In its 75th year of independence, Sri Lanka has been in the news for its economic crises. As the nation re-engages with the International Monetary Fund (IMF) and its strict terms and conditions, Mick Moore writes about how Sri Lanka — once a prosperous economy whose citizens benefited from welfare measures — could carve an alternative economic and developmental path ahead that is more beneficial, and less humiliating, for the nation.
The coincidence is widely noted within Sri Lanka: 75 years of independence are being celebrated even as the government is seeking large-scale forgiveness of debt from its international creditors, and then a big new loan from the International Monetary Fund (IMF), with substantial conditions attached. Sri Lankan commentators are asking whether the country is really independent, and talking of humiliation and shame. But is going to the IMF actually humiliating? It certainly does not need to be?
Unfortunately, two influential sets of political actors in Sri Lanka have a vested interest in the humiliation narrative, i.e., the notion that an economic policy package designed in Washington DC is being forced on Sri Lanka, directly by the IMF, and indirectly by the American/global finance capitalists who pull the IMF’s strings. This narrative feeds intellectual and policy paralysis. The truth is not only that Sri Lanka has considerable scope to negotiate with the IMF over the shape of the economic adjustment package; further, the broad policy stance of the IMF on economic adjustment is more progressive than that of the current Sri Lankan government.
There is an alternative approach to economic adjustment that would
- be more effective in macro-economic terms;
- be much fairer to poorer Sri Lankans;
- potentially command some domestic political support, and
- partly because of that point above, be acceptable to the IMF.
IMF: Bogeyman of Convenience
The government of Sri Lanka is right in claiming that an agreement with the IMF is essential. The economic situation allows no practical alternative. It is wrong in claiming that it has little choice other than do as the IMF demands. That standpoint is, however, understandable. It frees the government from responsibility for the challenging task of developing an alternative economic adjustment strategy. More important, it allows a government that has significant authoritarian tendencies to claim sole authority to meet all IMF ‘demands’, and to characterise any domestic dissent as diversionary ‘politics’ at a time when the nation needs to be united. By contrast, it is almost an article of faith for the more nationalist and left-wing political opposition that the IMF is rabidly neo-liberal and an instrument of international finance capital that perpetually stands ready to seize control of Sri Lanka’s economy and extract yet more profit from the Sri Lanka people.
The Alternative Economic Adjustment Programme
An alternative adjustment programme needs to be designed domestically. Sri Lankans have the capacity to do that; the current government probably does not. Here are three pillars on which it could be erected:
A Real Safety Net for the Poorest Lankans: In mid-2022, in the early stages of the IMF negotiations, the government announced that it would fold the existing Samurdhi (Prosperity) anti-poverty scheme into a much larger cash transfer programme. This was long overdue. The Samurdhi scheme has for many years been shamefully inadequate for a country that had attained the formal status of a Middle Income Country. Samurdhi covers just 27 per cent of households in Sri Lanka and systematically excludes over 58 per cent of eligible recipients. The administrative costs are high. Many recipients are not formally eligible. In July 2022, Verite Research, Colombo published a paper that showed that there is a very high overlap between household incomes and the amount of electricity used. It would be possible to bypass Samurdhi and quickly establish basic eligibility for an effective cash transfer programme by using records of electricity use. These are available for 99 per cent households.
The government instead announced that it was undertaking a national household survey to determine eligibility for the new cash transfer programme. We do not know the criteria being used to determine eligibility, or how this process can avoid the high levels of politicisation that have undermined Samurdhi. The survey has taken a long time. In January this year it was announced that the survey was still ongoing. At the same time, it was announced that the government would, for a period of two months, give 10kgs of rice per month to two million low-income families, including Samurdhi beneficiaries. Perhaps the government does not seriously intend to establish an effective safety net for the poor, but rather to delay, confuse and prevent the political opposition from mobilising around this issue?
Sharing the Tax Burden — Cancel Exemptions: Sri Lanka needs more public revenue. As a proportion of GDP, the government currently collects less than half of what it collected in the 1950s, 1960s, 1970s and 1980s, and less than half what one would expect of a country at its income level. The most urgent need is to assure any future lenders, public or private, that the government would be able to repay loans it receives, including concessional loans. The more important need is to fund, long term, the public facilities and services that Sri Lanka so badly lacks — starting with education and a reasonable social safety net for the poorest. But the government has inflated tax resistance by increasing Personal Income Tax in a provocative way.
What might a different government do? There is actually a major potential source of increased tax revenue that could be tapped quickly. Sri Lankan companies have for decades benefitted from extremely generous tax exemptions. The exemption system has been examined many times. The conclusions do not change much: there are too many tax exemptions for investors; they are typically justified in terms of attracting foreign investment, but have failed miserably to achieve that objective; exemptions are given mainly through direct, personal lobbying and the use of ministerial discretion; there is no good record anywhere of what exemptions have been given, their dates of expiry, or the conditions attached to them.
Now is a good time for a Sri Lankan government to respond, by simply cancelling all tax exemptions for investors, and applying a single VAT rate and a single Corporate Income Tax rate to all companies. Will the private sector be upset? Most companies will, although some stand to benefit. The objectors need to be reminded just how much lobbying has gone into establishing the current exemptions. Potential future foreign investors will mostly prefer a simple and uniform corporate tax regime to one riddled with political influence. Would this not be a violation of contracts on the part of the government? In some cases, yes. But the government violated a lot of contracts in the middle of 2022 by ceasing to repay its foreign creditors. Cancelling tax exemptions on grounds of national economic necessity and more equal sharing of the costs of the crisis is surely no more reprehensible than failing to repay debts? The term ‘odious debt’ is familiar. Tax exemptions derived from political lobbying are no less odious.
Sharing the Tax Burden — Tax Real Estate: Sri Lanka levies no wealth taxes. Large sections of the population have become much wealthier over the past half-century. One of the most visible signs of this wealth is the boom in residential and commercial construction, above all in Colombo and the surrounding areas. Real estate taxes, whether in the form of annual charges on owners or occupants of residential and commercial property or taxes on real estate sales or ownership transfers are generally the most efficient and effective of taxes. In Sri Lanka, they are negligible. In 2009, the latest year for which data are easily available, they accounted for just 0.08 per cent of GDP. By contrast, land values in Colombo are now very high. Significant revenues could be raised, relatively quickly, by establishing a new Real Estate tax system. Technology is strongly supportive. It is now possible, using various combinations of aerial surveillance (satellites, drones) and street-level digital and eyeball observations to identify all significant urban properties that seem eligible for a recurrent property tax and to estimate their taxable values. Significant revenues could be raised within two years, and a major start would thereby be made in taxing wealth.
These proposals for fair and effective economic adjustment are not so radical in the context of Sri Lanka’s post-Independence history. From the 1950s to the 1970s, the country was an exemplar of human development. A relatively high ratio of tax to GDP enabled the government to fund universal education and health care services, and provide a basic food ration free or at low cost to the entire population. Sri Lanka was a very positive outlier in the UN’s Human Development Index. That all began to fall apart in the late 1970s — not because of the IMF or fiscal stringency, but in a context of aid abundance and as a result of domestic politics, with a nudge from the World Bank. At that time, the Government of Sri Lanka manipulated the World Bank and other aid donors to support its domestic political agenda. Armed with the wisdom that should have been accumulated in the intervening four decades, surely it should not be bowing down before the IMF today?
The views expressed here are those of the author and do not represent the views of the ‘South Asia @ LSE’ blog, the LSE South Asia Centre or the London School of Economics and Political Science.
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