World Bank maintains Sri Lanka’s growth forecasts; highlights possible risks in financial sector

• Projects economy to contract 4.3% this year before recovering to 1.2% in 2024

While outlining the possible risks in the country’s financial sector, the World Bank (WB) maintained Sri Lanka’s economic recovery prospects almost unchanged, despite the anticipated slowdown in the global economy.
According to the WB’s latest Global Economic Prospects report released this week, Sri Lanka’s economy is projected to contract this year by 4.3 percent, compared to the 4.2 percent contraction projected at the beginning of this year. 
The WB projected the country’s GDP to grow by 1.2 percent in 2024, compared to the one percent growth projected in January.
Meanwhile, the WB downgraded the global growth prospects. Accordingly, global growth is projected to decelerate from 3.1 percent in 2022 to 2.1 percent in 2023. In emerging market and developing economies (EMDEs), other than China, growth is set to slow to 2.9 percent this year, from 4.1 percent last year. 
“Outside of East and South Asia, it is a long way from the dynamism needed to eliminate poverty, counter climate change and replenish human capital. In 2023, trade will grow at less than a third of its pace in the years before the pandemic. 
In EMDEs, debt pressures are growing, due to higher interest rates. Fiscal weaknesses have already tipped many low-income countries into debt distress,” World Bank Group Chief Economist and Senior Vice President Indermit Gill said.
Meanwhile, growth in the South Asian region is expected to slow marginally to 5.9 percent in 2023 and more significantly to 5.1 percent in 2024. Relative to the January projections, this is a 0.4 percentage point upward revision for 2023 and a 0.7 percentage point downward revision for 2024.
The WB in particular highlighted concerns on the financial sector risks in Sri Lanka along with Bangladesh in the South Asian region.
“The financial sector risks remain elevated in several economies, with high levels of non-performing loans, weak capital buffers and weak bank governance. Ratios of non-performing loans to total loans are elevated and have recently been rising in Bangladesh and Sri Lanka,” it said.
In economies already in crisis, the WB warned that the human toll could worsen, with possibilities of widespread starvation and disease outbreaks. 

“South Asian countries could face significant adverse spillovers from further global monetary tightening, although their severity would differ among countries depending on their integration into global financial markets as well as on domestic policy choices,” the WB said.
Meanwhile, the WB noted that since the start of the year, the Sri Lankan rupee has partially reversed some of its earlier losses against the U.S. dollar but remained about two-thirds its value compared with that in early March 2022, prior to its debt suspension announcement. 
Similarly, the WB also acknowledged the deceleration of inflation in Sri Lanka in recent months. However, it pointed that in Pakistan and to a lesser extent in Sri Lanka, policy rate increases have not kept pace with the expected inflation and as a result, real interest rates have turned deeply negative.
The global lender cautioned that the South Asian countries could face significant adverse spillovers from further global monetary tightening, although their severity would differ among countries, depending on their integration into global financial markets as well as on domestic policy choices.
“Additional increases in U.S. interest rates would likely cause foreign exchange market pressures, leading to local currency depreciations relative to the U.S. dollar, declining foreign exchange reserves, capital outflows or broader financial stress. Renewed financial sector stress in advanced economies could spill over into the region,” it said.
Meanwhile, the WB expects the poverty rates to decline in the South Asia region, albeit at a slower pace.
“While poverty has recently been increasing in economies facing severe economic pressures—notably Afghanistan, Pakistan and Sri Lanka—it is expected that the region as a whole will resume its downward trend that was interrupted in 2020-21. The decline, however, will not be as quick as previously expected, given the impacts of high inflation, slow recovery in employment and withdrawal of pandemic-related food support. The number of people in SAR living on less than US $ 3.65 a day in 2023 is expected to be well below the 2020 pandemic-induced uptick,” it said.