Self-proclaimed experts and economic hitmen

Minister Champika Ranawaka has praised the government’s economic agenda while launching his latest book, but called for greater transparency and consistency in policymaking.

The book titled ‘Caution! Fiscal Cliff Ahead’ was described by Ranawaka as an essay written by him to enable the public to understand the significant economic challenges before the government. The book, he insisted, was necessitated by growing public misunderstanding over the need to increase value-added tax (VAT) and other taxes. He is in charge of the Megapolis and Urban Development Ministry, handling mega development projects. Fitch Rating experts told last week at a presentation that the banking sector wouldn’t be able to fund major development projects that are in the pipeline with their restricted liquidity. 

With regard to VAT and other taxes, International Monetary Fund (IMF) Resident Representative to Sri Lanka Dr. Eteri Kvintradze has criticized the prevailing tax system at an interview held last week, saying Sri Lanka needs to have fewer taxes but go for a second phase of taxation reforms, and also needs to liberalise its business environment. The writer’s view is the taxes levied by the state should be in accordance with the “persons” ability to pay. This important consideration stems from the principle of equitability.

The writer can afford to meet the additional 50 percent taxes on telephone bills; however, a majority of the citizens is unable to bear the taxes on telephone bill which is nowadays an essential service. The most unequitable tax, which was imposed recently, is the removal of the VAT exemption on healthcare services. Poor patients have to pay 17 percent combined tax to the government, whereas serious measures have already been taken to offer tax concessions to foreigners under the newly set-up Colombo International Financial Centre (CIFC) under the Finance Ministry. It should not be confused with the Financial Crimes Investigation Division (FCID) or Central Investments and Finance Limited (CIFL), which is a finance company, both are faced with litigation cases from the public.

Illusion of knowledge and self-proclaimed experts
Stephen Hawking became the world’s most famous physicist and scientist against enormous odds. His famous quote, “The greatest enemy of knowledge is not ignorance, it is the illusion of knowledge”, means the people who think they know something really don’t. They can cause a lot of trouble by relaying incorrect information that they perceive as facts because other people might believe them.

New research reveals that the more people think they know about a topic in general, the more likely they are to allege knowledge of completely made-up information and false facts, a phenomenon known as “over claiming”. The findings are published in Psychological Science, a journal of the Association for Psychological Science. Psychological scientist, StavAtir of Cornell University and colleagues from Tulane University designed a series of experiments testing people’s self-perceived knowledge, comparing it to their actual expertise. In one set of experiments, the researchers tested whether the individuals who perceived them to be experts in personal finance would be more likely to claim knowledge of fake financial terms. One hundred participants were asked to rate their general knowledge of personal finance, as well as their knowledge of 15 specific finance terms. Most of the terms on the list were real (for example, Roth IRA, inflation, home equity) but the researchers also included three made-up terms (pre-rated stocks, fixed-rate deduction, annualized credit).

As expected, people who saw themselves as financial wizards were most likely to claim expertise of the bogus finance terms.

“The more people believed they knew about finances in general, the more likely they were to over claim knowledge of the fictitious financial terms,” Atir says. “The same pattern emerged for other domains, including biology, literature, philosophy and geography.”

Moody’s outlook on Sri Lanka from stable to negative
Moody’s latest report issued on June 20 downgraded the outlook on Sri Lanka’s rating from stable to negative. It says: “With nominal gross domestic product (GDP) growth slower than in the last decade, persistent sizeable deficits will raise the government’s debt burden.”

When former president handed over the government on January 9, 2015, the foreign reserves stood at US US $  8.2 billion, which is equivalent to 5.1 months of imports. One of the criticisms against him was the then government resorting to heavy borrowings, especially from China. Contrary to popular belief, the Central Bank annual report presented in 2015 revealed that the total external debt as a percent of GDP was only 53.6 percent as at December 2014, against 56.6 percent of GDP when he took over the government in 2005.

Even Moody’s predicts government debt to rise. “With persistent and large borrowing, external risks will remain,” they concluded. As per the Central Bank reports, the gross external debt position has increased from US US $  42 billion in December 2014 to USUS $  44 billion by end of December 2015. It is noted that the gross reserves declined to US $ 5.6 billion in May 2016, equivalent to 3.6 months of imports, from US $ 7.3 billion six months earlier. Gross reserves include foreign currency reserves which decreased to US $ 4.7 billion in May, from US $ 6.5 billion last November. 

At these levels, foreign currency reserves are equivalent to around three months of imports only. The foreign debt servicing ratio in 2000 was 12.3 percent and in 2015 it had increased to 19.5 percent of the total foreign exchange income. During the year 2014 it was only 14.5 percent. Nevertheless, the writer’s own view is that the debt servicing of some US $ 4.7 billion during the year will not create a major economic crisis as long as a prudent economic management system is in place. Fitch rating last week attributed low foreign direct investments to policy inconsistencies of the government. The table prepared by the writer summarises the balance of payments situation compared with the previous year. 

Foreignization goes beyond federalism
The present government is now considering converting some Chinese loans into equity with a view to avoiding a possible debt trap. However, the geopolitical implications arising from giving land and other resources to foreign countries need to be thoroughly investigated and evaluated before making any decision in this regard. Are we now required to allocate Sri Lankan prime land and similar resources such as ports, airports to other parties with vested interest, say India in order to appease the big brother, thus creating unnecessary tension within the territorial waters of Sri Lanka? Already there are moves to allocate Sampur land, Colombo Port land and many others to Indian companies without following proper tender procedures. According to Mirror Business on 21st, the government is gearing to introduce laws within three weeks allowing foreigners to buy land. The foreigners could then own land without paying any taxes. The previous transfer taxes have been taken off from the previous budget. In some countries, governments are imposing ceilings on the amount of farmland foreigners may acquire. Argentina and Brazil have recently moved in this direction. The intent was to set limits on the amount of agricultural land foreign investors can own as a way to contain growing resentment about “foreignization” and loss of sovereignty.

In Australia, the issue of foreign investors getting control over farmland has become a hotly debated issue in the last few years, with polls showing that four out of five Australians are against it. In 2012, the government announced that – to increase transparency and following the examples of the governments of Queensland, the US and Argentina – it would create a register of foreign owners of Australian farmland based on a national consultation. 

Economic vicious cycle
In February, Fitch Rating had assigned a negative outlook followed by Standard & Poor having downgraded sovereign credit rating from stable to negative. While the IMF was critical on the government policymakers of not doing enough to raise taxes, the people of this country are inundated with heavy taxes including Nation Building Tax (NBT), VAT, pay-as-you-earn A(PAYE), etc. Now there is a proposal to introduce a capital gain tax. According to Fitch, signs that the authorities’ commitment towards fiscal consolidation is wavering would point to a higher debt burden for longer and put negative pressure on the rating.

It seems that the Sri Lankan economy has entered into a vicious cycle. During the last decade there has been a steady 6-7 percent growth up to 2014 and it has now come down to around 4-5 percent. After assuming duties by the United National Party (UNP) government under President Maithripala Sirisena and Premier Ranil Wickremasinghe, there has been some curtailment and slow-down on development work throughout the country. As a result, economic growth has retarded. The great idea was to reduce dependency on foreign borrowings; actually what happened was trying to bridge the gap by imposing more taxes.  On the other hand, there has been salary increases without due consideration to productivity but purely on political doles as promised at the elections. According to economic experts, when the money supply increases without corresponding increases in ‘good and services’ obviously a ‘demand pull’ inflationary tendencies will crop up and the external value of the rupee goes up, meaning the depreciation of the rupee. As per the latest report by the Census and Statistics Department, the consumer prices compiled using data for all nine provinces rose 5.3 percent in May 2016. There would be further demand for salary increases and consequently, the government budget deficit would increase. The government is left with three options: (a) borrow money, (b) impose another round of heavy taxes or (c) both options. The cycle goes on. Only the self-proclaimed experts can give advice and long-term solutions. 

(Jayampathy Molligoda is a Fellow member of the Institute of Chartered Accountants of Sri Lanka and holds a Master of Business Administration (MBA) from the University of Sri Jayewardenepura. He is currently Director/CEO of a leading Regional Plantation Company in Sri Lanka and can be contacted through [email protected])