The Sunday TimesBusiness

Day, Month 1996



Economy heading for stagflation, warn analysts

By Asantha Sirimanne

Rising inflation and falling growth have given rise to fears that the economy may be heading for a period of stagflation.

Unlike a recession where growth is negative and inflation is also low, stagflation is characterized by a stagnant economy with high inflation.

Growth rate estimates for 1996 vary. The consultancy Econsult is forecasting what some analysts call an optimistic 4.2 per cent, while one research house estimates growth to be as low as 3.3 per cent.

On the other hand there is wide consensus that annual average inflation will top 12 per cent this year. Faced with a high budget deficit of around 11 per cent of GDP, according to some estimates, analysts expect Treasury Bill rates to rise towards the third quarter of the year. Privatization proceeds are also expected to be far below the Rs. 21 b. estimated in the budget.

However, lending rates are not expected to keep pace as demand for new loans is expected to be moderate.

With defence expenditure expected to shoot up over Rs 48 billion, the President has announced that subsidies may have to be removed.

The scrapping of the wheat flour subsidy, is welcomed by most analysts, but some feel that other subsidies, such as the fertilizer subsidy should be kept on.

A recent World Bank study found that the richest 20 per cent of Sri Lankan households had received 30 per cent or Rs 1,600m. of last year’s Rs 5000m. subsidy on wheat flour. In contrast the poorest 20 per cent of households received only 9 per cent or Rs 400m of the subsidy.

In the place of the subsidy, the report advocated the increase of Samurdhi benefits by Rs 400 m.. It was also noted that the benefits of the fertilizer subsidy derived by rice farmers were cancelled out by the wheat flour subsidy which forced rice prices down. In general it suggested that untargeted subsidies be removed.

The scrapping of the subsidy is viewed by some analysts as characteristic of the government’s fire fighting approach to problem solving.

“The government is trying to keep interest rates low and depreciate the exchange rate now because it was forced to do so,” one economist opined.

In 1995 the government refused to devalue the currency saying it was market determined and also kept money tight and interest rates high in the hope of containing inflation, he says.

“When the currency is allowed to depreciate, industry is not strong enough to make full use of it. In the case of interest rates, though rates are low demand for loans is weak. This demonstrates a lack of foresight and poor timing,” he said.

In the case of subsidies, some feel that the government initiated unsustainable new subsidies with poor foresight and is scrapping them at the worst possible time.

Analysts warn that rising inflation and falling employment would be an ideal breeding ground for social unrest.

On the bright side however the economy is likely to benefit from the phasing out of power cuts with improving rainfall. This is also expected to have a positive impact on agriculture. In addition though the agricultural output has fallen so far this year, rising tea prices have also been of some comfort. The garment sector is also viewed as one of the few remaining strengths of the economy.

Pre-paid TT unfair, say importers

By Asantha Sirimane

The practice of collecting turnover tax at the point of import by applying an arbitrary profit margin, which cannot be adjusted when the actual profit is known has come under fire from importers.

The Turnover Tax (TT) is collected at the point of import by applying an arbitrary 25 per cent profit margin to the CIF plus import duty of an item. In addition to the 10 per cent TT defence levy is also collected at 4.5 per cent, but this is set off against the final defence levy liability arising when the goods are sold.

For example an item costing Rs. 100 (CIF), which is subject to import duty at 10 per cent would be assumed to derive a standard profit of 25 per cent when sold. This amounts to Rs. 27.50 (i.e. 25 per cent of Rs. l10) making the cost plus import duty plus applied profit of the item Rs. 137.50. On this value a 10 per cent (or the rate applicable to the particular imported item) is charged. In the example it would be Rs. 13.75. On top of this defence levy of 4.5 per cent (Rs. 6.19) is also charged.

In the case of other items, where the rate is higher increasingly higher amounts of TT are charged. For example an item costing Rs.100 subject to duty and TT at 20 per cent would pay TT of Rs. 30, which is 30 per cent of the CIF cost.

Importers complain that the 25 per cent profit margin is no longer applicable in the depressed economic conditions prevailing today and very few items can actually be sold at a profit of 25 per cent.

At one time the standard profit margin used to calculate the TT was only 10 per cent.

“This was increased to 25 per cent by the previous government when business was good”, said one importer. “But today importers are struggling to sell their goods; one had only to go for tender openings to realize, how prices have come down, he adds.

Importers point out that when the goods are finally sold, and the actual sale price (and the actual profit) is known, they are unable to reclaim the turnover taxes paid. Inland revenue officials confirmed that at present there was no procedure for adjustment for ordinary importers and the adjustment was permitted only in the case of manufacturers who were registered for the purpose.

The TT collection system at the point of import is said to have improved compliance with TT payment.

However importers complain that the TT collection on the present basis simply acts as another import duty, based on a non existent profit which is pushing up the prices of imported goods.

They also say that while imported goods remain unsold for long periods high interest costs relating to the holding cost of the prepaid TT and defence levy contributes to a high price being charged from customers. All this they point out, adds to cost push inflation.

Importers therefore call for the standard profit margin to be lowered or a mechanism for adjusting the TT to be introduced.

Hambantota:rural economy on road to ruin?

by Asantha Sirimanne and Asiff Hussein

The general economic downturn gripping the country has spread to some of the remotest areas of the island.

Even in the town of Ambalantota located 125 miles from Colombo, traders complain of declining sales and profits. Reputed to be the commercial centre of the Hambantota district from the colonial era, when Hambantota itself was made the administrative centre of the district, the town is by the road leading to Kataragama.

Old timers of the town say the road was first developed by the British to facilitate the traffic in citronella oil. The growing of the grassy plant and the production of the aromatic citronella oil had been a major industry in the area for centuries.

Even the present generation could recall a time when the boilers which were used to extract the citronella oil was present in every other house in the locality. However it has declined with time and the remnants of the industry surviving to this day had been hit by export prices dropping sharply in recent years. Residents say the final blow was the adulteration of citronella oil by some collectors with kerosene which resulted in loss of confidence in the product.


Another industry surviving from the olden days is the manufacture of salt. The Hambantota salterns of the former Sri Lanka Salt Corporation now named Lanka Salt Ltd. is up for privatization. Residents say at one time thousands of persons eked out a living from dealing in salt.

"Even a carter who could not get a hire for the day used to load his cart with salt, take it around and earn the day's expenses", said one resident. In addition thousands of others had been involved in the bulk as well as retail packaging, distribution, transport and sale of salt.

However, with the introduction of iodised salt which caused salt prices to shoot up from around Rs. 2.50 to over Rs. l0 a kilogram, a large number of persons had lost their earlier source of income. Instead, a few large entrepreneurs, were registered with Lanka Salt Ltd. to manufacture and distribute iodised salt as Lanka Salt was unable to produce sufficient quantities.

However a recent government directive requiring salt to be issued in very small crystals ('Tikiri' sized crystals) had resulted in a shortage of salt for the iodised salt producers. The smaller crystals are thought to be better at absorbing iodine than the standard sized crystals. Even employees of Lanka Salt admit that salt issues had declined to around 20 lorry loads a day from the earlier 40 45 loads a day after the rule regarding the issue of small crystals was imposed by the government. The crushers at the salterns (when the power cut is not imposed) are only able to supply half the old issue volume.

Salt processors say the country is now importing salt while the salt mountains are piling up at the salterns, as the crushers are not up to supplying the required amount of salt in the now fashionable 'Tikiri' size. The iodised salt makers are waitlisted for one and a half months after pre-paying for the salt before they are issued the product. "We are now forced to buy in the black-market, paying a premium of around Rs 4000 per lorry load", says iodised salt maker Nimal Kodithuwakku. The larger sized crystals are available in the black-market, but how the blackmarketeers get the crystals is not known.

It is also believed that some registered iodised salt makers, do not actually make iodised salt but simply sell their supplies in the black market, cashing in on Lanka Salt's inability to issue sufficient quantities of salt. Meanwhile some iodised salt makers say they have their own crushing plants lying idle. Mr Kodithuwakku who also ordered a crushing plant to make the smaller sized crystals, had returned it to the supplier unused, after the Lanka Salt stopped the issue of standard sized crystals. However there are enormous profits to be made in the making of iodised salt, even after deducting processing, packaging and distribution expenses. A truckload bought at Rs. 16,500 in bulk retails at around Rs 100,000.


The majority of the population of the district as in the other rural areas of the country are engaged in the cultivation of food crops, mainly paddy. While chena cultivation is widely practised in the Maha season, paddy is cultivated in both seasons on irrigated land. Two major irrigation projects supply the district, interconnected to a network of old tanks. The paddy lands irrigated by the Uda Walawe reservoir, built by damming up the Walawe river, facilitates paddy cultivation even during the lean, Yala season.

However towards the east of the Hambantota district, in areas such as Wirawila and Lunugamwehera, which is served by the Lunugamwehera reservoir, only the Maha season is cultivated. Residents habitually refer to the Lunugamwehera project as the 'failed project'. The reservoir has been built by damming the 'Kirindi Oya', which runs short of water during the Yala season.

In addition to the shortage of water, in areas such as Wirawila large tracts of paddy land have been rendered uncultivable by the build up of the salt content in the soil. The salinity is believed to be caused in the lower reaches of paddy fields by the seeping down of minerals from the upper reaches which are saturated for paddy cultivation. The land lying fallow and drying up during the Yala season, is believed by some to add to the problem as it prevents the salt from being diluted and washed away. Some say up to 50 per cent of paddy lands in some tracts have turned saline. The farmers without the 2.5 acres of land they have been issued when they were settled in these lands now want new land. The high saline lands can be easily distinguished by the wild grass 'Hombu' that grows in such land. The plant is related to the 'Pan' which is used to weave baskets.

The officer in charge of the Wirawila agricultural research station says the possibility of introducing 'Pan' cultivation is being explored, so that the farmers may have an alternative source of income. This it is hoped, would also give rise to a new cottage industry in basket and mat weaving. The chemical or mechanical extraction of salt from the land is considered a fruitless exercise from an economic standpoint.

During the Maha season chena cultivation is also practised widely in the district. Crops such as pea nuts, cowpea, green gram and plantains are cultivated. However at the time The Sunday Times visited the area (during the Yala season) chenas were lying fallow. Farmers in the district say they were badly hit by low paddy prices last year, which was partly thought to have been caused by the wheat flour subsidy of the government. This year however prices have increased to over Rs. 8 per kilo of paddy (unhusked rice). Farmers say prices remained firm even during harvest time unlike in earlier years.

The rice farmers lead a precarious existence balanced between the price of paddy and the rising cost of production. The economics of paddy cultivation are such that at below Rs. 6 per kilo which is the usual price, most paddy farmers would not be able to earn a profit. In some cases the farmer's daughter employed at one of the few garment factories operating in the district is said to earn more than her father in the six months that it takes to cultivate the 2.5 acres. That is the typical lot of a settler farmer. However one of the factories in the district had been closed recently, after running into financial difficulties.

The cultivation and harvest of one acre of paddy with the requisite amount of fertilizer, weedicides, pesticides and outside labour is around Rs 9,800 per acre. When several acres are farmed, outside labour is generally used at least for planting, in addition to hire charges for machinery or buffaloes. Good high yielding paddy land which had received sufficient water at the right times, been properly fertilized and pest controlled may yield up to 2,400 kgs of paddy, but this is more of an exception than the rule. Sometimes the yield may be as low as 1200 kgs per acre, farmers say. Assuming that the yield was 2000 kgs per acre the revenue would be Rs 16,000 per acre with paddy prices at Rs. 8 per kg, therefore the income for a farmer with 2.5 acres would be Rs. 15,000 or Rs. 2,500 per month for the six months that it takes to produce the crop. This however may increase depending on the amount of family labour used.

For a farmer family in areas where the Yala season is not cultivated this is the entire earnings for the year. This works out to slightly over Rs. 1000 a month. To augment their income, members of farmer families would however travel to other areas and labour in fields of farmers who are fortunate to have irrigation or try to find other daily paid employment. The value of industries set up in these areas, which give a steady income to at least one member of a family (with the difficulties in infrastructure notwithstanding) is only known to the population of those areas who cheerfully undergo the utmost hardships as a matter of course. Residents are hoping that the proposed industrial estate at Mirijjavila will be opened soon.

It is a common sight especially in the newly opened up settlement areas to see little school children walking home in the sizzling mid day sun, on the burning tarred road, barefoot while some are fortunate to have rubber slippers and a few, shoes.


Some farmers simply do not have enough cash resources to cultivate even one acre of land. One remedy is the loan shark who terms farmers describe as 3 to 2 (dhekata thunai). In plain language this means a farmer who had borrowed Rs. 2000 will have to pay back Rs. 3000 after six months. If he is financed by a miller he may be obliged to sell his harvest to the miller, perhaps at a discount.

Most farmers have not even stepped inside a bank, though bank loans come at extremely cheap rates in comparison. Where the interest for alternate financing is Rs. 5000 for Rs. 10,000 bank loans are charged at around Rs. 600 for the season (six months). One such bank is the Regional Rural Development Bank. The RRDB operating in the district has several branches with the head office at Ambalantota. It serves 55,000 customers, ranging from farmers, labourers, small traders and a few large entrepreneuers as well.

The Suriyaweva branch for example serves 12,000 customers, 90 per cent of them farmers. Farmers in Suriyaweva are somewhat better off than other areas, such as Lunugamwehera where water is short. In Lunugamwehera the RRDB branch is located in the middle of dry paddy fields and irrigation channels that had not seen water for months.

The small two roomed building with gaping cracks in its walls is the only building for miles around, except for some isolated farmer dwellings. The bank says difficult economic conditions in the district have resulted in loan defaults. The situation had been made worse by the strike in April and May this year by RRDB employees. The strike related to a 30 per cent wage hike which was reportedly promised by the previous Central Bank governor. The closure of the bank during the strike period has delayed collections of loans.

The bank had also been hit by the government decision to write off farmer loans. Up to Rs. 28mn had been written off. The bank had to bear the loss of interest and 25 per cent of the capital. Though 75 per cent of the capital is to be re imbursed most of it has still not come, officials said. Officials say farmers willfully defaulted from the time the promise of loan write off was made during the election campaign. Encouraged by the rhetoric farmers had defaulted not only up to the Yala 94 season which was ultimately the cut off date, but even later seasons.

The farmers whose loans were written off however, are now in dire straits, as the banks no longer lend them sufficient money to cultivate their 2.5 acres of paddy. The maximum limit they are allowed is Rs. 8,000. The farmers who had repaid their loans before their cultivation loans were cut off, now continue to enjoy the loan facilities of the bank. Those who defaulted on the other hand has no other recourse but the miller, the trader or the loan shark, thus falling into a vicious circle of the high interest debt trap.

Bank officials also lament that good banking practices they have taught these people and the effort taken to wean them away from loan sharks have been wiped out in one season due to short sighted election promises. This is especially unfortunate in the case of those farmers who had the ability to repay the loan but spent the money instead, hoping for a write off. These farmers did not even get the write off as their cultivation did not fall within the specified period where the write off was applied to, and are now unable to get new loans. The district is also famous for its curd. Large numbers of families depend on the sale of curd to those passing by, especially to pilgrims on their way to the Kataragama temple. One curd maker said several years ago he used to take large amounts of curd pots to Matara and Tangalle to sell, but with the commencement of the Janasaviya project curd making had been taught as a self employment project to large numbers of people and it was difficult to do business as there were too many sellers now.


The effects of declining tourist arrivals could also be felt. Small guest houses that depended on tourist traffic are without business and are on their last legs.

A recently built guest house called Flamingoe's which we visited used to do a thriving business catering to tourists who go on safari's to the Bundala forest reserve. But it is now unable to generate sufficient revenue from passing locals even to pay the monthly salaries of its employees running into some Rs. 18,000. Twenty jeeps, some owned by the hotel and others hired from outsiders are lying idle with their drivers deprived of income. A repair shop in Ambalantota said that owners of mechanical implements, motorcycles displayed a reluctance to put in new parts. But his business was doing well as their were enough repair jobs coming.

A marketing officer of a leading agricultural equipment distributing company said, sales were extremely poor so far this year but was hoping the situation would improve if the price of paddy remains firm. Overall the company was expecting a 30 per cent drop in sales this year. Firm paddy prices are the key to rural prosperity and attempts to low paddy prices by imports or subsidizing wheat while benefiting the urban dweller, would ultimately take its toll on our farmers.

The widespread poverty in the district had caused many people to depend on government transfer payment programmes, such as Janasaviya and the programme of the new government's Samurdhi.

Additional District Secretary Hambantota Mr. Mahinda Manawadu explained that the Samurdhi scheme, introduced in May 1995, embraces 60,663 families out of a total of 120,426 families in Hambantota.

The scheme unlike Janasaviya includes all families having an average monthly income of Rs. 1500 or less. Janasaviya scheme only applied to Food Stamp holders' i.e. families with a monthly income of Rs. 700 or less. There were 48,304 such families before the introduction of Samurdhi.

"However, only 26,272 families in the Divisional Secretary divisions of Hambantota, Suriyawewa, Katuwana, Tissamaharama, Beliatte and Tangalle received Janasaviya.

The Samurdhi Scheme is in three stages. The first entails food aid. Stage 2 comprises an economic development plan and embraces, at present, the Divisional Secretariat divisions of Hambantota, Beliatte, Katuwana, Tissamaharama and Okewala. The recipients form groups of 5-6 persons in order to obtain loan from the NORAD funded Interated Rural Development Programme, (IRDP). A heavy responsibility rests on all members of the group to repay their loans, so that there is constant group pressure on the defaulting member. According to Mr. Manawadu stage 2 had taken in the ideas underlying the Bangladesh Grameen Banking concept. The final stage, he said, constitutes the establishment of a Samurdhi Banking System. "We envisage that this will enable the rural folk to constitute themselves into self-sufficient banking communities, having adequate capital to invest in viable ventures", he said.

Mr. Manawadu said that landlessness in his district which was a serious problem in former times was now being addressed under the Jayabhoomi Scheme formally Swarnabhoomi. The scheme, he said which harks back to the Land Development Act of 1935 entails applications being called from suitable persons who are initially given land under permit for development activities (viz. Agrarian activities and house-building), upon the successful completion of which deeds of half acre to 5 acres with full proprietorship rights are granted. According to Mr. Manawadu of the 73,888 permits issued to suitable candidates in the Hambantota district 32,322 have been converted in to Swarnabhoomi and Jayabhoomi grants. Mr. Manawadu is hopeful that the target of 73,888 will be reached by the end of the year.

NGO's are also contributing to the development to the Hambantota district. They include the Norwegian and Swedish funded 4-route, World University Service (WUS) of Canada. Plan International and the USAID - funded Agromart Foundation. Notably SANASA a local co-operative organisation provides credit facilities for agrarian and small industries.

The Manager, Training and Programme Development, Upali Batagoda, said that Agromart Farmer Societies have been formed in all 11 Divisional Secretariat divisions of Hambantota district, with training programmes being conducted in every one of them on daily, weekly and monthly basis. The programme includes training in food processing, poultry farming, dress making, bead making and beauty culture. He added "There are at present 1500 members in the Hambantota district, 70 percent of them women".

Under the programme, according to Mr. Batagoda, credit facilities upto Rs. 15,000 are provided at an interest rate of 18 percent per annum for all members by Agromart Societies.

Agromart also sponsors annual study tours to agricultural, livestock and horticultural projects in Thailand. Agromart Societies have been formed in 21 of the 37 Divisional Secretariat divisions of the Southern province.

General Manager, SANASA Federation, Mr. L.B. Dassanayake said that there were 230 thrift and credit co-operative societies in the Hambantota district. "Our main objective", he said, "is inculcating financial discipline among our rural folk. Every Grama Sevaka (G.S.) division has at least one society and any person permanently residing in particular G.S. division who is over 18 years of age is eligible for membership in the respective society."

Mr. Batagoda said that loans are provided by the society at an average interest rate of about 16% per annum. Since societies may borrow from the respective District Union and the District Union may borrow from the Federation, no society is ever bereft of funds. But we expect each and every society to manage its own affairs. Every member of a society has to find a guarantor from his fellow members. "Our service is not limited to the provision of credit; we also provide guidance to persons interested on marking on their own inventures. Recently we inaugurated the "Isuru" credit project for small farmers with the assistance of the Central Bank. Our 'Deevara Vyapruti' project targets the spouses and families of fisher folk. We also provide credit facilities and advise in respect of agriculture, poultry farming, dress making etc.

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