Dilrook Kannangara

This year’s Olcott Speech at Ananda College by Thilan Wijesinghe was a refreshing presentation of what went wrong with the Sri Lankan economy. It was an apt topic given the fact that the school had produced many winners who decorated the nation with prestige and who saved the nation when under threat. The presentation contained plenty of factual matter and substance. However, it lacked the reasons for the outcomes presented in those charts. Though reasons may be politically and socially sensitive, unless these are addressed, the economic crisis will not end.

Annual Economic Growth Was Higher During the War than After War (excluding 2010, 2011 and 2012)

A striking indicator that speaks volumes. It is indeed so as can be seen from GDP growth rates for the past 40 years. There are valid economic reasons behind it. During the war, the economic contribution of the north and the east was low. The economy of those two provinces did not grow significantly as they didn’t get large government investments and the war disrupted economic activity. Almost all government investments went to the seven provinces outside the north and east and they were the engine of growth. These seven provinces held the economy and never failed to deliver.

With the end of the war, large government investments went in to the north and the east. In fact, most government investments went to the north and east. As peace returned northern and eastern economies grew at astronomical pace far outpacing the seven provinces in 2010, 2011 and 2012. However, by 2013 the growth spiral stalled in the north and the east. Economic growth rate in the seven provinces reduced as no government investments (compared to war time) were made in the seven provinces.

The seven provinces account for about 90% of economic activity. North and east account for about 10%.

Even if that 10% of the north and east grew at 10% (for instance), if the seven provinces grew at only 2% (for instance), the national economic growth would be only 2.8% (10% times 10% plus 90% times 2%) which is poor.

Conversely, if during the war the northern and eastern economy grew at 0% but if the rest grew at 5% (for instance), the national economy would have grown at more than 4.5% (10% times 0% plus 90% times 5%) which is a healthy growth. However, the north and east economies were less than 10% during the war. If it was 5% and if the other provinces’ growth figures remained, then the national economic growth would have been 4.75% (5% times 0% plus 95% times 5%). Even better.

Sri Lanka’s GDP would have grown much faster had the government invested more in the seven provinces (the sustained engine of growth) and less in the north and the east (temporary fast growth for 3 years only).

To apply the same as above assuming generous government investments outside the north and east, assuming the north and east economies only grew at a sustained pace of just 5% and the rest at 10%, the national economy would have grown at 9.5% which is excellent growth (10% times 5% plus 90% times 10%). If that was done, Sri Lanka would have come close to a Newly Industrialized Nation by now.

Exports as a Percentage of GDP Keeps Falling, Particularly After War

Sri Lanka’s exports as a percentage of the total economy has been falling since 1995. Despite new export markets and products, the percentage kept declining since the end of the war. This is also due to the high economic growth rate for a short span in the north and east without exports particularly from the north. The north has no noticeable exports but imports massively increased after the war.

Things would have been better had the government invested in export and import substitution industries in the north instead of building houses, by-roads, free initial electricity and telecommunication connections and accelerated and complete demining (beyond a low-cost needs-based demining). Cement factories, chemical extraction, mining mineral sands and others and forestry industries would have earned export dollars. However, the government did not invest in these as the people in the north and east opposed these industries. Such industries would have given people their own income to build their houses, etc.

Tax Revenue as a Percentage of GDP Keeps Falling, Particularly After War

This is also due to high GDP growth rate in the north and east after the war but very low tax collection from the two provinces. Tax collection as a percentage of GDP was highest when the entire northern province and parts of the eastern province were not within government control in the early 1990s! That’s for the same reason.

Sri Lanka’s net foreign reserves were also at highest sustained levels in early 1990s for the very same reason. The north has no exports and during the war had very little imports. Exports remained near zero during peace time but imports from the north massively increased.

FDI Inflows Were Higher During the War Than After War

This is the combined impact of all the above. Foreign investors learned the lesson from Sri Lanka’s economic, export and fiscal trajectory though the government failed to learn it. As a result, they refrained from investing in the island post war. The north and east do not provide many attractive investment opportunities and the economic growth rate of the seven provinces (areas of engine of economic growth) was also low due to governments’ relative neglect since the end of the war.

Foreign Debt Trap

A simple cashflow projection would have alerted the government to the impending debt trap tightening since 2020. It could have been done at least 8 years before things went bad. Sri Lanka Development Bonds raised in dollars to develop the north in the early years of post-war reconstruction became payable starting from 2020 onward (2010 plus 10 years, 2011 plus 10 years and 2012 plus 10 years). Sri Lanka sovereign bonds taken at that time were also invested in the north and east. These were for 5 years but when they fell due, there were no additional export earnings from the north and east to repay them. They were extended by another 5 years. They too fell due from 2020 onwards (2010 plus 5 years times 2 for extension).

Over 85% of dollar loans were invested in the north from 2009 to 2013 but the north earns no export dollars. What happens next is anyone’s guess! Remittances received by northerners were there during war time too. In fact, they reduced as the north developed post war as they didn’t require so much handouts when their economy developed. This actually reduced dollar donations into the north by the Diaspora which doubled the adverse impact.

Putting social and humanitarian concerns above economic realities is dogmatic. Its consequences must be paid in full before the nation can overcome the economic crises. And that takes a few decades of very hard work and painful sacrifices. If not, the economic crisis will outlive all living beings in the island.