Financial Times

Is the economy really growing?
By Professor S. S. Colombage (The Open University of Sri Lanka)
According to the latest national accounts estimates released by the Central Bank of Sri Lanka a few days ago, the Gross Domestic Product (GDP) grew by 5.6 percent in the third quarter of 2003 over the corresponding period of the previous year. The Central Bank claims, "This was the fifth consecutive quarter in which the growth exceeded 5.5 percent.

The economic growth during the first three quarters of the year was well on target with the projected growth of 5.5 percent for 2003. Since mid 2002, growth rates have been relatively stable, in a range of 5.5 to 5.7 percent throughout 2003, thus far. This indicates initial longer term sustainability of a stable economic growth trend in response to improved macro economic fundamentals. If this trend can continue, it augurs well for steady growth during the longer term". Is this a realistic statement of the economy? This is an issue I am raising in this article.

As the most popular indicator used worldwide to measure a country's economic performance, high GDP growth is always welcome, particularly by governments. The GDP growth broadly indicates the changes in economic activity and the living standards of people. Nevertheless, it has many well-known weaknesses. A major drawback is that the GDP does not indicate how the growing income is distributed between the rich and the poor or between the rural and urban areas. Also, it does not provide allowance for environmental degradation arising from economic growth. The GDP does not capture things like values of leisure and the contributions of housewives.

Leaving aside such weaknesses, can we be happy about the recent economic growth? The stable growth averaging over 5 percent achieved since mid-2002 is, of course, commendable. But a little further analysis of the GDP data would reveal that our economic picture is not that bright as suggested by the Central Bank.

Over-dependence on services
Let us first examine the sectoral contributions to economic growth in the first three quarters of 2003. As much as 79 percent of the overall GDP growth came from the services sector, which grew by 8.3 percent. Contributions of industry and agriculture were only 14 percent and 7 percent, respectively. This clearly indicates the over-dependence of the economy on service activities. What are these growing service activities?

Banks earn high profits
Being a major fast growing sector, the banking, insurance and real estate sector recorded the highest growth of 13 percent. It contributed 22 percent of the GDP growth. This was mainly due to a 19 percent growth in the banking sub-sector. How did the banking sector achieve such a phenomenal growth? A main reason was a substantial increase in the net interest income of the banking sector; interest income grew by 6.5 percent while interest expenditure declined by 13.4 percent in the third quarter. How did it happen?

The low interest policy adopted by the Central Bank in recent times has helped commercial banks to generate more net interest income by reducing the interest rates paid to depositors while keeping the lending rates at fairly high levels. Non-interest income of the banking sector also expanded by 22.3 percent due to an increase in fee-based activities. As a result, profits of commercial increased significantly in 2003. This helped to augment the GDP growth, as profits are treated as a value added in GDP computations. That is how the banking sector has contributed to economic growth. It is however questionable whether such profit growth has brought about any benefit to ordinary, poor people.

Trade, transport and communications
In the services sector, the wholesale and retail trade grew by 6.5 percent contributing 23 percent of GDP growth. The growth was mainly due to a 13 percent increase in import trade. In contrast, export trade declined by 4 percent. Domestic trade grew by 4 percent. The direct contribution of trading activities to GDP growth is captured mainly through the profit margins earned by traders. These high-income earnings usually do not trickle down to the ordinary man in the street.

The transport, storage and communication sector grew by 12.1 percent contributing 29 percent of the GDP growth. An expansion of both passenger and freight transport activities contributed to this growth. The Central Bank states that the passenger kilometers operated by Sri Lanka Railways increased by 14.5 percent, and the growth performance of private bus services improved. However, it is doubtful whether these services have really improved in terms of their quality, punctuality, efficiency etc. Frequent trade union disruptions have adversely affected public transport. The public health sector too is hit by trade union actions.

Manufacturing output stagnant
The performance of the manufacturing sector is rather dismal. It grew only by 1.5 percent in the first three quarters of 2003. The factory industry, which should be the driving force of export-led growth, grew by less than 1 percent. This is partly a reflection of the difficulties faced by the garment industry in adjusting to the phasing out of the Multi-Fiber Agreement. Given the global competitiveness, it would be rather difficult to sustain the growth of garment industry unless prompt action is taken to improve its productivity. The marginal growth in the manufacturing sector achieved in the third quarter was totally due to a production expansion in industries catering to the domestic market.

Poor growth in agriculture
The agricultural production grew only by 3.6 percent in the first three quarters of 2003. The production of paddy, tea, coconut and subsidiary food crops increased while the rubber output declined. The agriculture sector has not performed well in recent years.

Conclusion
It appears that the economic growth achieved thus far is largely based on the high profits generated by a few service-oriented sectors like banking and trading activities. In contrast, the output in the manufacturing sector is stagnant whereas the agricultural sector too hasn't performed well. In this context, it is doubtful whether the country can sstain a high economic growth in the long term.

I sympathize with my former colleagues in the Central Bank who have been trying hard through print and electronic media to convince people that the economy is growing strongly.

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