Columns - The Sunday Times Economic Analysis

Continuity and change in economic policies

By the Economist

The country has given a decisive victory to President Mahinda Rajapaksa. Although economic policies were not the central issues that determined the election result, there was an implicit endorsement of the Mahinda Chintana polices. Therefore the general thrust of policies would be a continuation of the policies of the last four years. In addition there are the extravagant election promises to be incorporated and the promised targets for economic development that are ambitious. One of the overall objectives is to double per capita incomes within the decade or even earlier and reduce poverty to 2 percent of the population.
The first task of the re-elected President would be to manage the extravagant election promises.

There is no way that all the promises that have been given could be granted. As in past elections, the promises are extravagant and unrealizable. The electorate too knows this but they expect at least some of them, such as increases in wages and allowances to Samurdhi recipients to be implemented. Some escape clauses would have to be found to make the granting of promises financially viable. In the past there has been a resort to using the vagueness in promises to not implement them as expected. The postponement of implementation and phasing out the implementation is another method adopted. From an economic point of view one can hope that the fulfilment of the promises would be tailored somewhat to the financial realities.

The euphoria of the convincing victory gives the President some time to implement the promises. Paradoxically, it is also a time of expectation of the implementation of the promises. Not granting the promises would be a disappointment and does not augur well for the government on the eve of parliamentary elections. A possible escape clause would be that the financial provisioning has to await the new budget but even here the expectation is that the promises would be given with retroactive effect. This simply means that the implementation of even some of the promises would be very costly.

This brings us to the crux of the financial and economic question. The management of the public finances is one area of paramount importance. Bringing down the fiscal deficit to reasonable levels is vital for the good management of the economy. In recent months the rate of inflation has been brought down to single digit proportions. If this is to be maintained and a high rate of inflation is to be avoided, then keeping the fiscal deficit to manageable proportions is vital. In addition this is in a situation where the government has to find resources for developmental needs and social welfare expenditure. Additional expenditure on salaries and wages could also be a serious impediment to the implementation of the government’s infrastructure development programme.

Besides this the stand-by arrangement of the IMF requires the fiscal deficit to be brought down to 6 percent of GDP. If this is not adhered to there is the risk of the IMF pulling out of the arrangement. This is a very dangerous situation not because of the finances still to be given by the IMF, but the fact that the confidence on the economy would be severely eroded if the IMF pulls out. That in itself would be an indication to the foreign investor community that the economy is in a crisis and the capital inflows that have strengthened the external reserves could flow out.Financial discipline to bring down the fiscal deficit is vital to attain higher levels of economic growth. Bringing down the fiscal deficit requires pruning down expenditure as well as finding additional sources of revenue. The taxation committee is currently looking at this and the expectation is that its proposals would increase revenue. Methods of reducing tax evasion would be important in achieving this objective.

On the expenditure side there is a need to cut down public expenditure that is not productive. This is easier said than done as the country’s committed current expenditure is high. The massive debt servicing costs, the large expenditure on salaries and pensions, defence and the country’s welfare expenditure, all make this task very difficult. The new expenditure on increasing salaries and granting various benefits would make the task more difficult. Prudence in the management of government expenditure is vital. It is vital that wasteful expenditure is cut down. This requires a change in the mindset. The presidential victory gives another chance and opportunity to introduce such prudence. Unless there is prudence in public expenditure and accountability in government expenses, government expenditure would exceed the revenue collected for the year.

One of the areas where public expenditure could be cut is by the reduction of losses in public enterprises. This however is neither a policy that the government espouses, nor is a reform programme in some of the enterprises politically feasible. Since the government has clearly stated that it would not privatize any public enterprise, reduction of expenditure by reducing expenditure on loss making enterprises is not an option.

The post election economy must be viewed within the perspective of the government wanting to double per capita income within a decade. Policies that have to be pursued for economic stabilization and growth would have to be implemented and fiscal discipline that we discussed earlier must be addressed. Economic development can be achieved only through sound economic policies not by promises at the elections. Only an effective programme of economic development could achieve higher real incomes. Good governance and proper fiscal management are two preconditions of sound economic policies.
Rapid economic growth requires considerably higher investment.

This in turn requires much higher domestic savings. These have to be supplemented by about a trebling of current rates of foreign investment. As we have pointed out earlier, for the achievement of rapid economic growth, there is a need to improve the economic fundamentals, as well as issues of good governance. The rule of law, guarantee of property rights, an efficient public service and an educated, skilled and disciplined workforce are essential to achieve the fast track economic growth that is envisaged. Educational, health, administrative and other reforms are also vital to achieve economic progress.

In order to achieve high rates of economic growth good macro-economic policies have to be pursued in the coming months. The government alone cannot achieve economic development but it must provide the environment and policies for economic growth. Now that the President is firmly in his seat for another six years, policies must look towards the interests of the economy in the long run rather than take decisions for short term political gains or to merely avert economic crises. Political stability and certainty in economic policies are vital. The outcome of the Presidential election is an opportunity to provide these vital conditions.

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