Drastic action essential for expansion of much-needed investment

A drastic approach including authoritative decision making is essential for easing the present economic ‘log jam’ generated especially by the inadequacy of investment and an expanding foreign debt

By Lloyd F. Yapa

Increasinginvestment is the major key result strategy where Sri Lanka is concerned currently as it does not produce sufficient goods and servicesfor export to earn badly-neededforeign exchange, especially to pay back its foreign debts. 

It is estimated that the country needs investment in excess of 35% ofGDP for the economyto grow at about 8% a year and increase incomes. Since domestic savings have been low (22.6% of GDP in 2015), the gap has to be made up of Foreign Direct Investment (FDI). The table indicates thatFDIs havebeen avoiding SL consistentlysince 1970 unlike in the case ofcertainother East Asian countries mentioned in the table thathave prospered mainly by using such investments.

Low investment the major cause of poverty

The povertythat prevails in SL currently (those earning less than $ 2per dayhad been 34% of the population in 2008 – WorldBank),the overexploitationof thelimited land availableand the natural environmentdue to the absence of manufacturingindustries to absorb the excess employmentin agriculture (28.2 % of total employment in 2015) and the public sector could be attributed mainlyto FDI bypassing SLin this manner (see diagram). 

The negative enabling environment 

The reason for this avoidance by the FDIs may bethe negative enabling environmentforinvestment which appears to persist to this day in SL. The enabling environment has been negative due mainly to the socio-political and economicinstability in the country. 

The continued ethnic conflict 

The socio-political instability that has prevailed in the country up to the presentis mostly due to the shamefultribal/racial animositiesthat led to an ethnic conflict whichhasbeencontinuously presentsince 1956. It had led to serious ethnic clashesmanytimes over the years. 

On the day thatracial riotserupted in Colombo in July 1983, a Japanesetrade and investment delegation invited by the EDB wasconferringwith theirlocal counterparts at the BMICH; onhearingabout the riots, theytook the next flight out of the countrynever to return like mostother foreign investors.

The table shows that FDI inflows to SLduring the30-year war withtheLTTEterrorists that ended in 2009 were insignificant due to the heavy risk of destruction of theirassets and danger to their staffon account of such clashes. 

After 2009 FDI inflows increasedparticularly for non-tradables like construction and not manufacturing industries which could create continued employment opportunities and production ofgoods and services for export. These inflows startedto decline againafter 2013 perhaps due to the negative external climate for investment andalsodue to continuedmanifestations of racial hatredin the country, thatapparently frighten prospective investors (the cost of the ethnicconflict in the period between 1978 and 2002 was about 5% of GDP per annum – WorldBank); since theethnic problem is so damaging, it is obvious that there should be a consensus tosolve it without delay. 

Other impediments to investment

The other impediments to export oriented investment, namely:

a) the unstable macroeconomic environment involving recurrent budget deficitsand a massivedomesticand foreign debt: 76% of GDP which was$ 82.3 billion as of 2015; 

b) the sluggishnessto invest and innovate on the part of domestic firmsdue toheavyimport tariff protection (SL import regime is themost complex andprotectionist in the world according to the World Bank; 

c) the very cumbersome approval/registrationprocedures in respect of investment projects, that is reported to take up 70% of exporting and importing time, World Bank; 

d)    the acute shortage of technical and soft skills including English proficiency demanded by businesses due toa system of education that allgovernmentshave failed tochange to keep pace with thechanging requirements of the economy; 

e) poor qualityinfrastructure; 

f) the low quality ofpublic serviceswhich have been badly politicised; and 

g) the poor law and order conditions and heavy corruption, that is reported to siphonoff about 45% of Government revenue away from development programmes,obviously worsen the situation for investments.

Drastic strategies to change the situation 

It is clear that drastic action is necessary immediatelyto overcome this situationto encourage greater investment including FDI; such investment is required especially to create more employmentand undertake production for export, pay back the foreign debts,ultimately to achieve the twin goals of alleviation ofpoverty and promotion of prosperity; tax incentives alone cannot do the job, as they would not reduce the risk involved. 

The key result sub strategies that could be suggested for this purposemay include:

a) Undertaking a campaign toexplain to the people the close connection between greater investmentand the type of enabling environment neededto attract such investment on the one handand poverty alleviation as well as protection of the precious naturalenvironment on the other.

b) Bringing stringentlegislation to punish those responsible forspeeches and acts inciting racial violence;such legislationalsoneeds to beintroduced to set up a speciala courttodeal withrampant corruption expeditiously.

c) Completingthe formulation of a new constitutionparticularly to devolve power to theprovinces so that they could attend to developmentissuespeculiar to such regionsandgrant equal right to all citizens to solve the ethnic conflict once and for all; the new constitution is also required tochange the system of electionsto select members of parliamenton the basis of constituenciesand not districts to reduce election campaign expenditurethatleads to corruptionsincethose funding such expenditure demand illegal favours , as well asto electbetter quality politicians.

d) Attending expeditiously to the grievances ofthose who have suffered due to the 30-year war and ethnic clashes as well asother measures such as opting fora trilingual policy.

e) Introducinga lawsimilar to the draft Development[Special Provisions] Act, that may have been inspiredbythe Economic Development Board of Singapore,is absolutely essential, to set up a ‘one stop shop’ to simplify and quicken the numerouscumbersomelicensingprocedures and documentation relating to investment/developmentprojects; such regulationsshould also be simplified tobring the large number ofinformal firms into the formal fold; in some regions 60% offirms are reported to beinformal/unregistereddue to the burden ofsuch regulations;suchfirms offer unfair competition to formal enterprises specially by paying verylow wages toworkersand without EPF and ETF benefits; since these small and medium scaleinformal firmssuffer from numerous constraints like the difficulty of obtaining credit, they cannot grow by expanding investment andimprove productivity.

f) Reduction of importtariffs andelimination ofexport cesses on traditional export productsas well as the numerous tax exemptionsoffered to selected sectors(there areabout 500 such cases – theWorld Bank)in order to createa level playing field to generate competition among firms; such competition is essential topressurise them to increase investment and innovate to add value to exportedgoods and services on the basis of upmarket customer needs, to increaseforeign exchange earnings; competitionand investment expansionwill also improve if some of the State-Owned Enterprises (SOEs)are not given special treatment and are converted to Public-Private Partnerships (PPP);this should be supported byintroducinglegislation to rectify the absence ofa fool-proofframework for PPP.

g) Making special arrangements for countrieslike China and Indiainterestedin exploitingthe unique central location of SL in the Indian Oceanto invest hereto reducethe massive foreign debt(31.7% of GDP in 2015) and multiply job opportunities; the lease of the Hambantota Port and the proposedlease ofland in its environsto the Chineseto set up industries is in line with this highly-logical approach; however,the period of lease and the share of thegovernmentneed to be adjustedto favourSL.

h) Importation ofthe technical and soft skills demanded by businesses on a temporary basis as done by certain Middle Eastern countries sincethe present system of education will take several long yearstoproducethese skills.

i) Improving the quality ofinfrastructure facilities like electricity,roads and ports.

j) liberalisingthe labour marketby rationalising the very complex concerned laws to motivate employers to expand investmentand employ moreworkers particularly women ,while protecting workerrights (only 15% of the workforce is reported to bein the formal sector).

k) doing awaywith the ‘red tape’ regarding transfer of land leases/grants to farmersor alternativelygiving ownership of land to them followed by consolidationof thesubsistence oriented fragmented land holdings to encourage farmers to investon large scaleproduction of (value added )agricultural products especially for export.

l) Improving theproductivity or the efficiency of all sectors of the economy (especially ofagricultureand the public service, the latterby appointing experienced professional managersas heads of institutions and selecting all personnelon merit to encourage greaterproduction andearningsat a lower unit costand tosupportthe global competitiveness of the country.

A few comments 

It is necessary to make a few comments about this drastic approach. The campaign to educate the peopleregarding the close connection between poverty alleviationand investment (along the lines showninthe figure)have to be undertaken not only by the Government but also by the mediasupported by professionals, the clergy and the teachers. Such a campaign couldcreate public support and political consensusfor greaterinvestment and discourage speeches, acts and protests incitingviolence to block economic development.

Vital pieces oflegislation like the Development (Special Provisions) Actshould be preceded byconsultationwith all stakeholdersand explanations(as suggested oncebeforeby the writer in these columns), to avoid misunderstandings;such authoritative decision makingby leadersisessentialas democratic processescan get bogged downin unnecessaryandtime consumingarguments; this suggestion is made tostrengthen Sri Lanka’s democratic processes to deliver quick results. Decisions like the lease of theHambantota Port should preceded by an analysis of costs and benefits and not be taken on the spur of the moment.

Thus, a drastic approachincluding authoritativedecision makingis essentialfor easing the presenteconomic ‘log jam’generatedespecially by the inadequacy of investment and an expandingforeign debt;however, it has to be preceded invariablyby consultations with stakeholdersand cost/benefit analysis as well as public awareness of the benefits involved, followed by efficient and speedy implementation. This approach is necessary as the window of opportunity that has presented itselftwo years ago for Sri Lanka to overcome its economic crisis andachieve the goals of alleviation of poverty and promoting shared prosperitymay never open again. 

(The writer is a Development Economist.)