ECONOMYNEXT – Sri Lanka’s budget deficit plunged 52 percent to 515.7 billion rupees in the six months to June 2024 while revenues went up 42 percent to 1,860.6 billion rupees, interim budget data shows.
Tax revenues were up 43 percent to 1,709.3 billion rupees, with non-tax revenues up 30 percent to 151.3 billion rupees.
Current spending was down absolutely by 5 percent to 2,218.4 billion rupees, held by good monetary policy of the central bank which kept the exchange rate stable and allowed interest rates to come down.
Current Budget
The current account of the budget (total revenues less current spending) was down to 357.8 billion rupees in the 2024 half year, from 1,010 billion rupees last year.
There are however looming state worker wage hikes which will push current spending up, unless the public sector, bloated by unemployed graduates, is reduced by attrition over time, to levels that the citizens can afford.
Capital spending was up 5 percent, to 344 billion rupees, only a little higher from 234.1 billion rupees last year.
As foreign aid projects resume with the completion of bilateral debt restructuring, capital spending is likely to pick up.
The overall budget deficit was down to 598.7 billion rupees, or about 1.9 percent of projected gross domestic product for the year.
The deficit is before any outlays for state bank recapitalization. The budget allocated 450 billion rupees for bank recapitalization.
Domestic borrowings were sharply down to 515 billion rupees, from 1,218 billion rupees a year earlier.
Net foreign borrowings were marginally up to 82.9 billion rupees to 24 billion rupees.
Interest Bill
Interest costs were down 10 percent to 1,142.1 billion rupees as nominal rates started to move down amid a reduced deficit, and reduced state enterprise and private credit demand as well as the avoidance of broader domestic debt restructuring.
The overall budget deficit is now below the interest bill now by keeping capex and other spending in check, giving a surplus in the primary account of the budget of 543 billion rupees.
IMF programs track the primary surplus as interest rates have to rise to prohibitive levels to initially restore the lost confidence of a domestic currency, which tends to bloat the overall deficit.
In the latest currency crises, rates spiked close to 30 percent from the added confidence shock of coming from the possibility of domestic debt restructuring, adding to the loss of confidence in the currency, despite external stability being restored by September 2022.
Market rates fell by around 10 percent after broader domestic debt restructuring was announced.
Bad Money
Sri Lanka has high chronic nominal interest rates due to frequent stabilization crises that follow currency collapses from flexible inflation targeting (attempting to target inflation without a floating exchange rate) and potential output targeting (printing money for growth) with exactly the same consequences, critics have said.
Targeting high level of inflation without a clean float has now been legalized in a controversial new monetary law where the previous economic stability mandate has been abolished, effectively giving immunity to macroeconomists who run anchor-conflicting monetary regimes, critics say.
Sri Lanka defaulted on its foreign debt in 2022 after extreme macroeconomic policy involving rate cuts enforced with extended excess liquidity in interbank markets on top of tax cuts.
Under the latest stabilization crisis (the fourth since the end of a civil war), taxes have been raised, including capital consumption taxes which has triggered a brain drain.
The central bank has so far maintained exchange rate stability, keeping inflation around 2 percent for almost two years, giving a strong foundation for people to begin to rebuild their lost economic lives and for the budget to stabilize.
Sri Lanka’s budgets started to go haywire from the early 1980s, as the country lost a credible anchor for money in the wake of the Second Amendment to IMF Articles in 1978 and the 1971 collapse of the US dollar.
At the time attempts were made to target a money supply without a clean float, while also toying with real and nominal exchange rate numbers (a type BBC policy) giving into the fads of the day when revenues were above 20 percent of gross domestic product.
Macroeconomists at the time injected money not only to mistarget rates but to re-finance agricultural and other credits.
Similar problems were seen from the 1960s, when the central bank first started to go the IMF as US also started ‘macro-economic policy’ as statistical macroeconomists claimed there was a trade off between inflation and unemployment.
Sri Lanka’s current high inflation target, which trigger currency crises as attempts are made to collect reserves (de facto pegging), also seems to be made on a doctrine that there is a trade off between inflation and growth.
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Analysts have warned that the deeply flawed operating framework is likely to tip the monetary system over as soon as private credit recovers, as it had in 2012, 2016, 2018 and 2020, laying the foundation for a default of re-structured debt.
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(Colombo/Aug26/2024)