2015 Budget continues deficit reduction, but signals new fiscal priorities: Moody’s
Thursday, 12 February 2015 02:16
Global rating agency Moody’s has said that the Sri Lanka’s 2015 Budget continues on the path of deficit reduction but the new Government has signalled new fiscal priorities.
In its latest issuer comment following the passing of Interim Budget, Moody’s said the first major policy statement by the newly-elected administration, which took office in early January,announced that it is targeting a fiscal deficit ratio of 4.4% of GDP for 2015, slightly lower than the previous Government’s aim of a GDP deficit of 4.6%.
The revised target incorporates higher spending on social welfare measures and public salaries.
This will be funded by higher dividends and levies from State-Owned Enterprises, newly-introduced taxes on high-income individuals and corporations as well as some reduction in capital and current expenditures.
While the Budget’s continuation of fiscal consolidation supports the sovereign credit profile, the change in spending and revenue composition could increase macroeconomic imbalances if they increase consumption while lowering investment incentives because of higher taxes.
The Budget suggests continuation of fiscal consolidation, but revenue measures could potentially dent investment and future growth.
If the 2015 fiscal target is met, it would continue six years of lower consecutive fiscal deficits from a 2009 peak of 9.9% of GDP, and Sri Lanka’s deficit ratio would be in line with the current 4.5% median for B1 rated peers.
However, the 4.4% target could be at risk if its underlying revenue assumptions are not met. Although revenues have been declining as a percentage of GDP since 2006 (with the exception of a slight increase in 2011), the Budget assumes they will rise 14.1% year-on-year, and will be 14.3% of GDP in 2015, from 14.4% of GDP estimated in 2014.
The contribution of levies or dividends from public sector enterprises are projected to generate 30% of revenues. Revenue targets are contingent on a 25% ‘Super Gain Tax’ on corporations or individuals earning above Rs. 2,000 million ($14.8 million), which is expected to generate Rs. 50 billion ($370 million), or two-thirds of total collections. Budget proposals also impose additional levies on the Sri Lankan casino industry. These increases in taxes could deter future investment.
Meanwhile, expenditure increases could raise inflationand the evolution of the debt trajectory remains uncertain.
Expenditures will increase by 10.4% year-on-year in 2015 and will include higher healthcare and education spending, as well as an increase in public sector salaries and pensions. A reduction in fuel prices, and lower taxes on essential food items will further add to the fiscal deficit.
Given that public sector employees make up 15% of the work force, the 47% increase in nominal wages will boost consumption, thus supporting growth. However, it could also have the effect of reviving inflation which has historically been high in Sri Lanka, but moderated to an average 3.3% in 2014.
In 2014, Sri Lanka’s debt burden stood at 74.4% of GDP, marking a reduction from 78.3% the previous year, but still significantly above the median of 44.8% estimated for B-rated sovereigns. It is a key constraint on Sri Lanka’s credit rating.
The Budget statement outlines contingent liabilities stemming from government-guaranteed debt, which would add 14.5% to the debt/GDP ratio. However, it is silent on the future debt trajectory, which was originally projected to moderate to 63% by 2017.