To be nationally poor is a public choice 0 501

By Bradley Emerson MBA Sri Jayawardenepura

The inception of my career as a banker in the late 70s was about the same time that Sri Lanka acted on a revolutionizing move to become the first South Asian nation to liberalize its trading economy. Ever since I have been hearing Sri Lanka as a “developing” nation. Fast forward to four decades and several regimes later we are still a “developing nation”. What is it to be a developing nation; What is to be a rich nation and what is it to be a poor nation. The Department of Census and Statistics records Sri Lankans per capita GDP for the year 2019 at $ 3,852 per annum whilst Singapore, who’s open trade regime were developed much later recorded a thumping $65,977. Singapore’s benchmark strategies are spoken of at many forums to highlight its economic ascension from what was once a poor country with a GDP per capita of only $320 in par with Sri Lanka. The success story of Singapore’s economic and demographic development surpasses a single systematic exposition, however, it is crucial in this context to act as an expediential comparison and maybe give an insight or two for Sri Lankans.

Following an economic growth of just 5.3% after the civil war ended and low fiscal revenues combined with mountains of debt,Sri Lanka is classified as among the developing economies by the United Nations Secretariat (UN/ DESA). Comparatively, Singapore ranks sixth highest in the world for a country that possesses half the natural resources as Sri Lanka.

How do we allow this term to dominate us?

I have been hearing of Sri Lanka being trapped by this economic definition for as long as fifty years. Our present standard of living is at least ten times behind that of Singapore, and our drastically slow pace is only weighed down by our debt portfolio. Whilst searching for answers, numerous evidence pointed to the lack of persistence and political instability coupled with low demographic development with a relatively large population earning an income that is just enough to survive.

A radical change is required to overcome this crisis, but what will continue to be a barrier to growth is only ourselves, which arrives at the core lesson to be learned before we begin our mandate. To be nationally poor is a public choice; to navigate this crisis is dependent on our determination. Only we are stopping ourselves from capitalizing on our potential.

Mynt (1973) suggests the key indicators of economic development are the level of per capita income, rate of growth of per capita income, and the widening inequality in the distribution of income, but there is much debate on the contribution of economic production to the country’s prosperity. Sri Lanka’s current account deficit in 2018 amounted to $7.57 billion which was exacerbated by a challenging external environment with the Easter attacks and now the latest COVID-19 outbreak. The country’s export performance declined from a growth rate of 4.1% to 1.44% by the end of 2019, losing out on much-needed foreign exchange that can be utilized to pay off debts. With little to no reserves and a declining rate in the exports, a call for transformation in the policies is imperative to focus on export growth.

Performance into perspective:

In 1969 following the independence of Singapore from the Malaysian Federation, a Singaporean Dollar was exchanged at $0.35 against the Sterling Pound whilst the same could be purchased at SLRS 13.40 in Ceylon. Since 1981, the monetary policy in Singapore was centered on the control of the exchange rate, and today, their currency is equal to £0.57 whilst the SLRS is 237. How did we get here? Is it not by choice? Sri Lanka like any other developing nation is a political economy. What does it mean? It means that every economic policy has the flavour or influence of the political agenda of the incumbent regime. The result is that our direct debt to GDP is around 70% and nearly 90% of our national revenue is expended to service these debts. How do we survive? Just imagine if 90% of your family income is used to service debts, how could you sustain your family without sinking deeper into debt?

There is no doubt that our country is in dire need of an effective policy to reduce an approximate one billion trade deficit a month. The deficit stems from importing more than we export which impacts our reserves. The exchange rate against the dollar reached an alltime high of Rs. 191 in April 2020. The early 2000s experienced a 2.8% yearly depreciation and it was as high as 9.1% for the four year period of 2015-2018 alone. The public has failed to grasp the reason behind the depreciation over the rupee – but the Central Bank’s quick-fixes through injection of money contributed towards a further hindrance to the growth.

In attempts to achieve the government’s export target or rather reduce the trade deficit, stringent measures and banning mechanisms have come into play. However, the effectiveness of these proposals are far from favourable along with strong opposition from the public. From an accountant’s point of view, where we are today as a nation with political interventions on the implementation of policies, fiscal account deterioration and racks of debt; we will easily be written off as ‘bankrupt’. Sri Lanka is in a fight for survival and it is our responsibility to help the nation get back on its feet.

An appeal for long-term change:

The late Prime Minister Hon. Sirimavo Bandaranaike took oath in 1960 as the world’s first female Prime Minister, yet another disruption against the conventional norms in the political economy. Her regime prioritized incentivizing the local industries and capitalizing on domestic knowledge for production. It is agreeable that the lack of an open economy failed to drive economic opportunities, however, the brutal “produce or perish” notion encourages self-sufficiency that which we lack today due to our dependency on international trade.

‘Tea, rubber, cocoa and coconut is a common man’s answer to what our main drivers of export revenue were, yet it is shameful that during 2018, our imports consisted of 5.13% of rubber and 1.89% of tea. We even import coconuts.

Lee Kuan Yew, the founding father of Modern Singapore implemented systems based upon the development of the country’s resources to improve trade and the quality of life. A notable example being the revival of the Singapore River around which businesses and factories developed. The project which took up to 10 years created a foundation for innovation, improvements in transportation, tourism, and water supply.

We possess abundant resources for our island to thrive; the agriculture industry, tea destinations and massive potential to become a global tourism hub. Known as the pearl of the Indian Ocean, our island is at a prominent location which is of the essence to create a competitive advantage. Yet, it is ironic that we import salt and fish when the sea surrounds us. In 1978 when I embarked on my first trip to India, we carried bags full of spices to be locally sold to a country where the demand for our spices was unaccountable but now we are importing spices from India. The largest contributor to export revenue of spices in 2018 was Cinnamon, which totaled at only 11.1% traded to India. The great voyager Vasco da Gama referred to then Ceylon as the land of spices and we chose to lose out on that status.

Paddy cultivation in Sri Lanka traces its roots back to 161 B.C. when Sri Lankans were skilled at making a living out of this industry. Rice crops occupy 34% of total cultivation with over 1.8 million of our population engaged in producing around 2.7 million metric tons of rice annually. The trading of cheaper and quality rice from other nations exerts pressure on Sri Lanka to improve on production. Sri Lanka has the capacity to gain international recognition as the primary rice exporter as well as create a source of employment to improve the livelihoods of many.

However, the policymakers must prioritize their earnings to invest in equipment for pre-harvest operations and marketing of the produce. According to research done by TB Adhikarinayake, the majority of the problems farmers face are related to high losses in the production chain and lack of skilled workers.

The Choice –
a change in direction:

Where are we heading? We are importing what we can produce, increasing the trade deficit, increasing the pressure on the exchange rates, and depriving our children of foreign education. In such a competitive world, the need to solve the Balance of Payment crisis is pivotal to managing the country’s finances in order to avoid a disastrous downfall. The government’s attempt to reduce the deficit by imposing import controls will only create inflationary pressures in the country if we don’t optimize the encouragement given by the government to grow.

Science and technology have given us “formula one” seeds for rice, chilies, and potatoes which can treble the output per acre. Are we making a choice to optimize these opportunities to be self-sufficient?

We have a choice, to change our destiny. Can we, yes, we can! We are poor because we chose to be so. Likewise, we can make the choice to be rich as a nation. Let’s look at a change in direction by seizing opportunities to make exports competitive, using innovative methods of technology, and by utilizing our human resources. It is about time we make use of our knowledge in agriculture, natural resources, land, diverse cultures, and our climate to attract foreign investors.

Every generation has a responsibility towards creating a sustainable nation. It is our choice to change directions to reach the destination we intend. It is our obligation to ensure that majority of our children do not experience a poor quality of life, rather a high standard of living and not to be referred to as people of a poor nation.

 

 

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Speculative Bubble In the Making 0 980

By : Kenneth De Zilwa

Speculative-Bubble-In-the-Making-Lets-Examine-the-Details
                                              Source: Thomsonreuters & Authors Calculation

The stock market rally can be put into context by analyzing its market capitalizations as percentage and Gross Fixed Capital Formations as a percentage  of GDP

The long term Market Capitalization as percentage indicates that that the Global markets as overbought and that a correction is in order.

The previous three occasion were 1997-1999 the Japan Asset bubble in and US banking crisis in trigged the fall. In 2000-2001 it was the US dotcom bubble and finally in 2007-2008 the US mortgage and derivative bubble.

Changing Debt Profile of Sri Lanka 0 856

A Recent History

Over the recent past, the Sri Lankan general public has shown a great deal of interest in the subject of national debt. This has been due to expressions like the country’s “debt trap” and “debt crisis” used extensively in political debates and propaganda. The government in power as well as the opposition has blamed one another for bringing the country into such a debt trap or a debt crisis. A gripping fear of a possibility of debt default with all its adverse consequences has been widely generated. A generally accepted rule of thumb in measuring the gravity of a country’s debt problem has been to indicate the total outstanding debt as a ratio of the country’s GDP.

In this measure, the level of aggregated debt is related to a concept of total revenue generated during a financial year. Such national debt ratio can be considered equivalent to that of a corporate balance sheet ratio of debt to equity. Figure-1 captures the behavior of Sri Lanka’s Debt/GDP ratio during 2002-18. The data indicates that during key points in time, the debt levels have being significantly higher than what it is now. However, no one spoke of a debt crisis or debt trap at those times of high debt to GDP ratio – e.g. during the early 2000s. In fact, after 2004 the ratio has been generally below 100pct. In most years after 2004, the ratio was indeed below its current debt to GDP ratio of 83pct.

The total debt stock, as at 2018, remains at USD 73.7 billion. Of this the foreign currency debt is USD 36.4 billion – 49pct of total debt or 43.3pct of GDP. The remainder is LKR based debt stock. This is still manageable given that Sri Lanka can always roll over its existing LKR based debt without too much of a problem. The banking sector’s appetite for risk free assets is high and there are the captive sources like EPF and ETF. These indeed have been the natural long term players in debt markets.

Sri Lanka’s Shift to Commercial Borrowings

The portfolio of foreign currency loans is categorized into three sub sections, namely, a) concessional, b) non-concessional and c) commercial loans. Prior to 2013, 85pct of foreign borrowings was on concessional terms (see Figure-2). This has changed in 2009 with Sri Lanka successfully entering the international sovereign bond market in its debut. This also amounted to taking the pressure off domestic financing, which until then was the only source apart from donor funding that was available. The concessional external borrowings from multi-lateral agencies and bi-lateral funding sources have continued to be on a declining trend on a net basis since 2008.

Sri Lanka was pushed into international financial markets mainly due to the fact that concessional funding was not available after the country moved up to a lower ‘Middle Income’ country status from around 2004. In fact, IMF, IDA and the World Bank have taken Sri Lanka out of the “financially vulnerable” country status, on the grounds that the country as a ‘Middle Income Country’ has the ability to access international financial markets. Sri Lanka is not among the group of 37 ‘heavily indebted poor countries’ (HIPC), which are eligible for special assistance from the IMF and the World Bank.

As at 2018, Sri Lanka’s total foreign currency debt portfolio was USD 35.4 billion. Of this only USD 9.1 billion was obtained at commercial rates from financial market sources. The remainder is at concessional and non-concessional development funding rates. In other words 53pct of the foreign loans are commercial/non-concessional.

The foreign currency debt mix is dominated by USD borrowings given that our cash inflows from external revenue sources are also predominantly based in USD. This helps the country to manage any exchange rate volatility, as the matching of cash flows does not impact the debt servicing. In 2017, infact, 61pct of the total foreign debt portfolio comprised of USD, while the next largest was in SDR (20pct) followed by Yen loans (12pct) (Figure-3).

The bilateral debt component in Sri Lanka has contributed to modern infrastructure development much more than multilateral debt (i.e. WB). A closer examination of our foreign debt profile indicates that it has long term maturities. More than 75pct of the loan portfolio is maturing beyond 5 years (Figure-5). Market borrowings comprise only 39pct of the total. Refinancing of debt stock per se is not therefore, an issue. Debt servicing is the main concern.

External Debt Holders

The noise around the China debt trap too has found its resurgence since 2014. Given the investment into capital formation pursued by the then government, these investments were undertaken given the dilapidated and outdated infrastructure Sri Lanka had prior to the war ending. Therefore, such investments were paramount in order to create investor appetite for setting plants beyond the boundaries of the Western Province.

However, the data contradicts the China debt trap rhetoric created by politicians and non-academics as it is unsubstantiated and ill conceived; in fact the largest form of external debt is by way of International Bond issuances, while bilateral borrowings are from the ADB, World Bank, and Japan, while China comes in at 4th place (Figure-6). In this context what is important to understand is that all internal bonds are fungible and hence there is no financing risk but a mere cost of financing the stock of bonds.

Debt Servicing

Sri Lanka’s export earnings are one important source of cash flow which technically can be used to service the country’s current foreign debt. The higher the potential for foreign currency earnings through exports, the better it is. The country as potential lenders are unlikely then to be over-concerned about the borrower country’s capacity for repayment. International rating agencies would consider it good for Sri Lanka if our export earnings are growing on a year on year basis at a satisfactory rate. This also reduces the foreign exchange exposure attached with rupee based debt servicing.

Sri Lanka’s foreign currency denominated commercial debt as a percentage of exports, continued to show vulnerability as year on year growth of export earnings declined in 2009, 2012 and 2015. The volatility of our merchandise exports continue. The declines in export receipts (i.e. income) have added significant pressure on the ability to service foreign debt. This has made the cash flow conditions for foreign debt management per se challenging. The need is to secure USD cash flows/revenues from revenue generating activities and assets and / or cutting down USD import expenses further. This appears to be the path towards managing our ability to maintain this debt to equity mix.

Foreign Debt Servicing

The ratio of debt service ratio to merchandise exports is the ratio that gives us comfort on the ability to service our external debt payments (i.e. principal + interest). A country’s international finances are deemed healthier when this ratio is low and ranges between 10pct to 20pct. In other words, the lower the ratio the better, as it indicates that the country consumes less of export earnings to pay off its foreign debt. The ratio of total debt service payments to exports is therefore, an important measure of a country’s ability to service foreign currency loans/debt obligations. This ratio had remained well within the stipulated norms of 10pct-20pct from 2011 to 2015. The ratio has deteriorated, moving out of the applicable norm, from 2016reflecting the impact of bunching of repayments on medium term external debt. The decline of this ratio in 2018 reflects the impact of the rise in merchandise export revenues in that year.

By: Dr Kenneth De Zilwa