IMF Staff Concludes the 2018 Article IV Mission with Sri Lanka and Discusses Progress of Economic Reform Program

IMF News, March 9, 2018

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An IMF staff team led by Manuela Goretti visited Colombo from February 27 – March 9 to hold discussions for the 2018 Article IV consultation and advance technical work on the fourth review of Sri Lankan authorities’ economic reform program under the three-year Extended Fund Facility (EFF).
The mission had constructive discussions and made progress towards a staff-level agreement on the fourth review of the EFF-supported program.
Program discussions will continue in April in Washington D.C. during the Spring Meetings of the IMF and the World Bank.

Following weather-related shocks in 2017, the economy is gradually normalizing.
Real GDP growth is projected to rise to 4.4 percent in 2018, supported by a recovery in agriculture and industry and robust growth in services, reaching 5 percent over the medium term.
Inflation is projected to revert to around 5 percent by end-2018, as food prices stabilize.
Preliminary data show a primary surplus in 2017.
The economy remains vulnerable to adverse shocks given the still sizable public debt and low external buffers.

Despite weather-related shocks and some delays in implementation, program performance remains broadly on track.
Landmark reforms noted:
- The new Inland Revenue Act (IRA).
- The Central Bank of Sri Lanka’s (CBSL) Roadmap towards inflation targeting.
CBSL actions:
- Effective in curbing credit growth and stabilizing inflation despite recent pressures.
- Stepping up its pace of reserve accumulation.

Progress in revenue-based fiscal consolidation has helped preserve space for public investment and social spending while bringing down public debt.
Further revenue mobilization is needed to:
- Meet the 2018 primary surplus target.
- Reduce the overall deficit to 3.5 percent of GDP by 2020.
The new IRA is a major achievement toward a simpler and more equitable tax system; smooth implementation is critical.
Recommendations to strengthen fiscal framework:
- Amend the Fiscal Management Responsibility Act to contain mechanisms to ensure compliance, supported by improvements in debt management and greater fiscal transparency.
- Strengthen efficiency of public investment and social safety nets.
Energy pricing reforms are a priority to contain fiscal risks from State Owned Enterprises (SOEs).
- Use targeted social transfer programs to mitigate distributional impacts.
- Timely publication of audited financial statements of major SOEs and regular review of performance under Statements of Corporate Intent to strengthen SOE governance and transparency.

The CBSL should remain focused on price stability as its primary objective and stand ready to tighten if signs of demand-side inflation pressures or accelerating credit growth appear.
The favorable external environment offers a window to bolster reserve buffers; in the event of volatile global capital flows, exchange rate flexibility should be the first line of defense.
Planned changes to the Monetary Law Act, as part of the Roadmap towards flexible inflation targeting, are a key milestone to strengthen the CBSL’s mandate, governance, and autonomy.
Financial sector vigilance:
- Remain vigilant against a buildup of systemic risks.
- Consider further macroprudential tools if needed to curb excessive credit growth in certain sectors.
- Banking sector is on track to meet the Basel III requirements and should prepare contingency plans to insure against an adverse shock.
- Non-bank financial institutions should be subject to the same level of oversight as banks, with prompt resolution of problem institutions.

Authorities should push ahead with Vision 2025 to support rapid and inclusive growth through structural, macro-economic, and social reforms.
Key priorities:
- Gradual liberalization of Sri Lanka’s protectionist trade regime via reform of tariffs, para-tariffs, and non-tariff barriers, and closer regional integration.
- Robust implementation of the new IRA and the one-stop shop for FDI to improve the investment climate.
- Step up efforts to combat corruption, including greater transparency in fiscal and SOE management and a stronger AML/CFT regime.
- Address the sizable gender gap and boost female labor force participation through labor market reforms and effective gender budgeting, including vocational training, flexible work arrangements, safe transportation, and child care support.
- Develop a well-designed natural disaster risk financing framework to address costs associated with climate change.

The mission met with Prime Minister Wickremesinghe, State Minister of Finance Wickramaratne, State Minister of National Policies and Economic Affairs De Silva, Governor of the Central Bank of Sri Lanka Coomaraswamy, other public officials, and representatives of the business community, civil society and international partners.

IMF Communications Department, March 9, 2018