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Sri Lanka’s economic outlook: Navigating the Omicron challenge: Dr. Ganeshan Wignaraja 

04 Dec 2021

  • Political consensus on economic crisis and policy options needed
By Asiri Fernando  Sri Lanka, like many other countries, was poised to move towards a path of recovery next year, following an expedited Covid-19 vaccination drive alongside the resumption of global mobility early this year. However, the emergence of the resilient Covid-19 mutation Omicron has dampened hopes as medical experts and governments across the world react to its spread. How will the Omicron mutation of the virus affect the world and impact Sri Lanka? In an interview with The Sunday Morning, National University of Singapore Non-Resident Senior Fellow, international development expert, and policy advisor Dr. Ganeshan Wignaraja discussed how Sri Lanka’s recovery plans may be impacted by the new virus mutation. Following are excerpts from the interview. How is Omicron changing the global economic outlook? During the summer of 2021, there was a lot of optimism about the world’s recovery following the pandemic. The International Monetary Fund (IMF), in its World Economic Outlook report in October, projected that the world’s growth would go to around 5.9% by the end of 2021, and a moderate 4.9% next year. There was a sense of optimism that vaccines would contain the Covid problem, if a high proportion of the population was vaccinated. Despite persistent underlying issues, there were signs that the world economy was coming back. What was perhaps not factored in significantly when the outlook was perceived was the risk of the Covid-19 virus mutating. The Omicron variant of the virus is now manifesting itself. It has shaken the markets; you can see some markets have reacted and fallen. It has affected travel plans and re-introduced travel bans for some countries. So, the effects of Omicron will be widely felt, from stock markets to tourism, and will eventually affect supply chains as well. I suspect that the world may not reach the anticipated 5.9% or even 4.9% next year due to the impact of this mutation and other underlying issues. Do you think that regional co-operation in South Asia will be an important factor in recovery? While there is a global economic downturn, there is much potential to further regional co-operation within South Asia. One indicator is that inter-regional trade in South Asia is low, about 4% of total trade. South Asia is one of the least integrated regions with less monetary co-operation. So, by working together, South Asia can progress. Enhanced co-operation would help the region better mitigate the impact of climate change and natural or man-made disasters, or share health and pharmaceutical resources during a pandemic.  We had an initial look at such co-operation when the Oxford-AstraZeneca Covid-19 vaccine and personal protective equipment (PPE) were shared. The spike in demand for medical oxygen during the pandemic was a good example of how South Asian states worked together to support each other and best utilise their health resources.  In the coming months and years, health authorities of Sri Lanka and other regional countries will have to work closely to contain any re-emergence of the virus. Health ministers and officials may benefit from a SAARC (South Asian Association for Regional Co-operation) or BIMSTEC (Bay of Bengal Initiative for Multi-Sectoral Technical and Economic Co-operation)-level collaboration to better respond to regional health issues.  One of the first facilities Sri Lanka got (when the Covid-19 pandemic started) was a $ 400 million swap under the SAARC currency swap framework. The framework provided such facilities for countries that were in difficulty, like Sri Lanka. We need to expand that kind of financial co-operation. Such facilities are important to maintain health, trade, and support the Balance of Payments. Regional co-operation is very important for trade. The Colombo Port City project can only succeed if we manage to get regional investment for it from countries like India, Pakistan, and Bangladesh. It may take some time for western investors to come to the Port City, and so, enhancing regional co-operation is important for Sri Lanka’s Port City to succeed.  Sri Lanka is shifting from manufacturing towards a service industry. Therefore, the success of the Port City is very important. Furthermore, as Sri Lanka has made significant investments into the Colombo Port City project, we must get it to work. Easier travel and connectivity within the South Asian region and opening up some of the service sectors will be key to improving trade in the region. The ease of movement of businesspeople and professionals will be helpful for the region and Sri Lanka. How do you think the Covid Omicron variant will affect Sri Lanka? Sri Lanka suffered one of its worst declines in growth since Independence, in 2020. The economy contracted by 3.6%. Also, the growth of poverty in urban areas is a serious cause for concern.  The rising cost of living affects daily wage earners and contributes to poverty. There is anecdotal evidence that poverty, malnutrition among children, and domestic violence against women are on the rise. The impact of Covid-19 has been terrible for Sri Lanka, and it has also derailed some of the domestic policies. In the first half of 2021, there was swift recovery. Consumers were spending. A lot of hopes have been put into the tourism sector picking up. However, tourism is vulnerable to the spread of Omicron and a possible resurgence of the pandemic. Sri Lanka is also vulnerable to remittance flow disruption.  Any impact by the Omicron variant may contribute towards aggravating ongoing local issues such as the forex shortage, rising cost of living, and energy security. We need to be cautious that the projected growth, given by agencies such as the IMF before the emergence of Omicron, may not materialise. Despite the pick up in growth early in 2021, the economy is clouded by high uncertainty, a possible stop-go business cycle, high external debt repayments, and rising poverty. How serious is Sri Lanka’s external debt problem? One of the core issues that has been in the Sri Lankan macroeconomy for years is the high level of external debt. For a long time, we have spent more than we generate, and done so through borrowing. This is a long-standing issue. Furthermore, Sri Lanka has had a conflict for nearly 30 years, which results in revenue being spent on war, and also deters investment. Sri Lanka has also, over the years, moved away from concessionary borrowings and towards commercial borrowing. The exchange rate has also changed over time. Therefore, debt denominated in dollars is going to be more expensive over time. It seems that Sri Lanka has to pay between $ 25-29 billion in debt over the next five years. As such, Sri Lanka needs about $ 5 billion per year to service debt repayment. Our foreign reserves are low. The problem is that we are facing a Hobson’s choice while the reserves are low: Pay for food, fuel, schools, and hospitals, or pay off our debt. The Government publicly ruled out seeking an IMF programme, which would provide assurance to international financial markets and enable Sri Lanka to borrow again. But an IMF programme would come with conditions such as fiscal consolidation and liberalisation of imports, which limit domestic policy space. The Government has said that it will pursue a home-grown approach of continuing with its unconventional policies, honouring all foreign debt obligations, increasing non-debt foreign inflows through the sale of state assets, and increasing exports and import restrictions. Only time will tell whether Sri Lanka’s home-grown approach, tinged by economic distortions and risks, can successfully revive the economy, reduce poverty, and improve its debt profile. If it does not, a refined economic strategy supported by external financing will be urgently needed to deal with a simmering economic crisis in Sri Lanka. In your opinion, if the current approach by the Government to manage the economic crisis fails, what needs to be changed? If the current approach does not deliver, Sri Lanka may need to consider several changes. Firstly, a national conference involving the major political parties should be convened to establish a political consensus on the scale of the economic crisis and the effects of policy choices. Secondly, a team of domestic experts should be tasked with developing a comprehensive structural reform programme to stabilise the economy – which will help to mitigate the hardship on the people, deregulate the economy, and make the economy green. Existing work by think tanks on this issue can be helpful. Thirdly, Sri Lanka should commence negotiations with the IMF on a programme of financial assistance and debt service relief.  

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