December, 2, 2019
LONDON, (Reuters) - Sri Lanka's benchmark government bonds slumped to their worst- ever week on Friday, after the new government's move to immediately slash value-added tax (VAT) and other major taxes stoked worries about the cost of plans.
Dollar-denominated bond due to be paid back in 2027 and 2028 fell for the eighth straight session between 3.4 cents and 4.1 cents, taking them from roughly 96 cents on the dollar to around 90 cents and pushing yields up to 8% from 6.8%. LK180520376=, LK161142611=
In its first week of office, the new Sri Lanka Podujana Peramuna (SLPP) government led by former civil wartime defence chief Gotabaya Rajapaksa, has cut VAT from 15% to 8%, reduced some corporate taxes, scrapped a 'nation-building' tax and a PAYE tax on wages, and introduced a zero tax rate for tourism sectors which source 60% of inputs locally.
Analysts at Citi calculated the VAT cut alone could cost 200 billion Sri Lankan rupees ($1.11 billion), or 1.3% of the country's GDP, while the overall package of cuts would significantly widen the gap between revenues and expenditure.
"We are forecasting the budget deficit at about 5.8% of GDP in 2019, but the annual deficit run-rate could approach closer to 7% of GDP in the 1H20 barring corrective fiscal measures," they said in a note to clients.
The changes are also likely to add pressure to the country's lowly 'B' sovereign credit rating, with both S&P Global and . Fitch both already warning about fiscal loosing in recent weeks.
Sri Lanka's debt-to-GDP ratio is currently around 75% but was expected to gradually subside in coming years.
"While we highlighted fiscal risks given the tax-cut filled campaign policies in Gota's manifesto, we weren’t sure how much would be carried out given fiscal constraints. We underestimated their political resolve," the Citi note said.