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But says proposed reforms positive for economy if achieved

Leading international rating agency Fitch Ratings said yesterday Sri Lanka’s fiscal position still runs the risk of further deterioration as the 2016 Budget did not bring about fiscal consolidation, while growth will be much less than stated in the Budget.

“The Budget provides no clear plan for fiscal consolidation over the medium term. The absence of such a framework means that the risks of further deterioration in the fiscal deficit will remain, and high public debt relative to Sri Lanka’s ‘BB’ group median is not likely to decline” Fitch Ratings said.

It noted that the 5.9 percent deficit to GDP targeted in 2016 is slightly better than the 6 percent deficit the government is travelling toward this year.

“Notably, the original 2015 deficit plan of 4.4 percent will be exceeded by a wide margin, underscoring that government’s track record of meeting fiscal targets is not strong,” Fitch added.

The ratings agency said that the revenue trend in Sri Lanka over the past few years contributes to this view.

“General government revenues have been declining consistently since 2010 - a key weakness in the sovereign’s credit profile. Revenues had fallen to just 12.3 percent of GDP in 2014, far lower than the ‘BB’ median of just over 25 percent. This latest budget does little to address the revenue issue directly,” it said.
Fitch noted that the inability to raise revenue is due to structural weaknesses in tax administration and collection, and that the 38 percent increase in government revenue, compared to 17 percent in 2015 comes from non-tax revenues, since tax collections will decline by 6.4 percent in 2016.

“Much of the increase in non-income tax revenues is likely to come from external trade taxes, which should rise by 44 percent to account for 23 percent of the total tax intake. This assumes a strong global trade environment, and underscores budget assumptions for rapid GDP growth,” Fitch said.

It said that the expenditures will add to the fiscal challenge, as total expenditure is likely to rise to 22.3 percent of GDP from 19.1 percent in 2015.

“Major increases in public investment in education, infrastructure and healthcare could lead to an increase in the general government deficit in the near-term, while the benefits to fiscal accounts over the medium-term are unclear,” Fitch said.

It noted that while high GDP growth has been a positive factor for Sri Lanka’s credit profile, the Budget’s assumption of 7-8 percent growth in 2016 from a 6 percent growth in 2015 is overly optimistic. Fitch forecasted the growth to be 6.4 percent in 2016.

However, the rating agency said that the 2016 Budget was ambitious with its economic reforms aimed at raising foreign direct investments (FDIs) and boosting the private sector’s participation in the economy.

“If achieved, these broad objectives could be positive for the economy, especially if it reduces dependence on external borrowing to finance growth. Weak governance standards remain a factor for low FDI, so any improvements to the ease of doing business could enhance the economic profile over the long run,” Fitch said.