Sri Lanka fiscal discipline key to economic growth: report

Fiscal discipline by Sri Lanka’s government will be critical to ensure economic recovery and sustained, high growth anticipated with the end of the ethnic war, RAM Ratings agency said. “Sri Lanka is now well poised to achieve high sustainable growth, as the end of the armed conflict provides the government with the opportunity to create a stable macroeconomic environment where industries and businesses can thrive,” it said.”Fiscal discipline remains the key to supporting a sustainable rise in national savings and investment rates, in consonance with a reallocation of scarce resources to the productive sectors.”

This will eventually result in less crowding out of private-sector financing by government borrowings, the rating agency said in a report on the island’s economic prospects.

The government’s budget deficit is expected to narrow as it exercises “fiscal discipline and reins in military spending” after the war, the rating agency said.

Government forces defeated the Tamil Tiger separatists in May, ending a 30-year war, and raising hopes of an economic recovery.

“The country’s persistently hefty fiscal deficit has been driven by an unsustainable rise in government spending,” RAM Ratings said.

Sri Lanka has long had high budget deficits with a tendency towards what has been called ‘fiscal profligacy’ by successive governments which have maintained a bloated state sector and heavy subsidies to win votes.

RAM Ratings said it expects the government’s fiscal position to improve in the medium term through two channels.

“The first channel is a reduction in military expenditure, estimated at nearly 10 percent of total expenditure, towards the end of the conflict.

“The other way is through an enlarged tax base, as more military personnel (three percent of the labour force in 2008) and displaced war refugees enter the domestic labour market in the coming years.”

The rating agency said the government expected to take gradually tackle fiscal deficits without derailing growth and social support.

“With the end of the armed conflict, it will be easier for the government to rein in excessive spending, especially on arms purchases and military campaigns.

“A virtuous circle of fiscal sustainability, increased market confidence (both investors and consumers) and financial stability will support a sustainable rise in national savings, to finance the current and projected expansion in capital investment.”