SJB Economic Policies - The Good, The Bad, The Ugly

By MURTAZA JAFFERJEE

The SJB manifesto in English is long (11,795 words), comprehensive and detailed. Like most manifestos it is aspirational, but it is also detailed.

The Good

Ideology shapes the world – the SJB has chosen the social market economy with social justice. In essence, it is a system that seeks to balance the efficiency and innovation of capitalism with the fairness and security of a welfare state. The key features of the system are free market principles (forces of demand and supply determine prices), social welfare (citizens have access to basic needs), regulation, employment policies (job growth but also labour rights) and social justice (reduce inequality by providing fair opportunity for all). This system created the German economic miracle after WWII, we need an economic miracle too.

From this ideology stems many of their policy pronouncements which addresses the pillars of the system – competition authority, pro-trade, ease of doing business, strengthening regulation, property rights, etc. The “social” part is through increasing funding for education and health and providing targeted cash transfers and price subsidies.

I am highlighting the following policies:

● Land management and acceleration of bimsaviya (title certificates instead of deeds) – reduce land disputes, make available more land for investments, enable the collection of higher property taxes using a digital cadastral to assess property values, etc.

● A holistic approach to improve the agricultural value chain.

● Implementing a One-Stop Shop needed to speed up investment.

● Establishing an SOE holding company under the treasury – reduces the inherent conflict of

the line ministries being good owners but also regulators and policymakers. It will also reduce these organization being used for political patronage and economic extraction.

● Expediting the implementation of Overseas Citizens of Sri Lanka programme.

● Cash transfer to needy schoolgirls to buy menstrual hygiene products.

● Facilitating the setting up of an Indian Institute of Technology (IIT) and Indian Institute of

Management (IIM).

● Enacting a procurement law and an independent public prosecutor – recommendations of

the IMF diagnostics to reduce corruption vulnerabilities.

● Moving towards a national pension through a contributory system for all including the public sector.

The Bad

Subsidy Policy and Mechanisms

Subsidy programs should primarily take the form of cash transfers, specifically targeting the needy and vulnerable populations. Support should only be extended to firms in cases of market failure—where private returns are insufficient, but social returns justify the investment.

Price-based subsidies, on the other hand, should be avoided due to their inefficiency in targeting, their tendency to encourage overconsumption, and their distortion of relative prices.

For example, offering a 15% interest rate to senior citizens is an ineffective policy; it distorts price signals, benefits only those with bank deposits while neglecting individuals holding other asset classes or none at all, and it is excessively generous (a 15% nominal interest translates to a real return of around 10% when considering an inflation target of 5%).

Fuel subsidies are even more problematic, as they lower prices and promote overconsumption, which strains our balance of payments. We must critically assess whether we can afford to subsidize fuel for one million three-wheelers (which account for 33% of petrol consumption) and 25,000 buses (which make up 15% of diesel consumption). Furthermore, providing interest subsidies to convert three-wheelers to electric vehicles is unwarranted, as there is no market failure necessitating this intervention. In contrast, incentivising investment in charging infrastructure is essential due to the existing "chicken-and-egg" dilemma.

After a 20-year delay, we finally implemented the 2002 Welfare Benefits Act in 2023, introducing a unified cash transfer program known as Aswasuma. Eligibility is determined by a deprivation score calculated using 22 indicators across six dimensions. While the program is still a work in progress, our priority should be on enhancing its effectiveness. Given that both chronic illnesses, including kidney disease, and old age are already included as indicators, it raises questions about the necessity of maintaining specific programs targeting these issues

The Ugly

1. Meddling with credit markets.

● Writing off farmer loans rewards bad borrowers - what about those who paid back their loans or managed with their own resources. It is not clear who will pay for this.

● Suspending the Parate Law – inconsistent policy leads to poor governance; in this case it also creates moral hazards (willful defaulter are being bailed out). Lenders will react with risk off, subprime credit will be priced out of the formal system – this will impact growth and increase inequality.

● Mandating banks to set up MSME loan departments. Many banks already have units, the

problem is NOT one of willingness but of market failure. Credit assessment is not possible due to a lack of verifiable information due to informality – greater adoption of digital payments creates a shareable and verifiable information stream.

● Using Central Bank directives to restructure loans. Such language undermines CBSL

independence and contradicts their other objective of financial stability – if the cost is borne by financial institutions, it will weaken them.

2. Comparability of treatment for EPF (clawback of losses).

Unlike ISB holders, there was no principal haircut in the DDO for bonds – it was a parity (face value) exchange of existing bonds for 12 new bonds with step-down coupons (approximate yields were around 10%).

The value recovery (VR) feature for ISB holders is structured as a lower haircut on principle and coupons. Comparability does not arise. The travesty that needs to be corrected is that 78% of the high-yielding (27%) crisis bonds were exempted from the DDO – this has resulted in an additional interest payment of a staggering Rs 250 bn (additional 17% interest) this year alone on the balance Rs 1.45 tn of these bonds.

3. Tax policy

● Personal Income Taxes (PIT) – the minimum tax-free threshold to remain at Rs 100,000, the

first slab to be 1% (currently 6%) and the 24% slab to kick in around Rs 500,000 a month

(currently at Rs 400,000). At the lowest slab, the tax burden on total income is 0.3%, cost of collection will be more than the taxes being collected.

Our tax-free threshold is set at the top 30% of households (not 20% as stated previously by me). They account for around 60% of national income – they should be paying taxes.

Incidentally, Vietnam a poorer country has no minimum tax-free threshold and the lowest rate is 5%.

● Corporate Income Tax (CIT) – a reduced tax rate of 24% for exporters. Taxes are only paid once profits are made, a competitive exchange rate, an open trading regime and less bureaucracy will do more for export profits than tax incentives. The other problem is one of vertical equity – take for example the case of Tea, it is only the final exporter who will benefit but what about the long value chain that enables the exporter?

Imposing a minimum alternate tax of 15% is a very good idea.

● VAT – exemptions on essentials and reducing the rate to 15% when there is higher compliance. Exemptions benefit richer households more than poorer ones, it also creates distortions for it impacts relative prices – it is NOT only the treasury that loses out but also substitutes that face higher relative prices.

It would be better to remove the highly protective para tariffs like CESS and PAL and cascading SSL and leave the VAT at 18%.

● Increasing excise taxes on alcohol, tobacco and gaming. This is highly unfair, regressive and creates corruption vulnerabilities. High prices incentivize consumers to seek alternatives which expands the illicit and unrecorded market. On a PPP basis we have the most expensive cigarettes in the world, in the case of alcohol it is in the top quintile.

Due to high rates of abstinence, regular smokers and drinkers (mainly working-class people) are less than 10% and 20% of the population respectively – they pay for 15% of total tax revenues.

4. Public service salary increases – the size of the service is around 1.2 million people. It is

difficult for me to assess the cost of the proposed increases due to the paucity of information.

Salaries were increased by Rs 10,000 a month this year, this will cost Rs 150 bn a year (0.5% of GDP). Can we afford to pay for more increases? How will we pay for it?

Murtaza Jafferjee is a leading Economist and the Chair of Advocate Institute