ADB cuts growth forecast yet Sri Lanka above rest of South Asia

The Asian Development Bank (ADB) has cut growth forecast for Sri Lanka in this year and 2013 as part of an overall downgrade for the entire South Asian region and elsewhere owing to external factors.

In its Asian Development Outlook (ADO) Update, ADB is forecasting Sri Lanka’s GDP to grow by 6.5% this year, down from 7% projection earlier and by 7% next year, lower in comparison to 8% forecast previously. ADB also significantly downgraded the revision for overall South Asian sub region, 5.5% in 2012 and to 6.4% in 2013, almost entirely from weakness in India.



“Economic growth in South Asia is under pressure from the continued weakening of the global economic environment and tight monetary policies adopted to rein in domestic inflation,” ADB’s ADO Update said.

“South Asia will slow sharply while still combating inflation. Downward revision for India slows the forecast for South Asia‘s growth from 6.6% to 5.5% in 2012 and from 7.1% to 6.4% in 2013. India’s domestic economy is weakening as investment continues to be subdued, consumer confidence wanes, and deficient monsoon rains weigh in. The outlook for most other South Asian economies appears to be generally stable. Inflation continues to be the big concern for the sub region, limiting latitude for easing monetary policy to stimulate demand and counter the slowdown in economic growth.  All in all, South Asia’s inflation is forecast to average 8.6% in 2012 before calming to 7.4% in 2013.”

In its comments on Sri Lanka, the ADO Update said GDP growth remained high at 7.9% in the first quarter of 2012 owing to robust industrial expansion. It slowed markedly to 6.4% in the second quarter, however, dragged down by weak expansion in services at 4.5%, as import and export trade dropped sharply. In the first half of 2012, GDP growth was 7.2%. Trade continued to weaken in July with exports down by 17.4% from a year earlier and imports falling by 24.9%.

Exports suffered from weakening external demand and lower prices, while the drop in imports reflected slowing domestic growth and currency depreciation. A poor monsoon has brought drought to some of the country’s districts since March, which is affecting agricultural production and has hit hydropower generation.

Following energy price adjustments and monetary tightening in February and April 2012 that raised the repo rate by 50 basis points and then by 25 basis points, growth in domestic demand will slow in the second half of the year. Interest rates have gone up — the prime lending rate increased to 13.8% in August 2012 from 10.5% at the end of 2011 — and credit to the private sector started to slow, though it was still high at 31.6% as of the end of June, against the Central Bank target of 18%.  Industrial production is expected to decelerate throughout the year owing to weak demand from Europe and the US, the main export destinations for garment exports.

Exports fell in the first seven months of 2012 by 4.6% from a year earlier, while imports increased by 0.6%. Worker remittances and earnings from tourism have been buoyant and helped to offset the trade deficit that increased by 6.7%. This Update revises the projected current account deficit in 2012 upward to 7.0% of GDP. The $415.0 million final disbursement under an International Monetary Fund stand-by arrangement and a successful $1 billion sovereign bond issue in July 2012 pushed gross official reserves up to $7.1 billion at the end of July, covering about 4.2 months of imports.

Inflation picked up, reaching 9.5% in August 2012. Base effects from the energy price adjustment in February continue to keep the year-on year inflation rate high. Currency depreciation of about 15% in the first 7 months of 2012 put further pressure on prices. Food inflation is higher than projected in the ADO 2012 and is expected to trend higher as a result of drought in some parts of the country. This Update therefore revises forecast inflation higher by half of a percentage point in both 2012 and 2013 to 8.5% and 7.5%, respectively.

Monetary tightening will likely need to continue longer than earlier expected to address inflation. This will moderate the economic recovery predicted in April. If fiscal deficit and credit targets are to be met, expenditure and credit will need to fall sharply later this year, further braking economic growth. Against this backdrop, this Update reduces growth projections for the next 2 years to 6.5% in 2012 and 7.0% in 2013.