How much export earnings do we actually have?
By Shenal Fernando
Sri Lanka’s merchandise export revenue reached an all-time high of $ 1.25 billion in June 2022, which saw the country record its first monthly merchandise trade surplus since August 2002. However, an in-depth analysis of the data clearly reflects the fact that the trade surplus recorded during June was largely due to the decrease in import volumes owing to the prevailing foreign exchange liquidity crisis and the impact of the import restrictions in place.
According to data published by the Central Bank of Sri Lanka (CBSL), the country recorded a trade surplus of $ 21 million in June 2022, which is a 42.7% improvement Year-on-Year (YoY), compared to the trade deficit of $ 652 million recorded in June 2021, while exports have increased 23.9% YoY to $ 1.25 billion in June 2022 from $ 1 billion in June 2021. In comparison, imports have fallen by 26.1% to $ 1.7 billion from $ 1.2 billion in June 2021.
An analysis of the import data shows that the decrease in import expenditure was largely due to the decrease in non-essential imports resulting from import restrictions and decrease in fuel imports as a result of the Government’s inability to make the necessary foreign exchange payments during June 2022.
Accordingly, during June 2022, fuel imports had fallen by 201.9% YoY, import of dairy products was down by 75.0% YoY, import of cereals and milling industry products was down by 517.2% YoY, home appliance imports were down by 81.6% YoY, and import of investment goods such as machinery and equipment, building material and transport equipment was down by 46.3%.
There is a high likelihood that Sri Lanka will be unable to maintain this trade surplus and that the country will once again record a merchandise trade deficit in July 2022 with the easing of the fuel shortage observed during the month, which will inevitably be reflected in an increase in expenditure on fuel imports.
In order to ensure that this positive development is sustainable in the long run, it is essential that Sri Lanka improves its export revenue while reducing import dependency. The need to improve Sri Lanka’s export revenue is a topic that has gained focus recently.
However, not enough attention is paid to the fact that Sri Lanka’s export basket involves a low value addition component within the country, with most export goods requiring significant quantities of imported inputs. Therefore, in reality, Sri Lanka’s net export revenue is significantly lower than recorded export levels, which ultimately means that the inflow of foreign exchange into the country is lower than what one would perceive based on our recorded export revenues.
The low net export revenue conundrum
Speaking to The Sunday Morning Business, National Chamber of Exporters of Sri Lanka (NCE) Secretary General/Chief Executive Officer Shiham Marikar stated that the percentage of foreign exchange revenue lost due to the outflow of foreign exchange to fund the purchase of necessary raw materials and other supporting items varied according to the export product and based on the value addition involved.
In the case of the apparel sector and the rubber product sector – our largest and third largest merchandise export products – the value addition component within Sri Lanka is very small. Therefore, a significant portion of the revenue generated by these export products will be lost in the form of outflows to fund necessary inputs that are imported.
This was reflected in the comments made by Joint Apparel Association Forum (JAAF) Secretary General Yohan Lawrence, who shared with The Sunday Morning Business that around 60% of the foreign exchange revenue generated within the apparel industry was lost on foreign exchange denominated expenditure such as raw material inputs, shipping, and freight charges.
Elaborating further, he stated: “The value addition within Sri Lanka will vary from company to company and from product to product. It will also depend on the customer – some buyers will provide the fabric. However, based on the figures available to us, we believe that an average of around 60% of the export revenue is lost due to outflows throughout the entire apparel sector.”
Similar sentiments were expressed by Sri Lanka Association of Manufacturers and Exporters of Rubber Products (SLAMERP) Director General Rohan Masakorala, who shared with The Sunday Morning Business that local value addition in the rubber products export sector was around 65% and that the balance came from imported input materials.
Therefore, around 35% of the foreign exchange denominated export revenue generated by the rubber products export sector is lost on importation of natural rubber, despite Sri Lanka’s historic tradition of rubber cultivation.
Similarly, speaking to The Sunday Morning Business, Colombo Tea Traders Association (CTTA) Chairman Jayantha Karunaratne stated that the local tea industry earned around $ 1.3 billion annually, from which around $ 300 million was spent on fertiliser and another $ 100-200 million was spent on packing material.
Reasons and solutions for low value addition
A key reason for this low value addition within Sri Lanka’s export sector is the very nature of its export basket. Its export products are largely primitive products in which Sri Lanka no longer possesses a competitive advantage in terms of wages when compared to its competitors. Furthermore, lack of economies of scale has made it more profitable for the export sector to source its raw material needs from abroad at more competitive costs.
NCE CEO Shiham Marikar pointed out that a key reason for Sri Lanka’s low net export revenue was the fact that its major export products did not involve significant local value addition. Therefore, he recommended that it was time that Sri Lanka focused more on its Information and Communications Technology (ICT) sector, which had the ability to be a major services export sector involving almost 100% local value addition.
Elaborating further, he stated: “Sri Lanka’s ICT sector has proven capable of reaching some of the niche global markets such as Scandinavia, Europe, and Australia, where Sri Lankan ICT companies have a well-established presence. This means our ICT services are highly commendable because these countries have strict requirements before they sign with a company. Since we have this talent and a lot of interest among the youth on the subject, we should focus on establishing training centres to improve their ICT skills and start marketing the industry properly.
“We must also focus on the agricultural product export sector which involves a high value addition within Sri Lanka. There are many producers of agricultural products suitable for export in Sri Lanka, but because they lack the knowledge, they merely package the goods and send them to Colombo instead of seeking to export. These people need to be brought together and effort must be taken to advertise the agricultural product export industry. This will have a very favourable impact on net foreign exchange revenue.”
According to SLAMERP Director General Rohan Masakorala, in order for the rubber products export sector to decrease its reliance on imported material, it was essential that Sri Lanka increased its natural rubber production. Currently only around 50% of the natural rubber requirements of the rubber products export sector is being sourced locally.
“Sri Lanka’s natural rubber production has decreased by over 50% during the past decade and a half. This is due to the decrease in agricultural land and the drastic decrease in yield per cultivated hectare. The decrease in yield is largely due to lack of productivity, lack of technology adoption, proper focus by the relevant ministry, and lack of Government instructions overlooking farm areas,” Masakorala said.
CTTA Chairman Jayantha Karunaratne took a more cynical view, pointing out that the imported inputs required by the tea industry simply could not be sourced locally. He stated: “In addition to chemical fertiliser, some of the required materials such as filter paper, metal caddies, and aluminium foil are materials which simply cannot be produced in Sri Lanka. There is no other alternative but to import these materials if we wish to continue to be competitive in this industry.”
He explained that the inputs required by the tea industry could not be sourced locally as such industries did not exist within Sri Lanka. He stated that any attempts at import substitution in this regard would not be feasible considering the significant capital expenditure required for the large machinery needed, adding that Sri Lanka was simply not in a situation to take such a path.
Global and local economic pressures
Another significant challenge that Sri Lanka will face in sustaining a trade surplus going forward is in terms of global and local economic pressures, which could negatively impact export revenue.
The International Monetary Fund (IMF) in its recent publication – ‘The World Economic Outlook Update July 2022: Gloomy and More Uncertain’ – has revised its baseline forecasts. Accordingly, global GDP growth is expected to decrease from 6.9% in 2021 to 3.2% in 2022 and 2.9% in 2023, representing downgrades of 0.4% and 0.7% respectively compared to the previous baseline forecasts published in the April 2022 World Economic Outlook.
The IMF has also revised its global inflation forecast for 2022 to 6.6% in advanced economies and to 9.5% in developing economies due to rising food and energy prices consequent to the disruptions and sanctions resulting from the Russia-Ukraine war.
In the local economy, the prolonged foreign exchange liquidity crisis due to decreasing foreign worker remittances and tourism revenue has caused significant commodity shortages within the country. The rapid deviation of the Sri Lankan Rupee has pushed local inflation as measured by the Colombo Consumer Price Index to 60.8% in July 2022.
According to JAAF Secretary General Yohan Lawrence, July was a historically good month for the country’s apparel sector in terms of revenue. However, the industry is expecting a contraction in revenue during the second half of the year due to rising global recessionary fears.
“There will be a definite impact from this impending recession. However, we haven’t made any forecasts and are currently observing the situation. The future months will reveal the extent of the impact,” Lawrence explained.
With regard to the local economic crisis, he stated that the apparel sector had not faced any issues so far in procuring the required raw material inputs since the sector had been prioritised by the Government. He further noted that the apparel sector’s access to US Dollars had facilitated the process of procuring fuel as needed, which had ensured that operations continued smoothly.
Meanwhile, SLAMERP’s Masakorala stated that the rubber products export industry was feeling the pinch of global inflation, which had resulted in a significant increase in imported raw material expenditure. He noted that the sector was forecasting a 10-15% decrease in demand during the next two quarters of 2022 if current recessionary pressures continued. However, he stated that such a decrease had not yet been experienced and that sector revenue was keeping pace with the previous year’s performance of around $ 1 billion.
“The US and European markets amount to 70-75% of the market share of our industry. Therefore, if those regions are to experience recessionary pressures, it will inevitably lead to lower consumer demand, fewer orders, and ultimately lower turnover,” Masakorala explained.