The document analyzes Sri Lanka's potential to achieve higher economic growth targets. It finds that Sri Lanka is well positioned due to recent macroeconomic gains like low inflation and unemployment. However, pursuing 9% growth would require overcoming challenges like a high budget deficit, "brain drain", and infrastructure deficits. The document recommends policies like privatization, fiscal reforms, and investing in education, infrastructure, and sustainable "green growth" to boost productivity and feasibility of higher targets while mitigating potential negative impacts on inequality and the environment.

1. TL 1070
Economies’ Potential to Achieve Higher Growth
Targets
Name: Thushan Dharmawardana
Index no : 101414G
Submission date: 17/10/2011

2. Contents
Introduction page 1
Current Macroeconomic Situation page 2
Strengths and Weaknesses highlighted by economic indicators page 2
Feasibility of 9 % growth ratepage 5
Areas of Policy Focuspage 7
Negative Implications of pursuing higher growth rate page 9
Introduction
After the free trade agreement in 1975 Sri Lankan economy has faced with certain circumstances
that affected negatively on the growth of the economy as a whole. Now Sri Lankan Economy is
in a situation where it is potentially growing in leaps and bounces after the liberation from
terrorism. Considering the latest Central Bank Report Sri Lanka is having a prospective growth
in all the 3 main sectors in Gross Domestic Product.
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3. Current Macroeconomic Situation
3500
3000
2500
Rs. Billions
2000
Agriculture
1500
Industry
1000
Services
500
0
2006 2007 2008 2009 2010
Year
Figure 1
Data Source: Central Bank Report
Considering the above chart the Gross Domestic Product of Sri Lankan Economy has increased
over the last five years. The increment rate of GDP for the last year has increased significantly
over the last year. Sri Lanka is in an advantageous situation considering basic macroeconomic
indicators likeinflation, unemployment and per capita income. According to the central bank
sources inflation and unemployment rate has now turned out to be a one figure value.It took Sri
Lanka 55 years to reach a per capita income of US$ 1,000 and during the last four years it has
been doubled, which indicates a clear progress in Sri Lankan Economy.
Adding to those aspects New York Times had said that Sri Lanka is the best place to visit in
2010, Wall street Journal had said that Sri Lanka will be one of the top ten countries for growth
in the coming years. These recommendations and predictions show how economically
prospective Sri Lanka is considering the macro picture.
Strengths and Weaknesses highlighted by economic indicators
Pursuing towards a higher growth rate Sri Lanka has some factors which thrusts and drags which
evolves in making up the final growth rate.
Sri Lanka is an important fragment of the world economy because of its geographical situation
therefore it is considered as a transport hub. The constituted open economy remaining in the
country also provides ample opportunities for the agricultural, industrial and services sectors to
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4. grow. Sri Lanka has the second highest literacy rate in South Asia which makes Sri Lanka
competent among the other economies. Nowadays English is widely used in urban an area that’s
also a good sign towards a better Sri Lanka. According to Central bank sources Sri Lanka
tourism is also booming after the eradication of terrorism.
Year Tourist arrivals
2005 549,308
2006 559,603
2007 494,008
2008 438,475
2009 447,890
2010 654,476
Data Source: Sri Lanka Socio Economic Data – Central Bank of Sri Lanka
In year 2010 tourism sector in Sri Lanka achieved a growth rate of 46.12 % which demonstrate
the opportunities Sri Lankan citizens would have to involve in economic growth.Sri Lanka also
has a booming and modern services sector. As shown in figure 1 the services sector has become
more efficient.Tourism, banking, finance, and retail trade are the major components of the
service sector. Also IT industry has made some rapid progress over the past few years, becoming
a fountain of jobs for Sri Lankan youth.
Apart from the above mentioned aspects there are some negative attributes attached to Sri
Lankan Economy. Human capital is the most important resource for a nation to advance towards
a better position in world economy. Unfortunately ‘brain drain’ is a severe issue which
undermines human capital base.
Loss incurring state owned enterprises, low public investment and high fiscal deficits decelerates
the growth rates of economy.
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5. 90
80
70
60
% of GDP
50
Budget Deficit
40
30 Public Debt
20
10
0
2006 2007 2008 2009 2010
Year
Data Source: Central Bank Report
Figure 2
As shown in the above figure the budget deficit of the country is rotating around a same
percentage of GDP but there doesn’t seems an end of this cumulative debt public have to pay one
way or another. There is also a high regional inequality considering the growth of gross
domestic product. Mostly urban areas are obtaining the benefit of economic growth while other
areas don’t have the opportunity to acquire above mentioned efficient and quality services. To
flourish as a nation all regions should contribute with its fullest potential. Infrastructure deficits
in an economy such as roads, electricity makes the situation worse.
year Road Kilometers New registration of motor
vehicles
2005 11661 229669
2006 11773 300522
2007 11902 297892
2008 11902 265199
2009 11919 204075
2010 11923 359243
Data Source: Sri Lanka Socio Economic Data – Central Bank of Sri Lanka
The rate of new vehicles approaching roads has increased immensely while the transportation
infrastructure remains the same. Addition of motor vehicles assists congestion on roads that
wastes resources that could have been utilized for economic development.
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6. Feasibility of 9 % growth rate
To achieve the above mentioned target Sri Lankan economy has to overcome certain challenges.
The employment levels should increase while getting rid of the budget deficit.Higher
productivity should be attained and investment should increase to obtain a growth rate of 9%
ICOR * g = 1/Y
ICOR – Incremental capital output ratio
g – Growth rate
Y – Current GDP
ICOR value determines how much output a given amount of investment will bring. Considering
the above formula to increase the growth rate of a country ICOR value should decrease.
Normally in Sri Lanka ICOR value is about 5 while in USA is about 2.5.
Figure 3
Source: John Diandas Memorial Oration
A real growth rate of over 9% during the next five years will mean the Sri Lanka economy
should have a GDP around USD 120 Billion at current market prices and a per capita GDP
around 4800. At the moment Sri Lanka is having an ICOR value of 4.5 therefore for a 9 %
growth rate there should be an increase of about 40 % of GDP. If investors involve in more to the
economy and with a lower ICOR value, increasing the capital stock productivity it is certainly
feasible to achieve a growth rate of 9 %. Sri Lanka should focus on commercial agriculture and a
dynamic services sector. Improving productivity in main sectors of an economy is the key to
accelerate economic growth.
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7. Achieving a higher growth rate also derived by the educational level in a country but recently the
government expenditure on education has reduced significantly. It should be revised and more
and more investment on education should be done to have a sustainable long term economic
growth.
GDP increase
25
20
Incraes in GDP
15
10
5 GDP increase
0
2006-07
2007-08
2008-09
2009-10
period
Figure 4
Data Source: Central Bank Report
As shown in the above figure 23 % GDP increase has been achieved in 2007/2008 period in spite
of the civil war. Therefore with lots of business ventures coming up Sri Lankan economy can
surely have that 40% GDP increase needed in order to gain 9% growth rate.
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8. Areas of policy focus
There are some policies that can be implemented in achieving the growth targets. Even though
there are some negative aspects, privatization in my opinion is a good option. Through
privatization productivity and efficiency will be increased and therefore productivity of capital
stock would increase and simultaneously ICOR value would also decrease.
Government should consider on fiscal policy and taxation paying special attention to the
declining trend of government revenue. The monetary policy also should be simple to understand
making it feasible to short and medium term management of the economy. In other words
interest rates and tax rates should be manipulated transparently.
5000000
4500000
4000000
3500000
government revenue
Rs.million
3000000
2500000
2000000 Total government
1500000 expenditure
1000000 Outstanding Government
500000 Debt
0
2006 2007 2008 2009 2010
Year
Figure 5
Data Source: Central Bank Report
As shown in the figure outstanding government debt is increasing in a rapid rate therefore
government can’t take the risk of moving with Keynesian policy. Government should try to
increase their revenue while cutting down their expenditure through effective utilization of above
policies.
PPI (Producer Price Index) and CPI (Consumer Price Index) are also important factors
considering the economy. These two aspects measure the inflation rate of a country. Inflation
plays a key role in the economic growth that a small inflation rate can cause a larger reduction of
per capita income. Inflation also reduces the level of business investment and the efficiency with
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9. which productive factors are put to use.Therefore managing these indices are important in
achieving the growth targets.
25
20
Precentage
15
10 inflation
growth rate
5
0
2006 2007 2008 2009 2010
Year
Figure 6
Usually inflation and growth rate have a negative relationship but in year 2009 as shown in the
graph drastic decrease in inflation has occurred. The method of calculating inflation in year 2009
is suspicious because calculation did not include some consumer goods. Nevertheless having a
lesser inflation rate is better considering the growth of an economy.Economic infrastructure
investment raises productivity and lowers production costs. Investing in physical infrastructure
enhances the private sector efficiency and growth.
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10. Negative Implications of pursuing higher growth rate
Rapid rate of growth might be at the expense of the current account of the balance of payments.
When economy grows up the aggregate demand for goods also increases. In the normal scenario
when more money hangs around people there occurs a propensity on imports more than exports.
Therefore larger economic growth might construct larger trade deficits. However economic
growth can be achieved without worsening the balance of payment in goods and services. The
exchange rate should be strong, therefore relative prices of goods coming to Sri Lankan economy
falls. Vice Versa price of export goods will rise. This will lead to a favourable balance of trade
and a higher growth rate.
GDP of a country might rise but the benefits of the growth are not evenly distributed. This will
lead to income and wealth inequality where it creates an enormous contradiction between the
richest and the poorest elements of the population.
At the same time there is a possibility of demand pull and cost push inflation in the long run if
demand grows faster than anticipated .Higher inflation can lead to rise in interest rates and can
cause a loss of competitiveness for local producers in the international market.
7,000
6,000
5,000
4,000
3,000 Population ( thousands
)
2,000
GDP ( Rs. Billions)
1,000
0
Figure 7
Considering the above graph highest GDP/Population ratio is from Western province which
indicates the inequality of sharing benefits of the booming economy.
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11. Fast growth of production and consumption can create negative externalities such as increased
noise and air pollution and road congestion. Environmental damage can have a negative effect on
our quality of life and limits our sustainable rate of growth. Therefore focus should be on a
sustainable economic growth. To achieve this sustainable economic growth government should
follow a policy such as ‘Green Growth’ concept implemented in other Asia Pacific Countries.
Therefore we have to consider on all those factors and have a strategic plan where the negative
implications can be mitigated and achieve the expected growth target.
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