The Sunday Times Economic Analysis

The Sunday Times Economic Analysis By the Economist

How to get the economy moving
Understanding economic growth
Economic growth is an outcome. It is an outcome of a vast and incalculable sum of decisions and actions of individuals and corporate bodies: farmers, small enterprises, large business firms and companies and the government, among others. Yet the pronouncements, discussions, talks and lectures that abound in the country treat economic growth as if it could be dictated by the powers that be or economists, academics, planners and administrators. In fact there is a futile debate going on about what next year's economic growth rate would be. Those with the government pitch the rate high, critics and business folk generally indicate it to be lower.

One of the more sensible approaches to this issue was the lecture given by the Deputy Director of Economic Research of the Central Bank of Sri Lanka, Dr Nandalal Weerasinghe. His perspective was one of indicating the many factors that would influence and determine the rate of economic growth. Dr Weerasinghe said that the success of the medium term framework depended on a number of factors such as the continuation of the ceasefire, stability on the political and social front, good weather and external conditions. He pointed out further that economic growth was dependent on the implementation of structural reforms and removal of bottlenecks that retarded growth. He could not have mentioned all factors that are required for promoting growth, as they are so numerous that it is near impossible to do so in a lecture, but focussed on the most important ones.

As he rightly pointed out and as everyone knows, the security situation is an important determinant of the rate of economic growth in our country both in the short run as well as the medium and long run. The assurance of a no war situation would render several suppressed factors to be released once again and reasonable progress on several fronts. Conversely if there were considerable uncertainty about the turn of events on security, the economy would be throttled.

A mere ceasefire would give limited gains. The prospect of a genuine settlement of the conflict, a durable peace and a constitutional settlement would no doubt give a boost to the economy. The peace dividend could be high. Yet to imagine that peace alone would achieve rapid and super rates of economic growth is misplaced. There are other factors too that require to be put in place.

Poor infrastructure was an impediment to growth. This is well recognised but huge investments are needed to build infrastructure. These would necessarily have to come from donors, foreign borrowing and private and public investment. They are not likely to come in the quantities and as speedily as needed unless the security situation is resolved. Besides infrastructure, there is a need to increase other investments as well. Since the country has an approximate incremental capital output ratio of 5, it means that we have to increase investment by 5 per cent of GDP to gain an additional one percent growth in GDP.

This means that to achieve a growth of 7 per cent we require increasing our investments from the current 25 per cent of GDP to about 35 per cent of GDP. And if our objective is to reach 8 per cent growth then investments require to be increased to 40 per cent of GDP. Dr. Weerasinghe's estimates were somewhat less. He estimated that an 8 per cent growth could be achieved with an investment of 30 per cent of GDP. We doubt this, as much of the investment would require a long gestation period and the impact on growth would be indirect. If we cannot realize these investment targets no amount of shouting from the rooftops would achieve these desired growth rates.

To achieve this level of investment we require to provide the proper conditions conducive to increasing domestic savings, increase corporate savings/investment, attract foreign investors, receive concessionary credit from multilateral agencies, increase loans and grants from donors and be credible in international capital markets. It is the function of government to provide these conditions.

The role of government in economic growth has been characterised as one akin to providing the environmental conditions that are ideal for plant growth, like adequate water, good soil conditions and appropriate temperature. It is to these that the government must turn rather than spend time predicting the rate of growth. Economic growth is an outcome of a vast and varied sum of decisions and actions that are themselves dependent on endogenous and exogenous factors. It is the function of the government to render these as hospitable to growth as possible.

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