Budget 2017: Significant improvement if not marred by policy inconsistencies and interference with t

Finance Minister Ravi Karunanayake delivering the Budget Speech

A significant improvement in Budget 2017

The Budget 2017, presented by Finance Minister Ravi Karunanayake in Parliament on 10 November, is a significant improvement from his first Budget for 2016. In fact, there was no Budget for 2016 since most of the Budget proposals had to be withdrawn even before the Budget was approved by Parliament. The worst outcome was that instead of aligning itself with the goals of the economic policy statement delivered by Prime Minister Ranil Wickremesinghe in Parliament just two weeks before the Budget, it went against it with completely counterproductive policies. For instance, the Premier had announced that the goal of the Government was to change the tax structure of the country from the current overwhelming share it had for indirect taxes to direct taxes. PM had announced a target of changing it from the current indirect to direct at 80:20 to 60:40 in 2020. The Budget was to lay the foundation for this goal but it changed the ratio in the opposite direction coming up with a ratio of 87:13. The latest actual Budget outturn has been a little better with a ratio of 84:16. The reason for it had been the failure of the Ministry of Finance to have the Value Added Tax or VAT amendments passed in Parliament in time, thereby losing six months of VAT collection. The Budget 2017 has projected a further improvement with a ratio of 82:18. However, it is still far from what the Prime Minister wanted to have. These implications of the Budget 2016 to the Government’s economic policy statement were discussed by this writer in an article in this series earlier (available at: http://www.ft.lk/article/499447/Budget-2016--Has-it-laid-foundation-for-implementing-the-policy-outlined-in-EPS-of-Yahapalana-Government?-%E2%80%93-Part-3).

Howlers, in the Budget 2016

There were some howlers in the Budget 2016. One instance was taking the imputed rent value of the buildings belonging to educational and health authorities as non-tax income on one hand and expenditure on education and health on the other. This treatment that resulted in inflating both the expenditure and revenue of the Budget was contrary to the principles laid down in the Government Finance Statistics Manual of the IMF. This was discussed by this writer in another article in this series (available at: http://www.ft.lk/article/507663/Budget-2016-and-education-and-health-expenditure--Playing-numbers-games-isn-t-in-accord-with-good-governance-principles---Part-5 ). 

The promising medium term outlook in the Budget 2017

Given these weaknesses in the Budget 2016, it is encouraging that the Budget 2017 has made an attempt at reducing the Budget deficit over the medium term and improving the revenue of the Government to attain that goal. Accordingly, the Budget deficit is now projected to fall to 3% of GDP by 2020 from the current 4.6% of GDP to 3%. Accordingly, the Government debt too is to fall from 75% of GDP in 2017 to 65% by 2020. If the Government is able to attain this, it is a sizable budgetary improvement which is known in economic parlance as ‘fiscal consolidation’. It is thus the duty of all the parties in the unity Government to support the Ministry of Finance in attaining this goal which is good for the long-term development of the country.

However, the good side of the Budget 2017 has been marred by a number of howlers, inconsistencies and unhealthy interventions which the Minister of Finance should not do.

Proposal to give free tablets to A/L students and teachers

One such howler is the proposal to give a free tablet to every Advanced Level student and every teacher teaching for that examination. The obvious objective would have been to increase digital literacy among students who are to join the labour market in a few years’ time and helping teachers to keep themselves updated. Objective-wise, it is laudable since the digital literacy of Sri Lankans, as revealed by the latest survey conducted by the Department of Census and Statistics, has been just 27% of the population as at mid 2015 (available at: http://www.statistics.gov.lk/samplesurvey/ComputerLiteracy-2015Q1-Q2-final%20.pdf ). This is a national average and in the case of the estate sector, the computer literacy is just 8% of the relevant population segment. However, an encouraging sign is that those in the age category of 15-19 that represent the students in A/L classes, the computer literacy is the highest at 57%; there again, that number is almost wholly made up of those who have proficiency in English. So, Sri Lanka’s issue is not lack of computer literacy among A/L students; its issue is lack of adequate knowledge of English to harness it fully. 

Supply driven policies won’t work

The Budget 2017 has allocated Rs. 5 billion for this project, about twice the annual administration budget of a medium size university. It, therefore, poses three basic problems for the Government. Firstly, given the large number of eligible students in A/L classes which is swelling year after year and teachers who are attached to those classes, surely, the Government cannot give a good quality iPad to them. Hence, it has to go for a low quality tablet which will have a very short lifespan. Consequently, students who are happy at the time of the distribution of the tablet will be annoyed when they realise that those tablets cannot give them good service. Secondly, this type of free handouts will impose a huge drain on the Government’s resources in the future since the number would be swelling every passing year and once given, it could not be withdrawn even when the Government would find it difficult to fund it in the future. Thirdly, these are known supply driven policies and if there is no demand for them, they would be abused by the recipients totally defeating the laudable objective of the Government. In a story in YouTube, a daughter presents her father with an iPad as a birthday gift. Later, when she inquires from his how he had been using it, father shows her how he had been using it as kitchen cutting board (available at: https://www.youtube.com/watch?v=nPGY2T9r1Ok ). This is a warning about what would exactly happen to this ‘supply-driven policy’ in the Budget.

Levy on financial transactions

An example of the ‘Budget proposal inconsistency’ is the proposed levy on financial transactions. Accordingly, the Budget 2017 proposes to levy a fee of 0.05% on every financial transaction which works out to Rs. 5 per Rs. 10,000 worth of transactions. The Budget has not defined what these applicable transactions but has simply revealed that the Government expects to raise about Rs. 8 billion out of this levy. If it is applied to all the financial transactions that go through the financial services industry, the tax base in 2015 happened to be enormous at Rs. 95 trillion, roughly nine times higher than the country’s GDP. It is growing at a rate of 20% per annum generating an estimated tax base of some Rs. 137 trillion in 2017. At 0.05%, this tax base would generate some Rs. 68 billion as non-tax revenue to the Government. Surely, banks and other financial institutions cannot absorb such a big amount of money they pay as levy to the Government and they have to pass it onto the customers. Then, it would discourage large companies to pay their salaries through electronic modes of payment and individual householders to pay their bills and payments through online payment systems.

Discouraging the use of cash

In another Budget proposal, the Government has announced that it would impose a levy of 2% when bank customers withdraw more than Rs. 5 million from banks. This is again a huge tax, amounting to Rs. 100,000 per Rs. 5 million withdrawn from the bank. Since current accounts do not earn interest, this tax is unaffordable for large companies. The objective of this proposal is to encourage Sri Lankans to use digital payments as much as possible. But the above tax proposal will tax then heavily when they use digital payments as encouraged by the government. What would a rational person do in these circumstances? It is obvious. He would withdraw less than Rs. 5 million and make all his payments by using cash. Thus, the modernisation of the country’s financial system by introducing digital banking will come to a halt with two contradictory policies. The Association of Professional Bankers or APB used this as the theme of their annual sessions continuously in the five year period since they sincerely believed that that was the gateway for Sri Lanka’s banking sector in the future.

The Monetary Board should be an independent body

The Budget 2017 has also sought to encroach into the functions of the Monetary Board of the Central Bank of Sri Lanka by proposing certain proposals coming within the purview of the Monetary Board. This is against the objective of creating the Monetary Board and the Central Bank by Parliament in 1949. That objective was to allow an independent Monetary Board to manage the country’s monetary and financial systems, free from intervention of politicians or outside parties. These two functions are too precious to be left to the politicians who have personal agendas. Hence, the Monetary Law Act MLA made provisions to safeguard the position of Monetary Board members; Once appointed by the President on the recommendation of the Minister of Finance and in consultation with the Constitutional Council, they cannot be removed while they hold office at the whims and fancies of the Minister of Finance. If he desires to do so, there is a specific procedure stipulated in MLA. Further, unlike the other public sector corporations and institutions in Sri Lanka, the Monetary Board is the only entity to which the Minister of Finance cannot issue general or specific directions. However, if there is a dispute between Monetary Board and the Minister with respect any particular desire of the latter, the Minister could still have his say being carried out by the board by issuing a directive in writing to the board in terms of section 162 of MLA. But, when he issues this directive, he has to inform the board that the Government will take full responsibility of the consequences of carrying out that directive. This provision was used only on one occasion in Sri Lanka through the history of the Central Bank. That was when Prime Minister   Wijayananda Dahanayake issued a directive to the Monetary Board to reduce interest rates in 1959 so that he could win the forthcoming Parliamentary elections. In the subsequent election, the Government took full responsibility for the consequences of reducing interest rates, because his government was thrown out and he himself lost his seat in Parliament. Hence, a Minister of Finance should not take this golden provision in MLA lightly.

Unsavoury interferences with the Monetary Board

There are several proposals made in the Budget which come within the purview of the Monetary Board. One is the proposal to increase the capital of commercial banks, specialised banks and primary dealers. Another is to specify a loan to value ratio when commercial banks lend money to customers by way of leasing or hire-purchase schemes. A third is the proposal to direct the Credit Information Bureau or CRIB not to issue loan certificates for loans less than Rs. 500,000. This is against the CRIB Act because neither the Central Bank nor the Minister of Finance could issue such a direction to CRIB’s board of directors who are appointed by the individual members. A fourth is the proposal to set up a Sri Lanka payments gateway outside the Central Bank by using the software resources of the Information and Communication Technology Agency or ICTA. This is a serious proposal since it comes within the purview of the Central Bank. Further, according to banking sources, the Minister of Finance is planning to set up this payments gateway when the Central Bank has been making preparations to set up such a payments gateway by using its own outfit, namely the LankaClear which is charged with the responsibility of clearing cheques and facilitating online payments. Fifth, there is a proposal to introduce a threshold of leasing to commercial banks thereby taking them effectively out of the leasing market. Sixth, the Minister of Finance is planning to introduce mandatory credit allocations to commercial banks in accordance with priorities which he has identified. Seventh, it is also proposed to issue a directive to commercial banks that they should lend at least 15% of the deposits they mobilise in a particular area to within that area itself. The last two proposals will lead to corruption because bank managers would devise ingenious methods to allocate funds to their fathers in law and sons in law. This is the experience which India had with such mandatory credit allocations.

It is still not too late to rectify the errors

These are serious issues and it is hoped that the Government would take appropriate action to correct these howlers, inconsistencies and undue interferences with the Monetary Board before it is passed in Parliament.

(W. A Wijewardena, a former Deputy Governor 

of the Central Bank of 

Sri Lanka, could be reached at [email protected])