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Budget 2021 likely to worsen macroeconomic instability amidst COVID-19 pandemic

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By Prof. Sirimevan Colombage

The Budget Speech 2021 was presented at a time when the country is being severely hit by the COVID-19 pandemic. GDP growth is projected to be down to negative 2 percent this year. Despite this economic setback, the government envisages to maintain an inclusive GDP growth rate of 6 percent per annum over the medium-term while containing inflation to around 5 percent, according to its macroeconomic programme, ‘Vistas of Prosperity and Splendour’.

 

Less emphasis on COVID-19

Given such optimistic targets, it is somewhat puzzling that the Budget Speech does not pay much attention to Covid-19 pandemic which has paralyzed virtually all economic activities by now. Reflecting mixed-up priorities, the Budget has given undue resource allocations at this difficult juncture to some arbitrarily selected projects such as urban townships, sports, road construction and walking paths, which have no direct relevance to revive the pandemic-hit economy, though they may have their own merits during normal times.

A coherent economic recovery strategy, apart from the fiscal and monetary stimulus already granted, is the need of the hour to revive the economy from the fallout. The pandemic has severe consequences on the Sri Lankan economy, which had already encountered multiple economic setbacks including low economic growth, fiscal disarrays, balance of payments deficits and foreign debt burden even prior to the health crisis. The pandemic has adversely affected the export sector, domestic production, inward remittances and distribution network. Poor households who are mostly working in the informal sector with irregular income sources have become extremely vulnerable in the present crisis situation.

 

Escalating fiscal imbalance

The budget deficit is projected to rise by 24 percent from Rs. 1,266 bn. (7.9 percent of GDP) in 2020 to Rs. 1,565 bn. (8.9 percent of GDP) in 2021, reflecting a severe deterioration of the fiscal position (Figure 1). It is expected that the total revenue would rise by 28 percent in 2021 as against 26 percent increase in total expenditure. Such exorbitant revenue growth cannot be expected for a single year even during normal times. The projected increase in revenue is said to be based on the assumption of 5 percent growth in GDP in 2021. This assumption seems to be over-optimistic considering the negative impact of COVID-19 in years to come, and the country’s limited growth potential experienced even before the outbreak of the pandemic. Slower GDP growth in 2021 means low level of government revenue, and consequent expansion of the budget deficit much higher than what is expected. Thus, the budget deficit is likely to be 10 percent of GDP or more in 2021.

 

Monetary implications of fiscal imbalance

With the rise in the budget deficit, the government is compelled to rely increasingly on the banking system to finance the deficit. Net bank credit to the government rose by 46 percent from Rs. 2,732 bn. in September 2019 to Rs.3.980 bn. in September 2020. The Central Bank has accommodated government finance requirements by directly purchasing Treasury Bills at primary auctions. The Central Bank’s net credit to the government rose by 50.8 percent from Rs. 383.2 bn. in September 2019 to Rs. 577.7 bn. in September 2020.

The monetary easing policy adopted by the Central Bank to relieve the households and businesses adversely affected by Covid-19 too accelerated the annual money growth from 7.4 percent in September 2019 to 19.2 percent in September 2020 (Figure 2). The monetary easing measures included sequential reductions of the policy interest rates and Statutory Reserve Ratio (SRR), which led to inject substantial liquidity into the market, and to reduce borrowing costs significantly. Concessional credit schemes were also introduced to facilitate the activities of Small and Medium-scale Enterprises (SMEs), alongside debt moratoria granted for businesses and individuals distressed by the pandemic.

Nevertheless, the annual growth of commercial bank credit to the private sector has remained stagnant around 5 percent reflecting the slow pick up of economic activities. In contrast, net commercial bank credit to the government rose by 44.9 percent in the 12-month period ending September 2020. In this background, the excessive money supply growth is bound to create demand pressures augmenting inflation and imports in the coming months.

 

Inflation-targeting monetary policy missing

Surprisingly, the Budget Speech does not make any reference to monetary policy which is vital in achieving macroeconomic stability, and sustaining economic growth. The Central Bank made concerted efforts about two years ago to launch the inflation-targeting monetary policy framework with the expectation of close coordination with fiscal authorities while regaining its independence. I categorically warned in these columns that such efforts would be suicidal for the Central Bank, unless the fiscal sector is aligned with such process committing to low budget deficits.

It is evident by now that inflation-targeting monetary policy is a remote possibility, as such policy is completely neglected not only by the fiscal authorities in the latest Budget Speech, but also by its architect, the Central Bank. Inflation-targeting monetary policy framework is not focused in the Central Bank’s publication, ‘Recent Economic Developments – Highlights of 2020 and Prospects for 2021’.

Understandably, it is not feasible to implement such rule-based policy amidst the current economic crisis, but the Central Bank should have displayed its long-term commitment to run the inflation-targeting monetary policy framework, which was declared with much grandeur not so long ago. That would strengthen the Central Bank’s independence, which is vital to operate monetary policy without undue political interference.

Demand pressures mounting

The easy monetary policy implemented by the Central Bank under the Presidential directive following the pandemic is unlikely to boost production activities significantly as expected, given the inherent weaknesses of enterprises, uncertain macroeconomic environment and imperative health-related precautionary measures imposed by the government including curfews, lockdowns and travel restrictions.

The global economic downturn resulting from the pandemic has dampening effects on the export sector. Further, business decisions in the private sector are mostly based on comparisons of the expected rate of return on investment vis-à-vis opportunity cost of investment. Interest rates represent the opportunity cost while expectations are influenced by many factors including macroeconomic economic environment, technological changes, exchange rate volatility, capacity utilization, export competitiveness, aggregate demand, fiscal stability, inflation, political stability, business confidence, and cost of production.

The present low interest rate environment encourages consumption, as savings yield low returns. Thus, low interest rates have negative effects on domestic savings. This is reflected in the downfall of domestic savings rate from 24.8 percent of GDP in the first half of 2019 to 20.8 percent in the corresponding period of 2020. Meanwhile, private consumption rose from 66.7 percent of GDP in the first half on 2019 to 70.5 percent in the same period of 2020. Given the low returns on savings, the surplus-fund holders tend to move to alternative assets such as commodities, real estate and risky financial instruments. Such fund diversions lead to distort investment decisions, and to create asset bubbles harming financial stability.

The rising consumption demand has spill-over effects on domestic production and imports exerting pressures on inflation and balance of payments deficits. Inflation, in addition to cheap credit, makes imports attractive and exports unprofitable, causing further deterioration of the trade balance. Unless the exchange rate is allowed to depreciate freely to achieve external equilibrium, import restrictions become imperative to avoid deterioration of the trade deficit. This type of inward-looking foreign trade policy seems to be the government’s policy choice at present, as can be evident from several import controls imposed in recent times. Although such measures are inevitable amidst the pandemic, it must be noted that they have adverse consequences on competitiveness, productivity and export-led growth in the long run. Hence, it is important to phase out import restrictions and to allow free trade.

Policy concerns

Given Sri Lanka’s long track record of low economic growth and macroeconomic imbalances, it is a major policy challenge to mitigate the economic fallout from COVID-19. Budget 2021 does not contain any coherent policy strategy to overcome the crisis. The budget deficit in 2021 is likely to be much higher than what is given in the official projections due to inevitable revenue shortfalls and expenditure overruns amidst the pandemic. In financing the widening budget deficit, increased reliance on bank borrowings results in liquidity injections, and consequent pressures on the money supply, inflation and balance of payments. The import restrictions imposed recently to arrest the balance of payments deficit might give wrong signals to the market depressing outward-oriented growth. Meanwhile, recourse to foreign borrowings escalates the already heavy external debt burden.

The response of the private sector to monetary easing seems rather weak due to structural factors while cheap credit has tended to encourage extravagant consumption, speculative asset holdings and risky financial dealings. The neglect of inflation-targeting monetary policy launched by the Central Bank about two years ago is a matter of concern from the viewpoint of optimal monetary-fiscal policy mix. A systematic growth strategy, backed by a realistic macroeconomic framework, is essential to recover the economy.

(The author is Emeritus Professor in Economics at the Open University of Sri Lanka)


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Islamophobia and the threat to democratic development

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There’s an ill more dangerous and pervasive than the Coronavirus that’s currently sweeping Sri Lanka. That is the fear to express one’s convictions. Across the public sector of the country in particular many persons holding high office are stringently regulating and controlling the voices of their consciences and this bodes ill for all and the country.

The corrupting impact of fear was discussed in this column a couple of weeks ago when dealing with the military coup in Myanmar. It stands to the enduring credit of ousted Myanmarese Head of Government Aung San Suu Kyi that she, perhaps for the first time in the history of modern political thought, singled out fear, and not power, as the principal cause of corruption within the individual; powerful or otherwise.

To be sure, power corrupts but the corrupting impact of fear is graver and more devastating. For instance, the fear in a person holding ministerial office or in a senior public sector official, that he would lose position and power as a result of speaking out his convictions and sincere beliefs on matters of the first importance, would lead to a country’s ills going unaddressed and uncorrected.

Besides, the individual concerned would be devaluing himself in the eyes of all irrevocably and revealing himself to be a person who would be willing to compromise his moral integrity for petty worldly gain or a ‘mess of pottage’. This happens all the while in Lankan public life. Some of those who have wielded and are wielding immense power in Sri Lanka leave very much to be desired from these standards.

It could be said that fear has prevented Sri Lanka from growing in every vital respect over the decades and has earned for itself the notoriety of being a directionless country.

All these ills and more are contained in the current controversy in Sri Lanka over the disposal of the bodies of Covid victims, for example. The Sri Lankan polity has no choice but to abide by scientific advice on this question. Since authorities of the standing of even the WHO have declared that the burial of the bodies of those dying of Covid could not prove to be injurious to the wider public, the Sri Lankan health authorities could go ahead and sanction the burying of the bodies concerned. What’s preventing the local authorities from taking this course since they claim to be on the side of science? Who or what are they fearing? This is the issue that’s crying out to be probed and answered.

Considering the need for absolute truthfulness and honesty on the part of all relevant persons and quarters in matters such as these, the latter have no choice but to resign from their positions if they are prevented from following the dictates of their consciences. If they are firmly convinced that burials could bring no harm, they are obliged to take up the position that burials should be allowed.

If any ‘higher authority’ is preventing them from allowing burials, our ministers and officials are conscience-bound to renounce their positions in protest, rather than behave compromisingly and engage in ‘double think’ and ‘double talk’. By adopting the latter course they are helping none but keeping the country in a state of chronic uncertainty, which is a handy recipe for social instabiliy and division.

In the Sri Lankan context, the failure on the part of the quarters that matter to follow scientific advice on the burials question could result in the aggravation of Islamophobia, or hatred of the practitioners of Islam, in the country. Sri Lanka could do without this latter phobia and hatred on account of its implications for national stability and development. The 30 year war against separatist forces was all about the prevention by military means of ‘nation-breaking’. The disastrous results for Sri Lanka from this war are continuing to weigh it down and are part of the international offensive against Sri Lanka in the UNHCR.

However, Islamophobia is an almost world wide phenomenon. It was greatly strengthened during Donald Trump’s presidential tenure in the US. While in office Trump resorted to the divisive ruling strategy of quite a few populist authoritarian rulers of the South. Essentially, the manoeuvre is to divide and rule by pandering to the racial prejudices of majority communities.

It has happened continually in Sri Lanka. In the initial post-independence years and for several decades after, it was a case of some populist politicians of the South whipping-up anti-Tamil sentiments. Some Tamil politicians did likewise in respect of the majority community. No doubt, both such quarters have done Sri Lanka immeasurable harm. By failing to follow scientific advice on the burial question and by not doing what is right, Sri Lanka’s current authorities are opening themselves to the charge that they are pandering to religious extremists among the majority community.

The murderous, destructive course of action adopted by some extremist sections among Muslim communities world wide, including of course Sri Lanka, has not earned the condemnation it deserves from moderate Muslims who make-up the preponderant majority in the Muslim community. It is up to moderate opinion in the latter collectivity to come out more strongly and persuasively against religious extremists in their midst. It will prove to have a cementing and unifying impact among communities.

It is not sufficiently appreciated by governments in the global South in particular that by voicing for religious and racial unity and by working consistently towards it, they would be strengthening democratic development, which is an essential condition for a country’s growth in all senses.

A ‘divided house’ is doomed to fall; this is the lesson of history. ‘National security’ cannot be had without human security and peaceful living among communities is central to the latter. There cannot be any ‘double talk’ or ‘politically correct’ opinions on this question. Truth and falsehood are the only valid categories of thought and speech.

Those in authority everywhere claiming to be democratic need to adopt a scientific outlook on this issue as well. Studies conducted on plural societies in South Asia, for example, reveal that the promotion of friendly, cordial ties among communities invariably brings about healing among estranged groups and produces social peace. This is the truth that is waiting to be acted upon.

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Pakistan’s love of Sri Lanka

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By Sanjeewa Jayaweera

It was on 3rd January 1972 that our family arrived in Karachi from Moscow. Our departure from Moscow had been delayed for a few weeks due to the military confrontation between Pakistan and India. It ended on 16th December 1971. After that, international flights were not permitted for some time.

The contrast between Moscow and Karachi was unbelievable. First and foremost, Moscow’s temperature was near minus 40 degrees centigrade, while in Karachi, it was sunny and a warm 28 degrees centigrade. However, what struck us most was the extreme warmth with which the airport authorities greeted our family. As my father was a diplomat, we were quickly ushered to the airport’s VIP Lounge. We were in transit on our way to Rawalpindi, the airport serving the capital of Islamabad.

We quickly realized that the word “we are from Sri Lanka” opened all doors just as saying “open sesame” gained entry to Aladdin’s cave! The broad smile, extreme courtesy, and genuine warmth we received from the Pakistani people were unbelievable.

This was all to do with Mrs Sirima Bandaranaike’s decision to allow Pakistani aircraft to land in Colombo to refuel on the way to Dhaka in East Pakistan during the military confrontation between Pakistan and India. It was a brave decision by Mrs Bandaranaike (Mrs B), and the successive governments and Sri Lanka people are still enjoying the fruits of it. Pakistan has been a steadfast and loyal supporter of our country. They have come to our assistance time and again in times of great need when many have turned their back on us. They have indeed been an “all-weather” friend of our country.

Getting back to 1972, I was an early beneficiary of Pakistani people’s love for Sri Lankans. I failed the entrance exam to gain entry to the only English medium school in Islamabad! However, when I met the Principal, along with my father, he said, “Sanjeewa, although you failed the entrance exam, I will this time make an exception as Sri Lankans are our dear friends.” After that, the joke around the family dinner table was that I owed my education in Pakistan to Mrs B!

At school, my brother and I were extended a warm welcome and always greeted “our good friends from Sri Lanka.” I felt when playing cricket for our college; our runs were cheered more loudly than of others.

One particular incident that I remember well was when the Embassy received a telex from the Foreign inistry. It requested that our High Commissioner seek an immediate meeting with the Prime Minister of Pakistan, Mr Zulifikar Ali Bhutto (ZB), and convey a message from Mrs B. The message requested that an urgent shipment of rice be dispatched to Sri Lanka as there would be an imminent rice shortage. As the Ambassador was not in the station, the responsibility devolved on my father.

It usually takes about a week or more to get an audience with the Prime Minister (PM) of a foreign country due to their busy schedule. However, given the urgency, my father spoke to the Foreign Ministry’s Permanent Sectary, who fortunately was our neighbour and sought an urgent appointment. My father received a call from the PM’s secretary around 10 P.M asking him to come over to the PM’s residence. My father met ZB around midnight. ZB was about to retire to bed and, as such, was in his pyjamas and gown enjoying a cigar! He had greeted my father and had asked, “Mr Jayaweera, what can we do for great friend Madam Bandaranaike?. My father conveyed the message from Colombo and quietly mentioned that there would be riots in the country if there is no rice!

ZB had immediately got the Food Commissioner of Pakistan on the line and said, “I want a shipload of rice to be in Colombo within the next 72 hours!” The Food Commissioner reverted within a few minutes, saying that nothing was available and the last export shipment had left the port only a few hours ago to another country. ZB had instructed to turn the ship around and send it to Colombo. This despite protests from the Food Commissioner about terms and conditions of the Letter of Credit prohibiting non-delivery. Sri Lanka got its delivery of rice!

The next was the visit of Mrs B to Pakistan. On arrival in Rawalpindi airport, she was given a hero’s welcome, which Pakistan had previously only offered to President Gaddafi of Libya, who financially backed Pakistan with his oil money. That day, I missed school and accompanied my parents to the airport. On our way, we witnessed thousands of people had gathered by the roadside to welcome Mrs B.

When we walked to the airport’s tarmac, thousands of people were standing in temporary stands waving Sri Lanka and Pakistan flags and chanting “Sri Lanka Pakistan Zindabad.” The noise emanating from the crowd was as loud and passionate as the cheering that the Pakistani cricket team received during a test match. It was electric!

I believe she was only the second head of state given the privilege of addressing both assemblies of Parliament. The other being Gaddafi. There was genuine affection from Mrs B amongst the people of Pakistan.

I always remember the indefatigable efforts of Mr Abdul Haffez Kardar, a cabinet minister and the President of the Pakistan Cricket Board. From around 1973 onwards, he passionately championed Sri Lanka’s cause to be admitted as a full member of the International Cricket Council (ICC) and granted test status. Every year, he would propose at the ICC’s annual meeting, but England and Australia’s veto kept us out until 1981.

I always felt that our Cricket Board made a mistake by not inviting Pakistan to play our inaugural test match. We should have appreciated Mr Kardar and Pakistan’s efforts. In 1974 the Pakistan board invited our team for a tour involving three test matches and a few first-class games. Most of those who played in our first test match was part of that tour, and no doubt gained significant exposure playing against a highly talented Pakistani team.

Several Pakistani greats were part of the Pakistan and India team that played a match soon after the Central Bank bomb in Colombo to prove that it was safe to play cricket in Colombo. It was a magnificent gesture by both Pakistan and India. Our greatest cricket triumph was in Pakistan when we won the World Cup in 1996. I am sure the players and those who watched the match on TV will remember the passionate support our team received that night from the Pakistani crowd. It was like playing at home!

I also recall reading about how the Pakistani government air freighted several Multi Barrell artillery guns and ammunition to Sri Lanka when the A rmy camp in Jaffna was under severe threat from the LTTE. This was even more important than the shipload of rice that ZB sent. This was crucial as most other countries refused to sell arms to our country during the war.

Time and again, Pakistan has steadfastly supported our country’s cause at the UNHCR. No doubt this year, too, their diplomats will work tirelessly to assist our country.

We extend a warm welcome to Mr Imran Khan, the Prime Minister of Pakistan. He is a truly inspirational individual who was undoubtedly an excellent cricketer. Since retirement from cricket, he has decided to get involved in politics, and after several years of patiently building up his support base, he won the last parliamentary elections. I hope that just as much as he galvanized Sri Lankan cricketers, his political journey would act as a catalyst for people like Kumar Sangakkara and Mahela Jayawardene to get involved in politics. Cricket has been called a “gentleman’s game.” Whilst politics is far from it!.

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Covid-19 health rules disregarded at entertainment venues?

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Believe me, seeing certain videos, on social media, depicting action, on the dance floor, at some of these entertainment venues, got me wondering whether this Coronavirus pandemic is REAL!

To those having a good time, at these particular venues, and, I guess, the management, as well, what the world is experiencing now doesn’t seem to be their concerned.

Obviously, such irresponsible behaviour could create more problems for those who are battling to halt the spread of Covid-19, and the new viriant of Covid, in our part of the world.

The videos, on display, on social media, show certain venues, packed to capacity – with hardly anyone wearing a mask, and social distancing…only a dream..

How can one think of social distancing while gyrating, on a dance floor, that is over crowded!

If this trend continues, it wouldn’t be a surprise if Coronavirus makes its presence felt…at such venues.

And, then, what happens to the entertainment scene, and those involved in this field, especially the musicians? No work, whatsoever!

Lots of countries have closed nightclubs, and venues, where people gather, in order to curtail the spread of this deadly virus that has already claimed the lives of thousands.

Thailand did it and the country is still having lots of restrictions, where entertainment is concerned, and that is probably the reason why Thailand has been able to control the spread of the Coronavirus.

With a population of over 69 million, they have had (so far), a little over 25,000 cases, and 83 deaths, while we, with a population of around 21 million, have over 80,000 cases, and more than 450 deaths.

I’m not saying we should do away with entertainment – totally – but we need to follow a format, connected with the ‘new normal,’ where masks and social distancing are mandatory requirements at these venues. And, dancing, I believe, should be banned, at least temporarily, as one can’t maintain the required social distance, while on the dance floor, especially after drinks.

Police spokesman DIG Ajith Rohana keeps emphasising, on TV, radio, and in the newspapers, the need to adhere to the health regulations, now in force, and that those who fail to do so would be penalised.

He has also stated that plainclothes officers would move around to apprehend such offenders.

Perhaps, he should instruct his officers to pay surprise visits to some of these entertainment venues.

He would certainly have more than a bus load of offenders to be whisked off for PCR/Rapid Antigen tests!

I need to quote what Dr. H.T. Wickremasinghe said in his article, published in The Island of Tuesday, February 16th, 2021:

“…let me conclude, while emphasising the need to continue our general public health measures, such as wearing masks, social distancing, and avoiding crowded gatherings, to reduce the risk of contact with an infected person.

“There is no science to beat common sense.”

But…do some of our folks have this thing called COMMON SENSE!

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