Sri Lanka’s medium-term outlook in JKH’s view

The World Bank projects global growth to edge up to 3.1% in 2018, aided by a rebound in manufacturing, investment and trade, against the backdrop of benign financing conditions, generally accommodative policies, improved confidence, and the dissipating impact of the earlier commodity price collapse. 

Major trade agreements involving the US and the UK that are being renegotiated, as well as the progress of the “Belt and Road Initiative”, will have a significant bearing on production, trade and investment across the globe in the medium to long term. 

However, the outlook is subject to substantial downside risks, including the likelihood of financial stress, increased protectionism, geopolitical tension and most major central banks inclined towards moving away from an accommodative monetary stance, partly given the rate outlook of the US Fed. 

Non-economic factors such as climate change, natural disasters and increased political risks in certain regions would also pose considerable risks for global economic outcomes. The acceleration of global growth, and the resultant increase in global interest rates, could have diverse effects on the Sri Lankan economy. Increases in oil prices and increasing commodity prices coupled with a strengthening dollar, will weigh negatively on the Balance of Payment (BOP). 

Despite the lacklustre performance of the Sri Lankan economy in the calendar year 2017, the Central Bank of Sri Lanka (CBSL) expects the Sri Lankan economy to rebound to 5-5.5% growth in the calendar year 2018, driven by the global economic recovery and increased domestic and foreign investment, particularly channelled towards the industrial zone in Hambantota and the Port City Colombo (PCC). 

Potential headwinds faced by the private sector include concerns relating to the macro impact of sustained higher oil prices, adverse weather conditions, delays and lack of decisive policy implementation, and a weaker recovery in consumer confidence and discretionary spending.

The re-commencement of large-scale infrastructure projects such as PCC and continued investment in infrastructure, including the expansion of the country’s network of expressways, is expected to aid economic activity within the country.

The execution of the proposed Free Trade Agreements as well as planned development activities such as the development of the Hambantota Port, the Western Region Megapolis Planning Project and economic corridor projects such as the Colombo-Trincomalee Economic Corridor (CTEC) and the North East Economic Corridor will provide stimulus for private sector growth. 

A prioritisation of these projects by the Government and clear articulation of how the private sector can participate in these ventures would further support increased private investment and stronger growth in the economy. Infrastructure initiatives such as the expansion of capacity in the Port of Colombo, expansion of the passenger terminal at the international airport, timely completion of the Central Expressway project and enhancing power generation capacity are of particular importance.

Despite continued expressed interest by the Government to exit non-core public owned interests to enable private sector investment, both directly and through public-private partnerships, clear measures towards this end have not been forthcoming.

The Group believes that such initiatives can aid the sustainable growth of the economy and enable the Government to channel its resources towards further enhancing the social and development infrastructure of the country.

On the external front, the balance of payments (BOP) is expected to strengthen on the back of projected developments in the external sector. Further improvements in exports is projected in the medium term aided by increased volume and enhanced value addition of the export basket, improved competitiveness in export markets due to a more flexible exchange rate policy, and improved market access through improved trade connections through existing and new trade agreements, and in particular the reinstated GSP and GSP+ concessions. 

A continuation of fiscal consolidation efforts supported by the Extended Fund Facility from International Monetary Fund (IMF-EFF) would further strengthen macro-economic stability.

Despite the anticipation of foreign inflows, particularly in lieu of large infrastructure projects within the country, the pressure on the exchange rate would continue should higher oil prices sustain, along with stronger growth in the West resulting in a possible moderation of foreign fund flows to emerging and frontier markets. 

Whilst the depreciation of the Rupee negatively impacts businesses with higher reliance on imported inputs, the Group also benefits through its individual subsidiaries which have direct, and indirect, dollar denominated income streams. 

The Group’s risk strategy of maintaining “natural hedges”, where relevant and feasible will mitigate, to a great extent, the volatility arising from possible fluctuations in the exchange rate.

Whilst the Government’s efforts to formulate policy frameworks with the support of the IMF and other global regulatory bodies to address the emerging challenges are noteworthy, it is essential that such policies are implemented swiftly and in consultation with key stakeholders. The lack of consultation and engagement with stakeholders, as in the case of the implementation of the sugar tax, may result in volatility for businesses and all its stakeholders across the value chain.