Business confidence takes a beating amid growing uncertainty over the future – LMD

July, 11, 2016

The Sri Lankan economy continues to come under pressure, owing to both domestic and external factors, with the International Monetary Fund’s (IMF’s) latest statement on its US$ 1.5 billion support programme underscoring the urgent need for the country to put its finances in order.

As the IMF explains, “the Sri Lankan economy has good underlying momentum, but is starting to show signs of strain from a combination of an increasingly difficult external environment and challenging policy adjustments.”

“The key risks to the outlook, both short and medium term, stem from Government inaction on key policies and a significant deterioration in the external environment,” it adds. In fact, the lending institution goes as far as to warn that Sri Lanka could be facing a Balance of Payments crisis, with the red flag also being raised on our ballooning debt.

Indeed, Prime Minister Ranil Wickremesinghe announced a few weeks ago that his Government has signed up for US$ 9 billion in external borrowings, from the IMF, China and Japan. That’s well over 10 percent of our GDP.

According to the Central Bank of Sri Lanka, earnings from exports declined by 1.7 percent year-on-year (y-o-y), to US$ 888 million in February, with the largest contribution coming from petroleum product exports, followed by gems, diamonds and jewellery, and spices. The government securities market and Colombo Stock Exchange also recorded net outflows during this time. On a cumulative basis, earnings from exports declined by two percent y-o-y, to 1.8 billion dollars, in the first two months of 2016. Meanwhile, the Department of Census and Statistics states that inflation, measured by the Colombo Consumers Price Index (CCPI), accelerated to 4.8 percent y-o-y in May, from 3.1 percent in the previous month.

These factors appear to have contributed to the adverse outcome of the latest LMD-Nielsen Business Confidence Index (BCI) survey, together with widespread concern over the recent VAT rate hike.

THE INDEX The BCI suffered another sharp fall – of 15 basis points – to register a 28-month low of 126, in June. Notably, the index has now fallen to below both its 12-month and all-time averages, of 155 and 130 respectively.

One has to backtrack to February 2014, to match the latest BCI count. In that month, the index stood at a lowly 124, ahead of the damning UNHRC resolution on Sri Lanka and Provincial Council elections. As Nielsen’s Managing Director Shaheen Cader points out, the plunge comes on the back of “concerns about the economy and future business performance, as businesses react to both the VAT increase and concerns about inflation.”

THE ECONOMY There are mixed sentiments on the outlook for the economy, with only a third (down from 40%, in May) of respondents stating that conditions are likely to improve over the next 12 months. Another 36 percent of those surveyed feel that the economy ‘will get worse’ during this period, whereas 30 percent expect the status quo to be maintained.

One businessperson is of the view that “the current economic climate in the country seems to be fairly stable, and we expect our business activities to pick up in the future. Also, with the Government expected to obtain loans from the IMF and Japan, to ease the burden on the economy, the outlook seems fairly stable.”

However, another BCI survey participant asserts: “With the imposition and increase in taxes, and inconsistent regulations, we cannot say that the economy will improve in the near future. Businesses and individuals are still waiting to see what the Government’s plan for the economy is.”

BIZ PROSPECTS As for biz prospects in the next 12 months, 45 percent of those polled say sales volumes ‘will get better,’ which is more or less in line with the previous month’s outcome. Eighteen percent point to poorer prospects, whilst 37 percent state that conditions will ‘stay the same.’

As for the nearer-term outlook, only a third (compared to 40%, in the prior month) of the survey sample feel that business will improve, while 42 percent expect more of the same and 25 percent believe that their sales volumes will only ‘get worse.’

INVESTMENT Less than a fifth (down from 27%, in May) of Nielsen’s sample population are confident that the current investment climate is favourable. Conversely, as many as 43 percent of respondents claim that the funding environment is looking worse for wear, and nearly an equal number offer no more than a ‘fair’ recommendation. A more optimistic corporate executive avers that “the economy appears to be stabilising, and we can see a few investors coming in, which is a good sign.”

In stark contrast, another participant laments: “Nobody wants to invest where they cannot expect any benefits. No one is quite certain about the policy changes the Government has made in recent times, which are not very encouraging.”

SENSITIVITIES Members of the business community continue to view the recent changes to the tax agenda, policy inconsistency and the rupee value as key sensitivities.

In the words of a businessperson consulted by the pollsters, “the value of the rupee has declined very rapidly, and people are not willing to invest… And with constant changes to tax laws, people are uncertain as to the direction the Government is taking.”

PROJECTIONS As we predicted in last month’s edition of the BCI, the index has come under increased pressure because of accelerating inflation and the Sri Lankan Rupee’s vulnerability, coupled with the stringent conditions (à la reforms) set out in the IMF’s bailout arrangement.

Corporates must also be bracing themselves for the impending reinstatement of Capital Gains Tax, which is to be levied on companies. The Prime Minister’s recent pledge to “tax rich companies soon” must surely have big businesses with their backs against the wall – this, following the highly discriminatory and contentious Super Gains Tax they were asked to fork out last year.

It follows that business sentiment could very well head further south in the near term, despite being told by our economic and fiscal powers that be that the nation and its economy is looking up.