The Sunday Times Economic Analysis

The Sunday Times Economic Analysis By the Economist

A return to uncertainty and confusion
The Deputy Minister of Finance, playing the role of John the Baptist, unaware of the impending political storm, was heralding the good news that the Finance Minister had bonanzas for everyone, particularly, a salary increase for public servants. Now we don't even know when Budget 2004 would be presented. We can't be even sure as to who would present it!

The events of this week illustrate clearly the environment of political instability within which the Sri Lankan economy functions. There could be no better illustration of the unstable situation than to find parliament prorogued on the threshold of the Budget for 2004.

These events have once again underscored the dominant influence of politics on the economy. This column was to contain a discussion of some pertinent issues on public finances and fiscal management. These are not likely to interest readers now. They are more likely to be concerned about the broader issues of what is likely to happen to the economy in this climate of uncertainty.

The economic impact of the political developments would in fact depend on the course of the political events themselves. These are not at all clear for the time being. Three critical developments would have a bearing on the economy. First, how would this constitutional and political crisis be resolved? Second, how long will it take to return to normalcy and greater degree of certainty of the future?

Third and most important will be whether the cessation of war continues or will there be a resumption of terrorism and war. Indications are that there would be dissolution of parliament and fresh elections. There are several possibilities. The most optimistic scenario is that one party obtains a clear parliamentary majority and that the conflict between the executive and the legislature would be resolved, in one way or another, and that the peace process continues.

The worst scenario is a continuous political stalemate and the resumption of hostilities. There are several other in between combinations as well. Immediately the unstable political conditions are likely to erode business confidence and foreign investments.

It is clear that the process of economic recovery that we have witnessed recently has had a setback. The expected economic growth of 5.5 percent for the year, which had been upped to a likely 6 per cent, may be depressed somewhat, but not much, as eleven months had lapsed before the crisis. The main production sectors' performance is also not likely to be affected immediately.

Next year's economic performance is more likely to be affected adversely. The economic programme of the UNF government envisaged an acceleration of economic growth to 6.5 per cent next year and an 8 to 10 per cent growth in the medium term. An acceleration of this magnitude will require more than the continuation of cessation of hostilities. A durable and permanent settlement and political stability are essential to ensure higher levels of investment for creating new production capacity and substantial improvements in productivity.

There were doubts that such conditions would be met even before the crisis. Now it is even less likely. Even a modest growth of 5 per cent next year would require peace. For instance the 1.3 million metric tons of paddy expected next year is only possible if the areas in the East could cultivate without hindrance and the North and East adds to the national output and the entire economy functions as an integrated one. Growth in construction, tourism, financial services and trading are likely to be adversely affected by the uncertain conditions. Aid flows as well as foreign direct investment will be drastically reduced.

Consequently the required increment of investment to push the country to a higher growth trajectory would have to await a return to more stable conditions. Once again the prospect of rapid economic growth has been dashed to the ground by a political shock. Have the political developments once again resulted in a missed opportunity?

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