The Sri Lankan Economy in the New Decade: What are the Policy Priorities?

The last decade was one of significant challenges for the Sri Lankan economy. It began with the economic contraction of 2001 (1.5% GDP contraction), following drought, terrorist attacks, the tsunami in December 2004, and finally, the global financial and economic crises of the last 2 years, while the three decade civil war came to a climax between late 2008 to May 2009. Sri Lanka enters 2010 with an unprecedented opportunity to finally fulfill the great potential of the economy. In this context, the Institute of Policy Studies of Sri Lanka (IPS) research staff recently engaged in an informal in-house brainstorming session titled ‘Sri Lankan Economy in the Next Decade’. The session sought to identify some of the key challenges that will need to be overcome in order to reap this potential of the economy.
Each research staff member was requested to write down 1 to 3 key challenges or policy issues that need to be addressed, followed by strategies that could be adopted to overcome them. The results were then put up on the board and grouped according to various thematic areas. The objective was to pick out the top three or four economic issues and discuss these in further detail, prioritizing the necessary strategies. Based on the various issues brought out by the team, the following key themes were identified – education, macroeconomic stability, governance, infrastructure, external economy, private sector/industrial development, poverty, labour market constraints, climate change and environment, health policy, tourism, agriculture, North – East development and the delivery of public services. Out of these, we identified the top 4 priority areas based on the number of nominations received for each. Education received the most number of nominations for being the key policy priority in the new decade, followed by equal nominations for macroeconomic stability, governance and infrastructure. In this post, we recapture some of the views exchanged on these key policy priorities.

The Top 4 Priority Sectors
For a country that has long been known for high literacy rates in the 1990s, it is indeed revealing that the need for education reform was perceived as the most critical issue in the coming decade. The key concern voiced was the need for enhanced quality across all levels of education, and the key strategy in this regard was the need for increased competition. Enabling private participation in education delivery at tertiary level was highlighted as an option. A more balanced share of tertiary education delivery between the government and the private sector will free up more state resources that can be spent on enhancing the quality of services provided by the state sector. Importantly, freeing up resources will allow the state sector to increase salaries of staff to compete with the private sector.
However, the issue of brain drain in terms of staff from the public sector to the non-state sector was still highlighted as a bottleneck in such a policy move. It should however be noted that a brain drain already occurs, with many of Sri Lanka’s top academics leaving the country, attracted by the higher salaries in foreign universities. Any brain drain that occurs between the state education sector and non-state institution will, therefore, at least retain intellectual capacity within the country.
It was noted that at present our education system, especially tertiary education, is supply driven. State universities receive funds regardless of how they perform. It was contended that using regulation to re-energize the education system may not be a cutting-edge solution. Improving performance, in terms of relevance and quality of education and producing it at lowest cost, could be better achieved through introducing competition. This is already visible in the case of private schools. Some newly formed private schools (set up by private companies) appear to be doing well, and are even attracting foreign students, mainly from the Maldives. These may be looked at as potential models for state schools to re-configure themselves. Because of the need to perform and be accountable to the school community, these private schools have introduced innovative means of delivering education.
Similarly, universities also need to compete for funds so that they would have an incentive to perform and be efficient and effective in delivering education, rather than be passive and historical. In addition to bringing in new resources to the sector, it will also bring in fresh ideas, on par with regional and global standards. Competition will compel universities to offer courses that are more relevant and are of better quality.
It was emphasized during the discussion that efforts to encourage non-state participation in the delivery of tertiary education must be complemented by enhancing the capacity of state education delivery by increasing resources for state institutions. Furthermore, non-state institutions must be subject to prudent regulation to ensure high quality of education and relevant and adequate syllabi. Once a level playing field between various tertiary education institutions is established, it would be possible to further enhance competition by graduating to a voucher system that would enable students to choose institutions according to their quality. This would allow a directing of resources towards the most effective utilizes of such resources.
2)Macroeconomic Stability
Macroeconomic stability was perceived as being essential for creating a conducive environment for all levels of economic activity, be it SME development or large scale investment. Sri Lanka’s history of fiscal imbalance needs to be re-addressed in this context. The rationalization of expenditure would be the key strategy in this regard – since efforts are already underway to enhance revenue mobilization. State expenditure is dominated by recurrent expenditure, with salaries and wages, transfers and interest payments accounting for an even split of recurrent expenditure (approximately 33% each). The decline in interest rates in the short-term will provide some relief, transfers remain important (though improved targeting of these is essential), but the key avenue of addressing state expenditure is through the rationalization of staff cadres. Sri Lanka’s public sector strength has increased to 1.2 million as of the third quarter 2009, making up 15.8% of the total working population. Several reasons were pointed out for the preferences of workers for public sector employment including job security, pensions, and geographical issues (the bulk of private sector employment opportunities are created in the Western Province, whereas employment opportunities in less developed areas are, particularly in the blue collar services sector, in the public sector).
However, the pertinent issue is the fact that the state cannot afford to continue to finance such a large public sector. A possible strategy that was suggested was to institute an independent and transparent manpower audit of the public sector every 3 years or so. The results of such an audit would need to be made public and legislation introduced to ensure adherence to the findings of the audit. A prerequisite in this regard would be for public ministries, departments and institutions to draw up clear manpower requirements and job descriptions. These steps would pave the way for curtailing state expenditure, improving fiscal stability which in turn will enable prudent monetary policy that will contribute greatly to creating a stable, predictable economic environment.
Closely related to the issues discussed on macroeconomic stability, and in particular fiscal stability, was the need for addressing issues of governance that have undermined Sri Lanka’s economic performance over the last several decades. These related to the management of key state institutions, and the necessity for institutionalizing greater accountability in these positions. However, the issue is not limited to managerial positions but to all positions – particularly those that engage with the private sector and the general public on a regular basis for standard bureaucratic procedures and public service delivery. The prevalence of bureaucratic red tape and associated informal payments has been cited as key impediments in the literature on economic development. The role of an independent public services commission was highlighted as being critical in achieving the above objectives. However, at a more micro level there is also room for improving accountability and governance in basic public service delivery standards by implementing systems that have been successful in other countries, such as the use of citizen report cards in Bangalore in enhancing public transport delivery. An across the board effort to improve standards of governance in the country would create greater public confidence in state institutions and will enhance quality of public service delivery, both of which are essential for long-term economic development.
It is well documented that 48% of GDP is concentrated in the Western Province, Sri Lanka’s gateway to the global economy. Therefore, the need for improving connectivity between rural parts of the country and the more developed parts of the country has long been cited as an important priority for balanced economic development. This was again highlighted in the discussion on infrastructure. The need for investment in both connective infrastructure (roads, particularly rail, and ports) and the energy sector were highlighted. Commendably, this has been one of the major priorities of the current government of Sri Lanka. However, there were some areas in which the implementation of infrastructure development could be improved to have a stronger economic impact. The process of planning and prioritizing infrastructure projects would be well served if it incorporated a greater degree of community involvement and input. This would ensure that the benefits of these projects filter down to the community in the most desirable manner, whilst taking into account community level concerns.
An important aspect of investment in infrastructure is the spill-over benefits of that investment for the local population. This could be in terms of employment generated, supply of raw materials, skills transfers and so on. In many of Sri Lanka’s infrastructure projects over the years, these spill-over benefits have been precluded by the dominance of foreign labour and other supplies. Greater focus on capturing more positive spill-over effects will enhance the economic impact of investment in infrastructure in Sri Lanka. It was also emphasized that with regard to the issue of connectivity, it is important to focus on connectivity at the grass roots level – rural road networks in particular – as much as at the broader national level which focuses on larger scale infrastructure projects such as highways and ports. A significant portion of the connectivity bottlenecks occur at this very micro level. The successes of incorporating community level inputs into some of the rural infrastructure projects in programmes such as Gemi Diriya should also be replicated in other similar ventures as well.
Other Key Priority Sectors
The research staff also identified a few of other key areas, which we capture very briefly below:
External Sector – The need to engage in greater diversification, new product development and expanding non-traditional exports, providing more incentives to encourage export-orientation by local manufacturers and working towards improved trade facilitation via ‘single window’ border clearance by reducing documentation requirements and raising efficiency of border institutions.
Health – Increase health financing; tackle the emerging issue of Sri Lanka’s ageing population, expanding health programmes for the elderly and greater focus on social security issues linked to population ageing.
Industrial Development – Encouraging private sector development in the lagging regions by improving the business and investment climate across the country and fast-tracking policies to grow the Small and Medium Enterprise (SME) sector which provides widespread employment opportunities.
Environment Sustainability – The need to adopt climate change adaptation mechanisms in every sector, particular in agriculture (new paddy varieties) to ensure food security and creating overall eco-friendly development across the country by incentivizing the use of green technology among industrialists by opening up special financial benefits to users of ‘green/clean machinery’,
Moving Forward
In the coming decade Sri Lanka will have to make bold and decisive steps in actively taking forward the policy reform process, whilst of course maintaining the pro-poor agenda currently under way. If Sri Lanka is to fully capitalize on the new post-war growth opportunities opening up, the country needs to fix the key gaps and weaknesses that would certainly place a strain on the faster, more efficient and more equitable development that Sri Lanka is capable of.