. Portfolio investment too should be liberalised and foreign investors allowed to buy local stocks and bonds freely without having to open special foreign investments called SIERA accounts.
Liberalisation of
portfolio investments
There is provision in the CEPA for liberalisation of portfolio investments including the cross listing of our companies in Indian stock exchanges (and Pakistan too). It is better to sell our assets rather than borrow from foreigners for if we run into a debt crisis we would have to force sell our assets at knock down prices or even see them being seized for debt default.
Both the present Government and the people have been living beyond their means and still continue to do so. This is made possible by the false economy created by a plethora of subsidies and free goods and services provided by the Government – free education, free health care, cash grants like Samurdhi, the diesel subsidy, the electricity subsidy. But the scarcity of resources and the fundamental economic problem cannot be wished away. The budget has failed to tackle the oil and the electricity subsidies and the losses incurred by the state owned business undertakings. The fertiliser subsidy is also a burden but some modification seems to be hinted at by way of recovering part of it as a crop insurance premium. This budget deserves to be remembered for the liberalisation and deregulation. Tapping a kitul tree would require a license from the grama niladhari and even after obtaining the licence it would be necessary to prove to the authorities that the licence is applied to one tree and not to another as the ST himself pointed out. This has now been done away with. Of course it was not necessary to wait for the budget to do so. The SME sector which accounts for over 70% of the economy has at last been given much needed tax relief. The tax rate is 12% and with the raising of the threshold to pay VAT and NDT. The SME sector has been exempted from these taxes. The ST said the deregulation must be carried forward to the Municipal Councils and local authorities, for there too the SME sector is subject to much hassle by way of licences. The cost of doing business must be reduced not only to the corporate sector but also to the SMEs. Has the Government at last realised the need to run a market economy rather than a regulated economy? But the size of the government sector must be brought down. Since the Government policy is not to privatise it must at least outsource some of the activities which are high cost or where cost control is difficult. This process was taken up by the Colombo Municipal Council with regard to garbage collection.
Tax exemptions and tax reliefs
Several incentives have been introduced through the budget to provide a stimulus to economic activities which is desirable. The ST mentioned that investment relief and additional deductions for depreciation have also been provided for a host of such economic activities. He referred to relief for investment in cold storage facilities which could promote the preservation of fruits and vegetables which often go waste during seasonal gluts.
Several incentives have been provided to invest in bonds both government and corporate. We need to build a corporate bond market and to expand the secondary market in government bonds. The proposal to allow Municipal Councils to issue their own bonds is a step in the right direction. This will strengthen local government governance for, to be able to issue their own bonds these authorities will have to be run efficiently with budget surpluses. Withholding tax on interest has been removed and this should promote more activity in the secondary market in bonds. The state corporations too should be encouraged to issue debentures instead of being funded by the Treasury.
Making a budget is only part of the job. The more difficult part is to see that it is implemented.
