Public Disclosure Authorized SRI LANKA DEVELOPMENT UPDATE Public Disclosure Authorized MORE AND BETTER JOBS FOR AN UPPER MIDDLE-INCOME COUNTRY Public Disclosure Authorized www.worldbank.org/sldu June 2018 #SLDU2018 Public Disclosure Authorized
Recent Developments, Outlook, Risks and Policy Priorities Sri Lanka Development Update – More and better jobs for an Upper-Middle-Income Country - June 2018 2
Main takeaways 1. Sri Lanka’s improvement in its macroeconomic performance was masked by inclement weather. 2. Fiscal and monetary policy measures contributed to stabilization ; however, a prolonged drought took a toll on growth while contributing to raising inflation. 3. Despite a widening deficit of the external current account, exports recovered after shrinking for two consecutive years. 4. Strengthened capital flows improved external buffers . The overall improvement in macroeconomic performance was recognized by rating agencies. 5. To sustain growth, create more and better jobs and reduce poverty Sri Lanka needs to implement reforms that the country has already announced; the outlook will remain stable , provided the government is committed to the reform agenda. 6. Risk balance is tilted towards downside ; the key one being the domestic political risk Sri Lanka Development Update – More and better jobs for an Upper-Middle-Income Country - June 2018 3
Main changes from the last update 1. The government recorded a primary fiscal surplus in 2017, a first-in-decades 2. Official reserves reached an all-time-high in April 2018 thanks to capital flow 3. The new Inland Revenue Act came into effect 4. Active Liability Management Act was passed 5. Cost-reflective pricing formula for fuel was implemented 6. 1,200 lines of para-tariffs removed 7. SWIFT, a single web portal for investors, was launched to facilitate investments 8. Some reforms slowed down: further debt management reforms, National Audit Act, Secured Transactions Act, Customs Ordinance, and SOE reforms 9. With the impending election cycle elevating political risk, the window for further reforms is narrowing Sri Lanka Development Update – More and better jobs for an Upper-Middle-Income Country - June 2018 4
Global environment continues to be benign • Global growth has softened but remains robust despite signs of moderation in trade and manufacturing • Faster withdrawal of monetary policy accommodation in advanced economies have led to rising global interest rates, capital inflows to EMDEs are likely to moderate as global financial conditions tighten • Risks to the outlook remain tilted to the downside: Trade restrictions, disorderly tightening of global financing conditions, a further rise in oil prices 2016 2017 2018 2019 2020 Key financial flow s to Sri Lanka Projections Actual Estimates World 2.4 3.1 3.1 3 2.9 United States 1.5 2.3 2.7 2.5 2 Textiles, Portfolio flow s Euro Area 1.8 2.4 2.1 1.7 1.5 Textiles, Tourism, Portfolio flow s China 6.7 6.9 6.5 6.3 6.2 Tourism, FDI, Official financing India 7.1 6.7 7.3 7.5 7.5 Tourism, Remittances Saudi Arabia 1.7 -0.7 1.8 2.1 1.7 Remittances Russia -0.2 1.5 1.7 1.8 1.8 Tea World Bank Global Economic Prospects, June 2018; South Asia Focus, April 2018 United Arab Emirates 3 2 2.5 3.2 3.3 Remittances Japan 1 1.7 1 0.8 0.5 Official financing Takeaway: Need to rebuild monetary and fiscal buffers and restore policy space to mitigate negative external shocks Sri Lanka Development Update – More and better jobs for an Upper-Middle-Income Country - June 2018 5
Growth has decelerated and is still largely driven by non-tradable sectors • Annual average growth decelerated from 8.5% (2010-12) to 4.2% (2013-17) • Inward orientation is reflected with 70% of the total growth coming from 6 non-tradable sectors Contribution to growth 2010-2017 GDP growth and inflation 10 14 9 8.5 12 12 12 12 8 12 11 7 10 9 8 6 Percent 8 Percent 5 6 4.2 4 4 4 4 3 4 2 3 2 1 1 1 2 1 2 0 1 Real estate & ownership of… Transportation &… Accommodation, food &… Health, residential care &… Financial services Construction Other personal services Wholesale & retail trade Other industry Mining & quarrying Professional services Textiles & leather Education Tea (Green leaves) F& B and tobacco Other services Other agricultural Marine fishing 0 Rice 0 -2 0 2010 2011 2012 2013 2014 2015 2016 2017 GDP growth Average GDP growth of the period Inflation, annual average Takeaway: Reforms needed towards a more private investment-tradable sector growth model to sustain growth, jobs and poverty reduction Sri Lanka Development Update – More and better jobs for an Upper-Middle-Income Country - June 2018 6
Zooming in on 2017, natural disasters were a drag on macroeconomy • Agriculture and related industry/service sectors decelerated growth in 2017 to a 16-year low. • Inflation rose due to supply disruptions, demand pressures, and one-off impact of VAT changes before slowing down in mid-2018 Food Housing, Water & Energy Agriculture Construction Health Education 10 Other industry Services Communication Restaurants & Hotels Net taxes Overall growth 10 Alcoholic beverages Others Headline (YoY) Core-yoy 8 8 6 6 Percent Percent 4 4 2 2 0 0 Jan-17 Mar-17 May-17 Jul-17 Sep-17 Nov-17 Jan-18 Mar-18 May-18 -2 2011 2012 2013 2014 2015 2016 2017 Takeaway: growth performance could have been better without the impact of natural disasters Sri Lanka Development Update – More and better jobs for an Upper-Middle-Income Country - June 2018 7
Fiscal performance improved; however, significant risks remain • A primary fiscal surplus was recorded in many decades • New Inland Revenue Act is expected to increase revenues structurally • However, overall fiscal deficit was higher than projected, as interest expenditure rose • Central government debt fell to 77% of GDP; contingent liabilities remain a significant fiscal risk Drivers of central government debt Key fiscal aggregates 25 2 15 80 77.6 19.4 Percentage point contribution 78 20 0 10 76 Percent of GDP 74 Percent of GDP Percent of GDP 5 72 15 -2 13.8 70 0 68 10 -4 66 -5 64 5 -6 -10 62 (5.5) 2011 2012 2013 2014 2015 2016 2017 Real interest effect Growth effect 0 -8 Primary deficit effect Exchange rate effect 2012 2013 2014 2015 2016 2017 Residual Change in debt Overall balance (RHS) Primary balance (RHS) Public debt (RHS) Total revenue and grants Total expenditure Takeaway: fiscal & debt numbers moving in right direction, but important to manage quality of tax & spending, and composition/risks of debt & contingent liabilities Sri Lanka Development Update – More and better jobs for an Upper-Middle-Income Country - June 2018 8
Implementation of fuel price formula will reduce fiscal risks • Cost-reflective pricing of fuel will make CPC less vulnerable to global oil shocks and bring in additional benefits to the economy • The removal of the fuel subsidy is progressive , even after accounting for indirect effects • On-going work on targeting is critical to protect the poor and vulnerable from the impact of the reform Direct Indirect 35 Drivers of refined petroleum bill 1,000 30 500 25 USD million Percent - 20 15 (500) 10 (1,000) 5 0 (1,500) 1 2 3 4 5 6 7 8 9 10 2012 2013 2014 2015 2016 2017 Poorest Richest Price Volume Change in total cost Takeaway: Targeting is critical to protect the most vulnerable Sri Lanka Development Update – More and better jobs for an Upper-Middle-Income Country - June 2018 9
Debt level falls, but portfolio shows risks • Central government debt to GDP ration declined in 2017 although it remains high by peer standards • The government has taken some important steps to deal with refinancing risks related to Eurobonds maturing from 2019 (Active Liability Management Act) • There are important structural challenges that require attention: legal framework, debt management strategy, institutional fragmentation. Proposed reforms need to accelerate 90 2500 80 70 2000 Percent of GDP 60 Non-guaranteed debt of 7 SOBEs 50 Letters of comfort 1500 Other guaranteed debt 40 Guaranteed debt of 7 SOBE 30 1000 RDA guaranteed debt 20 Central government debt 10 500 0 2012 2013 2014 2015 2016 0 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 7 SOBEs included in the graph are Ceylon Petroleum Corporation, Ceylon Electricity Board, Sri Lankan Airlines, Sri Lanka Ports Authority, National Water Supply and Drainage Board, Ceylon Fertilizer Company, Airport and Aviation Services Company. Sri Lanka Development Update – More and better jobs for an Upper-Middle-Income Country - June 2018 10
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