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Country Profile 2007

Sri Lanka This Country Profile is a reference work, analysing the country's history, politics, infrastructure and economy. It is revised and updated annually. The Economist Intelligence Unit's Country Reports analyse current trends and provide a two-year forecast.

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ISSN 0269-5073

Symbols for tables "n/a" means not available; "�" means not applicable

Printed and distributed by Patersons Dartford, Questor Trade Park, 151 Avery Way, Dartford, Kent DA1 1JS, UK.

COLOMBO

Negombo

Chilaw

GaGampahpaha

PutPuttalaalam

Vavunivuniya

AmpaparaiKeKegallalla

Kandandy

MaMatara

BadullaBadullaNuwara Elia Eliya

Ratnapuatnapura

Gampaha

Matale

Puttalam

Anuradhapura

Mannar

Jaffna

Mullaittivu

Vavuniya

Batticaloa

Trincomalee

AmparaiKegalla

Kandy

GalleMatara

Hambantota

MonaMonaragalalaMonaragala

BadullaNuwara Eliya

Kalutara

Ratnapura

Moratuwa

Panadura

Beruwala

Bentota

Ambalangoda

Weligama

Tangalla

Kirinda

Tanamalwila

Galge

Okanda

Pottuvil

BibileBibileBibile

Welimda

EllamullaEllamulla

HanguHangurananketa

Ellamulla

Hanguranketa

KuKuruneunegalalaKurunegala

OpanaOpanakeOpanake

Katunayaka

MahoMahoMaho

OtappuappuwaOtappuwa

Talaimannar

Kankesanturai

Elephant Pass

KilinoKilinochchiKilinochchi

Mulliyavalai

ManMankulaulamMankulam

hukhukkudiyiudiyiruppuppuPuthukkudiyiruppu

ChChavChavakachcheri

GalGalewelelaGalewela

PolonnaolonnaruwaPolonnaruwa

KekiekirawaKekirawa

MihinMihintalaleMihintale

RambambewaRambewa

HabaHabarananeHabarane

Horowupotana

WelielikandandaWelikanda

Valachchenai

Maha-OMaha-OyaMaha-OyaSRSRI I LANKANK ASRI LANKA

INDIA

INDIAN OCEAN

Gulf of Mannar

Palk Strait

INDIAN OCEAN

WESTER N

SOUTHERN

EAEASTERTER N

NORTHERTHER N

NORTH H CENTRACENTRA L

CENTRACENTRA L

NORTHWEWESTERTER N

SABARARAGAMUAMU WA

EASTERN

NORTHERN

NORTH CENTRAL

CENTRAL

NORTHWESTERN

SABARAGAMU WA

UVA

Maha Oya R.

Ded

ure Oya R.

Mi Oya R.

Modaragam Aru R.

Modaragam Aru R.

Kala Oya R.

Kala Oya R.

Aruvi Aru R.

Pali Aru R.

Yan

Oya

R.

Kal A

ru R.

Ma

haw

eli G

anga

R.

Mah

awel

i Ga

nga

R.

LaLake Senane SenanayakeSamudSamudraLake SenanayakeSamudra

Wila Oya R.

Wila Oya R.Kumbukkan Oya R.

Kumbukkan Oya R.

Menik G

anga R.

Walawe Ganga R.

Walawe Ganga R.

Gin G

anga

R.

Kuda R.

Kalu

G

anga R.

Kalu

G

anga R.

Kelani R.

0 km 25 50 75 100

0 miles 25 50© The Economist Intelligence Unit Limited 2007

July 2007

Main railway

Main road

Province boundary

Main airport

Capital

Major town

Other town

Country Profile 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007

Comparative economic indicators, 2006

Gross domestic product(US$ bn)

Sources: Economist Intelligence Unit estimates; national sources.

Gross domestic product(% change, year on year)


Consumer prices(% change, year on year)


Gross domestic product per head(US$ '000)


0 50 100 150 200 250 300 350 400

Afghanistan

Sri Lanka

Vietnam

Bangladesh

Pakistan

Singapore

Indonesia

India

0.0 0.5 1.0 1.5 2.0

Afghanistan

Bangladesh

Vietnam

Pakistan

India

Sri Lanka

Indonesia

Singapore

0.0 2.0 4.0 6.0 8.0 10.0 12.0 14.0

Singapore

India

Bangladesh

Vietnam

Pakistan

Afghanistan

Indonesia

Sri Lanka

0.0 2.0 4.0 6.0 8.0 10.0

Indonesia

Bangladesh

Pakistan

Sri Lanka

Singapore

Afghanistan

Vietnam

India

922.9 29.5

Sri Lanka 1

© The Economist Intelligence Unit Limited 2007 www.eiu.com Country Profile 2007

Contents

Sri Lanka

3 Basic data

4 Politics 4 Political background 6 Recent political developments 10 Constitution, institutions and administration 11 Political forces 13 International relations and defence

15 Resources and infrastructure 15 Population 16 Education 17 Health 17 Natural resources and the environment 18 Transport, communications and the Internet 21 Energy provision

23 The economy 23 Economic structure 24 Economic policy 27 Economic performance 29 Regional trends

30 Economic sectors 30 Agriculture 31 Mining and semi-processing 32 Manufacturing 34 Construction 35 Financial services 37 Other services

38 The external sector 38 Trade in goods 41 Invisibles and the current account 41 Capital flows and foreign debt 42 Foreign reserves and the exchange rate

44 Regional overview 44 Membership of organisations

45 Appendices 45 Sources of information 45 Reference tables 45 Population 46 Labour force 46 National energy statistics 46 Government finances

2 Sri Lanka


47 Money supply 47 Interest rates 47 Prices and earnings 47 Gross domestic product 48 Nominal gross domestic product by expenditure 48 Real gross domestic product by expenditure 48 Agricultural production 49 Mining and quarrying exports 49 Manufacturing production 49 Realised investments in Board of Investment projects 50 Stockmarket indicators 50 Tourism statistics 50 Main composition of trade 51 Main trading partners 51 Balance of payments, IMF series 52 External debt, World Bank series 52 Foreign reserves 52 Exchange rates

Sri Lanka 3


Sri Lanka

Basic data

65,610 sq km

19.9m (2006 mid-year government estimate)

Population in !000 (2006)

Colombo (capital) 2,421 Kandy 1,361 Gampaha 2,125 Kalutara 1,102 Kurunegala 1,511 Ratnapura 1,073

Tropical

Hottest month, May, 26-31°C (average daily minimum and maximum); coldest month, December, 22-29°C; driest month, February, 69 mm average rainfall; wettest month, May, 371 mm average rainfall

Sinhalese, Tamil, English

The metric system is now predominant

Sri Lanka rupee (SLRs) =100 cents. Average exchange rate in 2006: SLRs103.9: US$1; exchange rate on July 16th 2007: SLRs111.7: US$1

Five and a half hours ahead of GMT

January-December

January 3rd (Duruthu Full Moon Poya Day); January 15th (Tamil Thai Pongal Day); February 1st (Navam Full Moon); February 4th (National Day); February 16th (Maha Sivaratri Day); March 3rd (Medin Full Moon Poya Day); April 1st (Holy Prophet!s Birthday); April 2nd (Bak Full Moon Poya Day); April 6th (Good Friday); April 13th-14th (Sinhalese and Tamil New Year); May 1st (May Day and Vesak Full Moon Poya Day); May 2nd (day following Vesak Full Moon Poya Day); May 31st (Adhi Poson Full Moon Poya Day); June 30th (Poson Full Moon Poya Day); July 29th (Esala Full Moon Poya Day); August 28th (Nikini Full Moon Poya Day); September 26th (Binara Full Moon Poya Day); October 13th (Ramazan); October 25th (Vap Full Moon Poya Day); November 8th (Deepavali); November 24th (Il Full Moon Poya Day); December 21st (Hadji Festival Day); December 23rd (Unduvap Full Moon Poya Day); December 25th (Christmas)

Land area

Population

Main towns

Weather in Colombo

Languages

Measures

Currency

Time

Fiscal year

Climate

Public holidays in 2007

4 Sri Lanka


Politics

Violence between government forces and the rebel movement, Liberation Tigers of Tamil Eelam (LTTE, or Tamil Tigers) has risen significantly since late 2005. Following a failed first round of talks between the LTTE and the government in February 2006, the peace process that aims to resolve Sri Lanka!s ethnic conflict has been virtually on hold as fighting has escalated in the north and east. Through a series of campaigns the military has gained considerable ground in the eastern province. However, the rebels have continued to retaliate using suicide bomb attacks both in the war zone and in the capital, Colombo. Their new aerial capability, notably demonstrated in a bombing raid near Colombo in April 2007, poses a serious security threat. The government has come under increasing international scrutiny over allegations that it has been abusing human rights amid the heightened security situation. Domestically, pressure on the government is set to increase, as the Marxist Janatha Vimukthi Peramuna (JVP, the People!s Liberation Front) is increasingly distancing itself from the government and the opposition United National Party (UNP) is stepping up its anti-government campaign. Nevertheless, the opposition remains in a weakened state compared to its position before the victory of Mahinda Rajapakse of the ruling People!s Alliance (PA) in the presidential election of November 2005.

Political background

Sri Lanka was ruled by the Portuguese and the Dutch in the 16th and 17th centuries, respectively. British rule was established at the end of the 18th century. Pressure for independence built up in the first half of the 20th century. Sri Lanka (then known as Ceylon) became fully independent on February 4th 1948, remaining a member of the Commonwealth.

For 23 years Sri Lanka has been caught up in a civil war in which over 70,000 people have lost their lives. The immediate origins of the conflict lie in attempts by the 1956 Sinhalese-dominated government to reverse what was seen as the disproportionate influence of the Tamil population in Sri Lankan society. This precipitated tensions between Tamils and Sinhalese. In 1958 the first inter-communal riots occurred. Relations between the two groups deteriorated during the 1960s and 1970s: the Tamils sought a federal system of government, and became alienated when this demand was rejected by successive governments.

The failure of Tamil political parties to achieve their aims by peaceful means led to demands for an independent Tamil state, to be known as Eelam, and to the formation of terrorist groups dedicated to achieving this goal. Repressive action by government troops only increased tensions, culminating in a violent outburst of intercommunal rioting in 1983. The event led to a mass exodus of Tamil refugees from Sri Lanka. By 1987 the LTTE, led by Velupillai Prabhakaran, had emerged as the leading Tamil militant group, effectively controlling the northern peninsula and the city of Jaffna.

History

The racial divide

Sri Lanka 5


In 1987 India, whose Tamil population in the adjacent state of Tamil Nadu had long aided the LTTE, intervened in Sri Lanka!s ethnic conflict. An Indian Peace Keeping Force (IPKF) was deployed to oversee a peace accord that provided for the creation of provincial governments to which limited powers would be devolved. Sri Lanka!s northern and eastern provinces, which correspond to the Tamils! desired state of Eelam, were provisionally merged. The LTTE, however, rejected the accord and resumed its offensive. The IPKF was then deployed against the Tigers and drove them out of their stronghold of Jaffna, relegating the LTTE to a guerrilla role. The United National Front (UNF), led by a former prime minister, Ranasinghe Premadasa of the United National Party (UNP, the main component of the UNF), was voted into power in 1989. The new presi-dent, who was openly critical of the peace accord, ordered the IPKF to withdraw and embarked on direct negotiations with the Tigers. As the IPKF withdrew in stages, finally leaving in March 1990, the Tigers regained control in the Jaffna peninsula.

In 1989 Sri Lanka was paralysed by another serious wave of violence, inspired this time by a Marxist Sinhalese extremist party, the Janatha Vimukthi Peramuna (JVP, the People!s Liberation Front). Aided by unofficial vigilante groups, the security forces responded with their own brand of terror. Thou-sands, mainly young men, lost their lives in killings carried out by both the JVP and the security forces. The campaign of violence was brought to an end in November 1989 after the capture and execution of most of the JVP!s leaders.

Negotiations with the Tamil Tigers broke down in June 1990 as renewed fighting broke out. In May 1991 a former prime minister of India, Rajiv Gandhi, was assassinated by an LTTE suicide bomber, and in May 1993 Mr Premadasa was killed in another Tamil Tiger suicide attack. This marked a turning-point in the political fortunes of the UNP and in the profile and tactics of the LTTE, which had become bolder and more ruthless. However, the assassinations also lost the group much international sympathy. Sri Lankans, having become increasingly disenchanted with the UNP!s 17-year rule, voted the People!s Alliance (PA) into power in 1994. The PA!s leader, Chandrika Kumaratunga, was subsequently elected president in November 1994.

Shortly after coming to power, Mrs Kumaratunga!s government opened peace talks with the LTTE. After a brief cessation of hostilities in January 1995, the Tigers unilaterally called off the truce in April 1995, leaving the government with little option but to step up its military effort. In December 1995 the security forces took the former Tiger stronghold of Jaffna, dealing a major psychological blow to the militants. However, the taking of Jaffna was followed by a string of military defeats for the government, which were blamed on faulty strategy. In December 1998 the government was forced to abandon an 18-month military campaign after suffering heavy losses of manpower and equipment.

The Tigers retaliated against the increased military pressure by stepping up terrorist attacks on economic and civilian targets on the rest of the island. Since the 1996 bombing of the Central Bank of Sri Lanka, these targets have included

Indian efforts to keep the peace failed

Thousands died in a Marxist uprising

The terrorists grew bolder and more ruthless

6 Sri Lanka


hotels and office complexes in the financial district of Colombo, as well as power stations, oil depots and a Buddhist temple in Kandy.

After surviving an assassination attempt, Mrs Kumaratunga was re-elected for a second term in the presidential election in December 1999, and in October 2000 the PA-led coalition won a narrow victory in the parliamentary election. In April 2000 Tigers captured the strategic Elephant Pass causeway, which links the northern Jaffna peninsula to the mainland, later declaring a unilateral ceasefire in December 2000. Several rounds of talks between the government and rebels, sponsored by the Norwegian government, failed to make much progress. In April 2001 the rebels ended their ceasefire, launching an attack on the international airport near Colombo in July of the same year that destroyed 13 commercial and military aircraft and inflicted damage estimated at more than SLRs30bn (US$340m). In the wake of the attack the government lost its majority in parliament as coalition allies withdrew their support.

After failing to secure the UNP!s support for the PA!s attempts to find a solution to the ethnic conflict, Mrs Kumaratunga negotiated an agreement between the PA and the JVP. However, this alliance caused strains within the PA, prompting a new parliamentary election in December 2001. After this vote, the UNP was able to form a majority in parliament in an alliance, known as the United National Front (UNF), with the Sri Lanka Muslim Congress. Mrs Kumaratunga!s PA suffered a sharp decline in its total number of seats. Ranil Wickremasinghe of the UNP was appointed prime minister, but owing to personal animosity between Mrs Kumaratunga and Mr Wickremasinghe, relations between the government and the president were stormy.

Recent political developments

The UNF government entered into a formal ceasefire agreement with the LTTE in February 2002, paving the way for peace talks. The agreement committed the two sides to creating conditions that would enable civilian life to return to a state of relative normality. This included the unhindered transport of essential goods to the war-affected areas in the north and east, the removal of mines planted by government troops and the rebels, and the opening up of the A9 highway, the main land route to the Jaffna peninsula, to unrestricted civilian traffic. A special international unit, the Sri Lanka Monitoring Mission (SLMM) headed by Norway, was created to monitor the ceasefire.

Although the ceasefire continued to hold, peace talks between the UNF-led government and the Tamil rebels, which were mediated by Norway, stalled in April 2003 as differences arose over the rebels! demand for the establishment of an Interim Self-Governing Authority for the north and east. A massive US$4.5bn aid package pledged by donors to rebuild the war-torn areas was put on hold.

A growing power struggle between Mrs Kumaratunga and Mr Wickremasinghe eventually culminated in her dissolving parliament and calling an early election in April 2004. The United People!s Freedom Alliance (UPFA), comprising the PA and the JVP, became the largest grouping, with 105 of the 225 seats in

The UPFA won power in the April 2004 election

The UNF and the LTTE signed a ceasefire agreement in 2002

During the PA's second term the war escalated further

Sri Lanka 7


parliament, but failed to secure a majority; the UNP!s tally of seats was reduced to 82. The result of the election could be interpreted as a resurgence of nationalism. The UNF government!s perceived concessions to the LTTE, and its re-election campaign, which focused on the peace negotiations, failed to strike a chord with the vast majority of the electorate, which was more concerned about rising prices.

The ceasefire became increasingly strained during the UPFA!s 14 months in power, and violations of the ceasefire agreement escalated. In March 2004 the LTTE split, with its eastern commander, V Muralitharan (known as Colonel Karuna), forming a breakaway faction, which the LTTE subsequently alleged had covertly allied itself with the government. The Tigers! belief that the government aided Colonel Karuna heightened antagonism between the LTTE and the government. A number of government military intelligence personnel and members of the Karuna faction were subsequently killed by the LTTE. Sri Lanka!s ethnically Tamil foreign minister, Lakshman Kadiragamar, was perhaps the most high-profile victim, having been assassinated in August 2005. Although the LTTE denied responsibility, the group had previously murdered many Tamils who had co-operated with government forces. Moreover, the group had been openly hostile towards Mr Kadiragamar because of his success in getting it banned in several countries. The Tigers also replenished their military arsenal and acquired aircraft, although publicly they held to the ceasefire.

On December 26th 2004 Sri Lanka was hit by a tsunami (tidal wave) that claimed over 60,000 lives in the country and displaced close to 1m people. The worst-affected areas were the coastal regions of the northern and eastern provinces. The opportunity for the warring parties to come together in responding to the disaster was missed, owing to the inability of the government and the LTTE to reach an agreement on the delivery of aid to victims in these areas. The JVP and Buddhist clergy were vociferous in their opposition to any aid distribution deal with the rebels. Eventually, under pressure from international donors, Mrs Kumaratunga signed an aid co-operation agreement in June 2005"a move that led to the loss of her administration!s parliamentary majority, as the JVP withdrew from the government in protest.

In November 2005 the UPFA candidate, Mahinda Rajapakse, won the presidential election by a narrow margin owing to last-minute tactical intervention by the LTTE, which ordered a boycott of the election by Tamils living in the northern and eastern provinces. It is thought that Mr Wickremasinghe would have won the closely contested election if Tamils in these areas had been allowed a free vote.

Less than a month after Mr Rajapakse was elected president, the rebels launched a series of guerrilla-style ambushes on government troops and police in the north and east. Mr Rajapakse, deviating from the hardline stance on talks with the insurgents he had taken during the election campaign, agreed to a first round of peace talks with the LTTE in Geneva in February 2006. A second round of talks was postponed and then abandoned. Following a rash of high-profile suicide attacks (including one on the head of the army, General Sarath Fonseka) and incidents targeting civilians, Norway attempted

Sri Lanka was hit by a tsunami in December 2004

Mr Rajapakse was elected president in late 2005

8 Sri Lanka


to re-start talks in Geneva in June. However, the LTTE refused to participate on the grounds that the government delegation was not of a ministerial level, arguing that the government was not serious about the meeting.

Since mid 2006, when the government stepped up its military campaign in the eastern province, the war has intensified and has now come to be termed "Eelam War IV". The internationally monitored ceasefire that had been in place since 2002 has almost completely broken down, and over 4,000 people have died in the past 18 months as the conflict has escalated, compared with 130 in the previous three years. Buoyed by gains in the eastern province in particular, the military has pursued its offensive, and tough anti-terrorism security measures have been brought back into force, including the Prevention of Terrorism Act. In July 2007, following the taking of the Thoppigala region from the LTTE, the government claimed to have fully recaptured the eastern province for the first time in 13 years.

However, a grave humanitarian problem has arisen following recent military operations, largely as a result of the displacement of residents by the fighting. By mid-June 2007 around 400,000 people (estimates vary significantly) had become refugees, and deteriorating conditions in their camps threaten a humanitarian disaster. The government has come under criticism locally and internationally for its handling of the refugee situation.

The government has also been accused of either tacitly or explicitly abetting human rights abuses by the security forces and members of the faction led by Colonel Karuna. Alleged incidents of abuse include the killing of aid workers, the abduction of Tamil and Muslim businessmen and threats and intimidation of the media. In June 2007, following an order from the Ministry of Defence, over 400 Tamils living in lodges in Colombo were forcibly evicted to be sent back to the northern and eastern provinces. The move drew international condemnation and was declared illegal by the Supreme Court, forcing the government to retract the order and offer a public apology. Concerns have also been expressed at what is seen as a growing trend towards authoritarian rule within the Rajapakse administration. Pressure is mounting on the government to allow an international human rights monitoring agency to operate within the island.

Despite its territorial losses and although it has largely avoided taking on government forces in set-piece battles, the LTTE has shown that it retains its capability to strike virtually anywhere on the island. In March 2007 the rebels mounted their first ever aerial attack on the Sri Lanka Air Force!s main base at Katunayake, using two small light aircraft. The bombs dropped by these aircraft during the attack did not cause extensive damage, but resulted in panic in the adjoining international airport, which was shut for several hours. Two subsequent bombing raids in April targeted a northern military base and fuel storage facilities. The government subsequently closed the country!s only international airport at night for two months. (Normal operations at the airport resumed on July 1st 2007.)

Officials claim to have retaken the eastern province

The rebels hit back with aerial attacks

Sri Lanka 9


There has been little progress on the political front for a solution to the ethnic problem. An All Party Representatives Committee that sought the views of a wide range of groups has yet to produce a final set of proposals. The only proposal that has been put forward"and one that is endorsed by the president"visualises devolution of power at the village level rather than the provincial level. This has been viewed by most parties as a retrograde step (this proposal was first floated and rejected by all parties in the early 1980s) and is unlikely to be considered by the rebels. Such political initiatives are unlikely to be actively pursued until there is a significant change in the current phase of military operations or unless intense pressure is brought to bear on the government by international donors.

A high-profile government initiative to secure the co-operation of the opposition UNP in efforts to resolve the country!s ethnic conflict was launched in October 2006. However, this crumbled after Mr Rajapakse engineered the crossover to the government ranks of 18 UNP members of parliament (MPs) in January 2007 in return for cabinet portfolios and other perks. The result was a 54-member cabinet, believed to be one of the largest in the world.

In June 2007 two former ministers, Mangala Samaraweera and Sripathi Sooriyarachchi, who had been sacked from the cabinet by Mr Rajapakse, split from the Sri Lanka Freedom Party (SLFP, the largest component of the PA) to form a new group, the SLFP (Mahajana wing). The formation of the new group highlighted the tensions created within the PA as a result of Mr Rajapakse!s wooing of UNP politicians, and as a result of the Rajapakse family!s dominance of government (the cabinet also contains two of Mr Rajapakse!s brothers). The new party has held discussions with the opposition and could co-operate with them to work against the Rajapakse government.

Important recent events

2003

The Liberation Tigers of Tamil Eelam (LTTE) suspends peace talks in April, after it is refused access to an aid meeting being held in June in Tokyo.

2004

The president, Chandrika Kumaratunga, dissolves parliament and holds a fresh general election in April. The United People!s Freedom Alliance (UPFA) coalition, led by Mrs Kumaratunga, wins 105 of the 225 seats in parliament. On December 26th a tsunami hits Sri Lanka, resulting in thousands of deaths and widespread damage to the southern, eastern and northern coastlines.

2005

The Janatha Vimukthi Peramuna (JVP, the People!s Liberation Front), quits the coalition on June 15th in protest at the president!s decision to enter into an agreement with the Tigers on the sharing of tsunami aid. The government is subsequently relegated to minority status. On August 12th the minister of foreign affairs, Lakshman Kadiragamar, is assassinated. The government blames the LTTE, but nevertheless remains committed to resuming peace talks. Last-minute tactical intervention by the

There has been little progress on finding a political solution

A new opposition party has been formed

10 Sri Lanka


Tigers delivers the presidency by a narrow margin to the UPFA candidate, Mahinda Rajapakse, who campaigned on taking a hard line towards the LTTE.

2006

One round of talks between the government and the rebels takes place in February against a backdrop of escalating violence. Subsequent efforts by the Norwegian mediators to hold further talks fail. The army!s chief of staff, General Sarath Fonseka, is seriously injured in a suicide bombing in April. The EU declares the LTTE a banned terrorist group in May. Fighting escalates in the eastern province.

2007

A pact between the government and the opposition United National Party (UNP) collapses following the defection of 18 UNP legislators to the government. The LTTE demonstrates a new aerial attack capacity, conducting its first bombing raids. The forcible eviction of Tamils from the capital, Colombo, in June draws international condemnation. Two sacked ministers launch a new political party in June. In July the government claims to have seized the last LTTE base in the eastern province.

Constitution, institutions and administration

Sri Lanka!s constitution has been the subject of controversy ever since it was promulgated in 1978. Its chief architect, Junius Richard Jayewardene (a former president, 1978-88), once quipped that the only thing that the constitution did not empower him to do was to change a man into a woman. As the country!s first executive president under the new constitution, Mr Jayewardene may have enjoyed more power than any other leader of a democratic state at the time. The UNP that he led held a five-sixths majority in parliament, buttressing the presidency still further.

The issue of unfettered power came to the fore in Mrs Kumaratunga!s second term as president. Technically, Mrs Kumaratunga wielded all the power enjoyed by Mr Jayewardene, but she lacked his parliamentary support. Between December 2001 and April 2004, for only the second time in 24 years, the country had a president from one party and a government from another. The first time that this had happened was when Mrs Kumaratunga led the PA coalition to victory in the parliamentary election of 1994. It was her good fortune that the then president, D B Wijetunga, was content to play the role of a caretaker, having inherited the presidency following the assassination of Mr Premadasa in 1993. The situation in Mrs Kumaratunga!s second term was quite different. Although in opposition, her party had enough seats in the legislature to thwart the efforts of Mr Wickremasinghe, the then prime minister, to control policy, particularly in relation to the ethnic conflict. Mr Wickremasinghe failed to accommodate her views, and, using the president!s power to dissolve the legislature, Mrs Kumaratunga called a new parliamentary election.

Ironically, Mrs Kumaratunga was elected on a pledge to abolish what she termed a "senseless" constitution within a year. Nevertheless, once firmly ensconced in power, she used the presidency!s extensive powers to out-manoeuvre her political opponents. With Mr Rajapakse also tending towards

The constitution remains controversial

Sri Lanka 11


an authoritarian style of rule, questions over the constitutional concentration of power have re-emerged. However, moves to reduce the president!s powers or empower parliament are unlikely, given the incumbent!s interest in the status quo and the need to address more pressing issues like the Tamil insurgency.

Tension between the executive and the legislature has made life harder for institutions such as the judiciary, the police, the armed forces and the bureaucracy, all of which are highly politicised. The credibility and independ-ence of the judiciary has often been called into question, especially since the president appoints judges to the Supreme Court. However, the Supreme Court!s refusal in 2005 to back Mrs Kumaratunga!s effort to hold a presidential election in 2006 (in effect extending her term of office by arguing over the time she officially assumed the presidency) demonstrated that, in some matters at least, the judges remain beyond presidential influence. The Supreme Court has continued to exert its independence under Mr Rajapakse, giving important rulings against the government in May and June 2007.

As head of state and of the government, the president presides over the cabinet, the armed forces and the police. As head of the government, the president wields enormous power over the country!s administration. Traditionally, the bureaucracy has been heavily influenced by the politicians in power. Each party has replaced the secretaries of government ministries and the heads of government departments with loyalists immediately after being elected. In this environment, bureaucratic, legislative and regulatory institutions lack trans-parency, being hostage to the whims of whoever holds political power.

Political forces

The PA is dominated by the Sri Lanka Freedom Party (SLFP), which was formed by Mrs Kumaratunga!s father, S W R D Bandaranaike, in 1956. In June 2006 the leadership of the party passed beyond the Bandaranaike family for the first time, when Mr Rajapakse was appointed leader, replacing Mrs Kumaratunga. Traditionally socialist, the PA began to espouse liberalisation of the economy in 1994, and has initiated several high-profile privatisations. However, it is not as convincing an advocate of the free market as the UNP. The PA also accommodates several die-hard socialists, making it something of a political chameleon. The party ruled from 1994 to 2001, and is the main component of the UPFA coalition that has governed since April 2004. Since the withdrawal of the JVP from the ruling coalition in June 2005, the PA has been the only group within the UPFA, governing as a minority.

The UNP draws much of its support from more educated, affluent and Westernised urban areas, and has the backing of many business leaders. It was responsible for opening up the economy in 1978, and is decidedly reform-friendly; reform efforts accelerated again after it took office in December 2001. Part of the reason for this comes from the party!s historic bent towards entrepreneurship. Another factor has been the party!s desire to stimulate growth and improve business sentiment, so as to generate popular support for UNP efforts to end the ethnic conflict. The more left-of-centre parties, the socialists

State institutions are heavily politicised

The UNP

The PA

12 Sri Lanka


and the nationalists, have always been suspicious of the UNP, and this is unlikely to change.

The JVP is a hardline Marxist party that opposes any form of political devol-ution for the Tamils. It was responsible for leading two violent anti-government insurrections in 1971 and 1989. The party!s representation in parliament has grown since it entered the democratic mainstream at the 2000 general election, and it has ambitions to become the third main party in Sri Lankan politics. The JVP has strong support in many rural areas. It wields considerable power over trade unions, which it has used to voice its strong opposition to any form of privatisation. The JVP will continue to benefit from fears among the poorer and less-educated segments of society that free-market policies will only benefit the rich. It does not hesitate to whip up popular sentiment against the peace process and further liberalisation of the economy. Nevertheless, its political vulnerability was highlighted in the March 2006 local elections; confident of its growing electoral appeal it campaigned separately from the PA, but saw its influence decline as the electorate voted overwhelmingly for the PA.

The 2004 election saw the birth of another nationalist party, the Jathika Hela Urumaya (JHU), formed by the Buddhist clergy. The party won nine seats, an unexpectedly large number, in the election, and like the JVP strongly opposes a political compromise with the Tamil Tigers. Given the strong influence that the clergy exerts over the majority-Buddhist population, it will remain a key player.

The Tamil National Alliance (also known as the Sri Lanka Tamil Government Party or Illankai Tamil Arasu Kachchi, ITAK), which holds 22 seats in parliament, is the unofficial representative of the LTTE. Other small parties include the Sri Lanka Muslim Congress (representing the Muslim community) and the Ceylon Workers! Congress (representing the Indian up-country Tamils). These minor parties are power brokers, since their support is critical for any government attempting to gain a majority in parliament.

Main political figures

Mahinda Rajapakse

Mr Rajapakse, formerly the prime minister in the United People!s Freedom Alliance (UPFA) government, was elected president in November 2005, having campaigned for a hard line in peace talks with the Liberation Tigers of Tamil Eelam (LTTE, or Tamil Tigers) and a populist economic policy. On assuming power he adopted a more pragmatic public position on negotiations with the rebels, but has now reverted to a hardline stance, as evidenced by the growing intensity of the war. Mr Rajapakse comes from the southern district of Hanbantota and was formerly a human rights lawyer. His power base lies in rural areas. Two brothers of the president are important figures in the current cabinet.

Ranil Wickremasinghe

Mr Wickremasinghe is a former prime minister and current leader of the opposition United National Party (UNP). His UNP draws support largely from minorities and urban areas. Since his loss in the 2005 presidential election, Mr Wickremasinghe!s authority and his party!s unity have been undermined as

Nationalist Sinhalese parties

Minority parties

Sri Lanka 13


various factions challenge his leadership. Like the president, Mr Wickremasinghe was formerly a lawyer.

Velupillai Prabhakaran

The LTTE leader, Mr Prabhakaran has used the ceasefire to rebuild his organi-sation and strengthen its military capabilities. He has also taken the opportunity to have a number of his opponents murdered. Mr Prabhakaran has built up a substantial personality cult around himself within the LTTE movement. Some have argued that he is committed to winning a separate Tamil state, despite his public consideration of a solution involving devolved power. His organisation was weakened when a faction, based in the east, broke away in March 2004.

Anura Bandaranaike

Mr Bandaranaike is the brother of Mr Rajapakse!s predecessor as president, Chandrika Kumaratunga, and currently the most politically active member of their influential family. He was briefly sacked from the cabinet in 2007 after a disagreement with the president, but was soon reinstated. Should Mr Bandaranaike withdraw from the government, indicating his family!s opposition to Mr Rajapakse, it could precipitate other defections and would seriously undermine the administration.

International relations and defence

Sri Lanka!s relations with its main trading partners and geographical neighbours have strengthened in recent years. Diplomatic efforts to mobilise international opinion against the Tamil rebels have also borne fruit, a notable achievement being the bans imposed on the LTTE by the EU and the US. The US and the EU declared the insurgent group a terrorist organisation in 1997 and 2006, respectively. The LTTE!s cause suffered significant setbacks following the September 11th 2001 terrorist attacks in the US. Although the attacks did not directly change the position of foreign governments with regard to the ethnic conflict in Sri Lanka, the use of arms and terror to meet political ends now meets with stronger opposition. Major donor governments remain committed to the position that any resolution to the ethnic conflict should not jeopardise Sri Lanka!s territorial integrity.

Western countries welcome and support the government!s commitment to peace talks, whichever party is in power. However, they are increasingly critical of its alleged human rights abuses"both the UK and Germany have suspended small amounts of aid over the issue. Western countries are, moreover, unwilling to intervene in Sri Lanka!s civil war without involving the dominant regional power, India. India!s disastrous military involvement in the civil war in the late 1980s has rendered it wary of further military intervention. The Indian government!s position is also complicated by the influence of regional parties in the Indian state of Tamil Nadu, who would discourage it from mediating in the conflict if the Tigers were to declare a separate state.

Sri Lanka!s military forces are dominated by the army, which has 78,100 members and 39,900 reservists (currently recalled). However, high levels of desertion reduce the army!s operational strength. The air force and navy are

Sri Lanka has good relations with its trading partners

14 Sri Lanka


15,000- and 18,000-strong, respectively. The navy!s main role is to combat the LTTE!s Sea Tigers, and its main emphasis is on coastal and inshore patrols. The International Institute for Strategic Studies estimates the LTTE!s manpower at 8,000-11,000.

Security risk

Armed conflict

The ethnic conflict involving the Liberation Tigers of Tamil Eelam (LTTE, or Tamil Tigers) and the government entered its 24th year in 2007. Although hopes for a resolution strengthened following the signing of a Norwegian-brokered ceasefire agreement between the government and the rebels in February 2002, relations between the United People!s Freedom Alliance (UPFA) government and the Tamil rebels worsened in 2004, leading to an increase in violations of the ceasefire. Military clashes increased in the wake of the November 2005 election of Mahinda Rajapakse as president, and to all intents and purposes the ceasefire is in effect over, although no side has officially renounced it. The conflict has damaged the economy and reduced the country!s growth potential. Heavy defence costs have diverted resources away from infrastructure development. Consequently, power generation, road transport systems and port facilities are inadequate (although there has been some improvement in port operations at the capital, Colombo, in recent years). Operational costs are higher than would otherwise be the case, and have been raised further by the war-related costs of insurance in sectors ranging from property to transport.

Terrorism

Private businesses have not been targeted by the Tigers, but suicide bombings have taken place in areas where commercial businesses operate, including the central"and most developed"parts of Colombo. Also, in 2007 energy-related targets, notably oil depots, appear to have been a particular focus for the LTTE. As a result, people and property are at risk from terrorist bombings. Businesses in the city face additional security costs. The international airport was attacked in July 2001 and in April 2007 the air force base near the airport was the target of the rebel!s second aerial bombing. This led to the closure of the international airport at night during May-June 2007. The prevailing global anti-terrorism sentiment appears not to have restrained the LTTE, which has resumed terrorist attacks in Colombo.

Civil unrest

There is a risk that nationalist political parties could exploit the high degree of youth unemployment, growing restiveness in rural areas that have not benefited from liberalisation, the rising cost of living and the slow rehabilitation of the tsunami-affected population in order to whip up civil unrest. Such unrest is common in the periods preceding and following elections. Demonstrations, sometimes violent, are also a common means of registering dissatisfaction with government policy towards the ethnic conflict. Private and foreign businesses are not usually targeted by protestors. Travel should be curtailed during periods of heightened civil unrest; business activity and travel at such times would in any case be likely to be affected by curfews and road blocks.

Sri Lanka 15


Violent crime

Violent crime unconnected with the civil war is an increasing concern. Deserters from the army are frequently armed, and access to weapons has become much easier as a result of the war. Local businesses have been attacked. Raids on large commercial offices and manufacturing plants are rare, and attacks are unlikely in the more developed areas of cities. However, the growing trend in the abduction of Tamil and Muslim businessmen in Colombo remains a serious concern.

Drug smuggling and organised crime

The LTTE is involved in drug-smuggling to fund its operations and has adopted tactics similar to those used by organised crime, such as extortion, credit-card fraud and people-smuggling. These activities, however, tend to occur outside Sri Lanka, among Tamil communities in other countries. There are signs that the rebels are adopting similar tactics in areas that they hold in the north and east of the country. Again, it is mainly Tamils who are being targeted, although the Muslim population in areas under LTTE control also faces similar problems.

Resources and infrastructure

Population

Sri Lanka has reached an advanced stage of demographic transition at a relatively low income level. Fertility has fallen below replacement levels, life expectancy (72 years for men and 77 years for women in 2006) has improved, infant mortality rates have fallen and the average household size is just 4.3 persons per family. Population growth has slowed from 1% in 2000 to an average of just 0.9% in 2002-06, taking the total population to 20.7m by mid-2005 (according to IMF data). A key social and economic concern is the rapid ageing of the population, with the proportion of persons aged over 55 years rising to 13.4% in 2006, from 9.5% in 1997. Sri Lanka is projected to have the third-highest proportion of old people in Asia by 2050. This remains a major social concern, since over 50% of the population is not covered by retirement benefits. The economic implications of providing pensions for around 1.2m civil servants have prompted the government to initiate pension reforms.

Sri Lanka is a multicultural society, comprising the predominantly Buddhist Sinhalese (around 80% of the population), the Jaffna-based Tamils in the north and east (around 7.1%), the up-country or Indian Tamils (5-6% of the population), who generally work on plantations, and the Tamil Muslims (around 7% of the population), who are mainly traders and mostly live in the eastern province. Years of civil strife, combined with the fanning of ethnic and religious tensions in recent years by hardline parties, have led to a widening of ethnic divides. This has been further accentuated by the creation of two separate streams of education, based on language and ethnicity.

Sri Lanka is a relatively densely populated country, with 317 persons per sq km. However, population distribution is uneven, with just five out of 25 districts"representing about 14% of Sri Lanka!s total area and concentrated in the south-western and central zones"accounting for over one-half of the population. The

Sri Lanka's population is ageing

Most of the population lives in rural areas

16 Sri Lanka


island also has a low level of urbanisation, with over two-thirds of the population living in rural areas. An estimated 52% of the population is classified as poor (earning less than US$2 per day), based on data dating from 1995. Poverty is predominantly a rural phenomenon, with 88% of the population in rural areas falling into the poor category. Subdued agricultural growth and a lack of physical infrastructure (notably roads, electricity, communications and irrigation) prevent the rural population from benefiting from industrialisation. Government-financed poverty alleviation programmes, which cover nearly one-half the population, have had little impact because of poor targeting. The government!s "300 factories" programme, instituted in 2005, aims to encourage business investment in rural areas, where poverty rates are higher.

Below-potential economic growth has limited the decline in the unemployment rate, although it fell from 7.7% in 2005 to 6.4% in 2006 as growth accelerated. The unemployment rate for women (9.8% in the third quarter of 2006) is more than double that of men (4.6%). The rising rate of unemployment among educated young people remains a concern. The unemployment rate among those aged 20-29 stood at 16.4% in the third quarter of 2006, and the rate of unemployment for those with higher educational qualifications was 11.3%. This is the product of an outdated education system that has created a mismatch between academic training and employment opportunities. The services sector is the greatest source of employment (41.2%) followed by agriculture (32.2%) and industry (26.6%).

Increased labour migration (201,143 people left the country in 2006), primarily to the Middle East, has helped to ease unemployment pressures in the face of modest economic growth. The total number of migrant workers stood at an estimated 1.4m by the end of 2006. Over 60% of these are women, who mostly work as housemaids. Although migrant remittances are the third-highest foreign-exchange earner, the social cost is high in terms of the increased incidence of child abuse, alcoholism and low educational achievement in the families left at home by migrant workers.

Education

Sri Lanka!s policy of free education has paid off in terms of an impressive literacy rate (92.5%) and school enrolment rates (75.2% for the age group of 5-19 years). However, low examination pass rates at the secondary level undermine these achievements. The World Bank estimates (based on Ministry of Education data) that the pass rate of those who take General Certificate of Education ordinary level exams is only 37%, although the pass rate is slightly higher at the advanced level, at 56%. The quality and efficiency of the education system has deteriorated, partly owing to the state!s dominance (93% of schools are state-owned) and funding shortfalls. However, the launch of education reforms with the support of the World Bank in 2006 raised government spending on education to 2.8% of GDP, from 2.1% in 2004. The reforms aim to improve infrastructure in rural and semi-urban schools and to raise English-language and computer literacy skills. However, the shortage of trained teachers, especially in rural schools, remains a problem.

High unemployment encourages migration

Sri Lanka 17


University education is severely restricted. Of the 118,770 students eligible for a university place in 2006, only 14% were able to gain admission, owing to the limited supply of places. Frequent strikes (often politically motivated) and closures of universities have created a huge backlog of students waiting to study at tertiary level. University courses are outdated and lack a vocational orientation, and this has led to the development of a situation in which large numbers of educated people are unemployed. The limited access to higher education has also resulted in a large outflow of students to universities overseas. Although technically the government has a monopoly on tertiary education, several private institutions providing higher education exist, and their numbers have grown in response to the sharp increase in demand. These private institutions offer undergraduate and graduate programmes in several disciplines (the most sought-after are accountancy and marketing courses) in collaboration with institutions overseas.

Health

Sri Lanka!s health indicators are the best in South Asia. The majority of the population has access to a fairly extensive network of healthcare facilities, provided free of charge by the state. However, the quality and efficiency of healthcare services has deteriorated in recent years, owing to financial and human resource constraints. In 2006 Sri Lanka had just one doctor per 2,061 persons and only one nurse per 1,000 persons. Expenditure on health is low, at 2% of GDP in 2006.

Changing lifestyles and demographics have altered the demand profile for health services. Diseases often associated with more affluent societies, such as drug and alcohol addiction and deteriorating mental health, as well as illnesses associated with an ageing population, are on the rise. Less spending on preventive healthcare services has led to a sharp increase in diseases such as malaria, dengue fever and encephalitis, which have sometimes reached epidemic proportions in recent years.

Growing demand for quality healthcare has led to rising competition and a sharp increase in private healthcare. However, private healthcare is largely restricted to urban areas, since accessibility to the wider population, most of whom are not covered by health insurance, is limited. Overall numbers also mask the extensive use of traditional remedies, which is common practice in rural areas. Health reforms aim to encourage increased private investment in curative healthcare, thereby allowing the government to focus more on preventive healthcare.

Natural resources and the environment

The Indian Ocean tsunami of December 26th 2004 caused severe damage to many coastal regions, including water-logging, the loss of farmlands and the salinisation of drinking water wells. Coastal vegetation sustained substantial damage, and contamination affected many coastal water bodies. However,

Enrolment in private tertiary institutions increases

Health spending has fallen to low levels

Private participation in health is rising

18 Sri Lanka


most of these issues have now been addressed and the affected areas are gradually returning to normal.

Of greater concern are persistent problems such as the undermining of biodiversity by land degradation, coastal erosion and depletion of total forest cover. Industrial waste and sewage run-off continue to contaminate freshwater resources. The dumping of solid waste on open land (owing to inadequate disposal facilities) is a growing health hazard, particularly in urban areas. However, these issues have yet to attract much political attention. Sri Lanka has a well-defined environmental policy, including mandatory environmental impact assessments for all infrastructure and industrial projects, and has ratified many international environmental treaties. However, weak enforcement"primarily owing to political influence"has undermined the effectiveness of policy.

Transport, communications and the Internet

The inadequate state of Sri Lanka!s physical infrastructure remains a major obstacle to its development. Facilities are inadequate across all transport and utilities sectors. Budgetary constraints have curtailed public investment"although this has recently starting to pick up again"and the lack of suitable pricing policies has deterred private-sector entry. The government is promoting private investment in infrastructure, largely on a build-own-operate or build-own-transfer basis.

Although Sri Lanka has an extensive road network, the quality of the roads is exceedingly poor. Financial constraints have limited the government!s ability to maintain the road network, which consists largely of single-lane roads. Slow travel speeds represent a large cost to businesses and also undermine productivity. Road travel is perilous, as indicated by the high rate of fatalities: it has been estimated that the number of deaths in traffic accidents since 1983 is equivalent to the number resulting from the civil war.

Work has commenced on an expressway linking the airport with Colombo and on the southern highway connecting the southern province with the capital, but this will not be completed until at least 2009. Rehabilitation of the A9 highway to the northern province commenced in 2002, but was put on hold following the escalation of violence in 2006. Other road projects in the pipeline include an outer-circle highway in Colombo, to be financed by Japan, and the Colombo-Kandy expressway, the funding for which has yet to be finalised. Severe traffic congestion will remain a problem until these are completed.

The decline in road conditions has been aggravated by the sharp increase in vehicle use"new registrations of motor vehicles swelled to 300,522 in 2006, from just 79,433 in 1996. Restrictions placed on the use of several roads in 2006 following the upsurge in violence have added to traffic congestion in Colombo. An unreliable and overcrowded bus system continues to undermine productivity, and has encouraged demand for substitutes, such as vans, three-wheeler taxis and motorcycles.

Roads are of poor quality and crowded

Sri Lanka 19


Years of inadequate investment and financial losses have relegated the rail network to the position of a minor player in the transport sector. The railways account for around 5% of passenger transport and a mere 2% of cargo transport. The system has an inadequate supply of rolling stock, a situation made worse by the December 2004 tsunami disaster, which damaged many carriages. The frequency of railway accidents has increased owing to poor maintenance.

The airline sector was a principal beneficiary of the ceasefire and the resulting increase in tourism, although its fortunes declined in 2006-07, owing to higher global oil prices and a deterioration in the country!s security climate. Deregulation and the adoption of bilateral liberalisation agreements in 2003-04 resulted in a sharp increase in the number of airlines serving Colombo. In 2006, in addition to the national carrier, Sri Lankan Airlines, 31 international airlines (including four cargo airlines) operated out of the country. The national airline has also expanded its fleet and widened its flight network since 2002. Plans to allow three more domestic airlines to operate international routes in competition with Sri Lankan Airlines (which has enjoyed a monopoly in this area since its privatisation in 1998) have temporarily been abandoned following the launch of another state-owned airline, Mihin Air, in early 2007. The new airline focuses on offering cheaper fares to migrant workers. The international airport is currently undergoing a major expansion and upgrade of its facilities and services. Plans to establish another airport in Weerawila in the south are currently being evaluated.

Sri Lanka gears up to become a shipping hub

A new port is planned in Hambantota

The state-owned Sri Lanka Ports Authority (SLPA) has taken a proactive stance in creating a niche for Sri Lanka as a major shipping hub in the medium to long term. In mid-March 2007 the SLPA finalised a contract with the China-based Sino Hydro Corporation and China Harbour Engineering for the construction of the first phase of a new port at Hambantota, in the south. The first phase of the project, estimated to cost US$420m, involves the construction of an industrial port with 600-metre and 300-metre jetties for oil terminals, and is scheduled to be completed by 2010. The second phase of the project plans to establish a container terminal capable of handling 20m twenty-foot equivalent units (TEUs) a year, with a quay length of 11 km (this compares with Colombo port!s current 3.5 km and proposed 3.6 km of quays). Investment in the Hambantota port is to be conducted in three stages spanning the period 2008-40. The short- to medium-term vision for the port is to provide services such as bunkering of fuel and other supplies to ships, as well as aiding in vehicle transhipment and trade in chemicals, crude oil, coal, fertiliser, cement, large-scale processed agricultural items and other solid and liquid bulk cargo. The SLPA is counting on these industries being attracted by the port!s ability to handle very large vessels, facilitating a significant reduction in unit shipping costs. This capability is expected to attract new industries to set up manufacturing facilities in the area, in a purpose-built economic zone being set up around the port. Given the availability of

Airline facilities improve

20 Sri Lanka


land in the region, the port could also be an ideal location for shipyard industries (small- and medium-scale shipbuilding and ship repair).

Colombo port is being expanded

The strategic vision for the Colombo port sees it being further developed as a transhipment hub. In March 2007 the Asian Development Bank finalised a US$300m loan for dredging and the construction of a breakwater in the Colombo south harbour. The expansion will facilitate the accommodation of container vessels that have a draft of over 16m. The second phase of the project"the construction and development of three container terminals"will be implemented through public-private partnerships on a build-operate-transfer basis. The project will take container-handling capacity from the existing 3m TEUs a year to 5.7m TEUs by 2010, with the eventual aim being to expand capacity further, to 12m TEUs a year, in the long term.

Galle is to be upgraded

The Galle port, which currently operates primarily as a fisheries harbour, is to be upgraded in three stages. The first will see the construction of a conventional cargo pier, and the second step should lead to the establishment of a small container terminal, primarily for coastal shipping of import and export cargo. The third stage will further develop the port into a yacht marina, in order to attract more tourists to the area. Japan has pledged US$150m for the project, and a Japanese-based consulting company, Pacific Consultants International, has begun design work. The target is for construction bids to be floated by early 2008.

The telecommunications industry has undoubtedly been the biggest success story in recent years"its share of GDP doubled from 3.7% in 2002 to 7.4% in 2006. Since its deregulation in 1996 and the partial privatisation of Sri Lanka Telecom (SLT) in 1997, the industry has grown at a spectacular pace. The number of SLT-operated fixed telephone lines crossed the 1m mark to reach 1,187,652 in 2006, a 54% increase on the 768,620 lines in 2002. The introduction of code division multiple access (CDMA) technology (a type of third-generation, or 3G, mobile-phone technology allowing data transmission) in 2005 by private wireless loop operators saw spectacular growth in the number of wireless connections. These reached 708,025 in 2006 from 289,934 in 2005, with a large number of connections in rural areas.

The dynamic growth in the telecoms sector largely reflects the exponential expansion of the mobile-phone market. Intense competition, improved supply and expanded coverage have fuelled growth in the mobile industry, and the number of users expanded from just 667,662 in 2001 to 5.4m in 2006. As a result, telephone density, including mobile phones, reached an estimated 37 per 100 persons in 2006 from 24 per 100 in 2005. Rural access is set to increase owing to expanded coverage, the falling cost of mobile phones and the introduction of affordable prepaid phone cards. Substantial investment has been committed by leading mobile operators to widen their coverage, and competition in the market is set to intensify with the entry of another mobile operator, Indian-owned Bharti Airtel, in 2007.

Although Internet connectivity has also grown, both in terms of the number of users (which has more than doubled since 2001, to 130,000 in 2006) and the number of service providers, the Internet remains primarily an urban

Telecoms is the most dynamic industry

Sri Lanka 21


phenomenon. All leading government departments and companies operate websites, and Internet banking has also been introduced.

Television coverage extends over 90% of the island, and television is fast emerging as the second most favoured channel for advertising after radio, still the leading mode of public communication. A high literacy rate means that newspapers are widely read. However, the dominant state presence in all forms of media and the curbs on media freedom continue to stifle investigative journalism, reducing the media!s effectiveness as a watchdog. A growing trend, since mid-2006, has been the use of threats and abductions to intimidate the media. In 2007 the International Federation of Journalists cited Sri Lanka as one of the world!s most dangerous places for the media.

Energy provision

Sri Lanka!s precarious power situation is one of the weakest links in its infra-structure. According to a joint survey conducted by the World Bank and the Asian Development Bank (ADB) in 2004, 40% of urban and 25% of rural firms surveyed cited the high cost of power and inadequate access to electricity as a major deterrent to business. Problems in the sector have resulted in 75% of all urban enterprises owning generators, even though this is more expensive than drawing power from the grid.

Despite facing power shortages in 2002 and 2004, successive governments have failed to address the root of the country!s power problems: the shortage of stable and cheap generating capacity. The country!s mix of power sources has remained unchanged for many years; hydropower accounted for just over 50% of installed capacity in 2006 and expensive thermal power for the balance. Power supplies therefore remain extremely vulnerable to weather and movements in international oil prices.

Sri Lanka needs to augment its existing generating capacity by close to 10% a year in order to support real GDP growth rates of 6-7%. Installed capacity barely expanded by 18 mw to 2,429 mw in 2006, and delays in implementing a 300-mw combined-cycle plant mean that supplies will continue to be precarious in the short term. Nevertheless, the government has overcome objections from environmental groups and commenced work on the 150-mw Upper Kotmale hydropower project. It has also taken steps towards the construction of two coal-fired plants, of 300 mw and 500 mw, funding for which has been finalised with China and India, respectively. However, owing to the escalation of the war in the eastern province, the 500-mw plant in Tricomalee (to be built with Indian assistance) is unlikely to get off the ground in 2007. Additionally, given the time-lag involved in construction, even if the plants are started in 2007 they will take several years to become operational. Any fall in hydropower in the period before they come on line would almost certainly cause another power crisis. This situation has compelled the government seriously to examine possibilities such as importing electricity from India.

Press freedom is severely limited

Unreliable electricity supplies are a problem

Financing for two coal-fired plants has been secured

22 Sri Lanka


Another problem is the extent of power losses from the electricity distribution system, which occur owing to technical factors and theft. There has been a reduction in losses, from 22% of total power in 2000 to 17% in 2006, but the level is still high. The financial position of the monopoly, Ceylon Electricity Board (CEB), has deteriorated dramatically as a result of increased dependence on thermal power and a sharp rise in global oil prices. Although tariffs were revised upwards in 2006"resulting in the country having one of the highest tariff rates in Asia"the CEB continues to suffer heavy losses. In 2006 the net operating losses of the CEB rose by 84% to SLRs13bn (US$159m), and its payment arrears and debt-service obligations on long-term loans stood at SLRs66bn.

The unbundling of the CEB into autonomous companies handling electricity generation, transmission and distribution continues to be strongly opposed by trade unions and the Marxist Janatha Vimukthi Peramuna (JVP) party and has been relegated to the back-burner by the government. This resulted in the ADB withdrawing a loan it had granted for power sector reforms in 2006.

The large and sustained rise in international oil prices since 2004 has had a severe impact on the petroleum sector in Sri Lanka. The government has been reluctant to raise retail prices in line with market conditions. This has served to sustain domestic consumption of fuel while increasing the losses incurred by the two retailers of petroleum, the state-owned Ceylon Petroleum Corporation (CPC) and the private Indian-owned Lanka Indian Oil Company (LIOC). Sri Lanka!s oil bill has risen steadily from 15% of total imports in 2004 to 20.2% in 2006, with both prices and volumes of imports rising. Losses at CPC have forced the government to pass through some of the increase in global oil prices. Nevertheless, CPC remains in distress. According to the most recent estimates, the company is losing over SLRs1bn a month.

Prospecting for oil

A seismic survey, conducted by Norwegian-based TGS-NOPEC, has revealed the presence of over 1m barrels of oil and gas in the Mannar basin off the island!s north-west coast. The Ministry of Petroleum and Petroleum Resources is preparing to call for bids that would launch exploration for oil in Sri Lankan waters. The US has extended US$474,000 in technical assistance to the country to develop a comprehensive oil and gas regulatory system, and to establish an organisational structure for the regulatory authority that will be set up to manage the exploration process. Of the eight blocks on offer, the northernmost block has been offered to India and the southernmost block has been reserved for China. Of the remaining blocks, tenders for three are likely to be called before end-2007. The oil ministry is also working on developing a model petroleum resource agreement that outlines the operations that exploring companies would be expected to perform. One of the conditions incorporated into the agreement will be the use of Sri Lankan labour and contractors in the oil exploration process. It could take four to five years for oil and gas production to begin, if all goes smoothly.

Sri Lanka 23


The economy

Economic structure Main economic indicators, 2006 (Actual unless otherwise indicated)

Real GDP growth (%) 7.4

Consumer price inflation (av; %) 13.7

Current-account balance (US$ m) -1,044.6a

Exchange rate (av; SLRs:US$) 103.91

Population (m) 20.9a

External debt (year-end; US$ m) 12,164.3a

a Economist Intelligence Unit estimates.

Source: Economist Intelligence Unit, CountryData.

Sri Lanka is a trade-oriented economy, partly because of its lack of natural resources. Wholesale and retail trade (which consists of trade in exports, imports and domestic goods and services) is the largest single subsector, accounting for around 20% of GDP in 2006. The combined services sector, which also includes transport, communications, financial services and tourism, generates more than 55% of GDP. Telecommunications, the most dynamic subsector, has consistently recorded double-digit annual growth rates since 1998. Financial services have also seen healthy growth.

The manufacturing subsector dominates the industrial sector, accounting for just over 50% of total industrial output. The sector also includes mining, electricity, water and construction. Privately owned export-oriented factories produce the vast majority of manufacturing output. The manufacturing base is dominated by the garment industry, although the production of food and beverages, as well as that of chemical and rubber-based goods, is also important.

Although its significance has declined in recent years, the agricultural sector is an important determinant of GDP, directly accounting for around 16% of national output and employing over one-third of the workforce. Indirectly, its importance is greater than these figures indicate, because of links between agriculture, manufacturing and services.

Although privatisation has reduced the role of the public sector in manufacturing, the state continues to dominate the financial sector and utilities, and has a quasi-monopoly in healthcare and education. In addition, it is the largest landlord, owning 90% of all land. The government!s role in the employment market is also substantial. Over 1m people are employed in the civil service and semi-governmental bodies, meaning that Sri Lanka has one of the highest ratios of public employees to population in Asia. Expenditure on civil servant salaries accounted for over one-third of the government!s recurrent expenditure, equivalent to almost 7.4% of GDP, in 2006.

Services comprise the largest sector of the economy

24 Sri Lanka


Comparative economic indicators, 2006 Sri Lankaa Indiab Pakistan a Singaporea Indonesiaa

GDP (US$ bn) 27.0b 922.9 128.8 b 132.2b 364.5b

GDP per head (US$) 1,289 843a 807 29,473 1,485

GDP per head (US$ at PPP) 4,032 3,920a 2,579 37,035 3,781

Consumer price inflation (av; %) 13.7b 6.2 7.9 b 1.0b 13.1b

Current-account balance (US$ bn) -1.0 -10.4 -5.9 41.3 9.6

Current-account balance (% of GDP) -3.9 -1.1 -4.6 31.2 2.6

Exports of goods fob (US$ bn) 7.2 123.2 17.0 289.4 102.7

Imports of goods fob (US$ bn) -9.4 -184.4 -26.7 -244.7 -73.0

External debt (US$ bn) 12.2 131.0a 35.8 24.4 126.4

Debt-service ratio, paid (%) 8.7 7.8a 12.1 1.3 19.4

a Economist Intelligence Unit estimates. b Actual.

Source: Economist Intelligence Unit, CountryData.

Economic policy

Sri Lanka liberalised its economy in the late 1970s ahead of other developing countries, but lost its competitive edge in subsequent decades, owing to the ethnic conflict and the uneven implementation of the reform agenda. The pace of economic reform accelerated in 1989-92 under an IMF-sponsored programme, but temporarily lost momentum after the People!s Alliance won power in 1994. After GDP growth slumped to 3.8% in 1996, the reform process was jump-started, and significant progress was achieved in deregulating and liberalising the economy. Several large privatisations took place, including those of plantations, Sri Lanka Telecom (SLT), a development bank and the national carrier, Sri Lanka Airlines. The telecoms, power-generation and port sectors were opened to private participation and foreign equity limits in financial services were relaxed.

However, the pace of reform faltered in 1999-2001 as the civil war escalated, and presidential and parliamentary elections distracted the government!s attention from the economy. In January 2001 the Sri Lanka rupee was allowed to float freely, ahead of the IMF!s provision of a US$253m balance-of-payments support facility. The facility, which was suspended in the second half of 2001 as the government backtracked on several reforms, was renegotiated by the United National Front (UNF) government soon after it won the parliamentary election in December 2001.

The pace of reform accelerated in 2002-03 under the UNF. Major reforms included the replacement of the national security levy and the goods and services tax by a value-added tax (VAT), a reduction in the maximum rate of corporate tax from 35% to 30%, and a narrowing of the wide range of fiscal incentives. Foreign investment in previously regulated sectors was liberalised. Administered prices, and in particular those for fuel and electricity, were freed. The privatisation programme gained momentum, and was accompanied by substantial deregulation. The insurance sector reverted to private hands with the sale of the two state-owned insurance corporations; the international telephone network was liberalised; and the petroleum sector was deregulated

The pace of reform has been uneven

Sri Lanka 25


with the introduction of a second player, competing with the state-owned Ceylon Petroleum Corporation.

The government!s reform effort found favour with international lending agencies, and led to the approval in April 2003 of a US$567m loan by the IMF under its poverty reduction and growth facility (PRGF). The first tranche of US$80m was disbursed in 2003, but the loan was suspended in 2004 when the United People!s Freedom Alliance (UPFA) government assumed power and backtracked on several reforms. The reform process has since been relegated to the back-burner. Apart from opposition from the leftist Janatha Vimukthi Peramuna (JVP), the current administration!s preoccupation with the war has also ensured that liberalisation is not a core focus of economic policy. Under the current president, Mahinda Rajapakse, the government!s main policy concern has been rural development, notably through the "300 factories" programme to promote investment in rural areas.

Aspects of economic policy volatility

According to a 2004-05 survey by the World Bank and the Asian Development Bank (ADB), uncertainty and macroeconomic instability are major constraints on business. The main reasons for this are the lack of political consensus on reforms and the frequent changes in political leadership. For example, major reforms by the United National Front (UNF) in 2001-03 were followed by a virtual freeze and in some cases a reversal of the changes by the subsequent United People!s Freedom Alliance (UPFA) government. The following are particularly volatile policy areas.

Tax reform

The tax amnesty granted by the UNF government in 2003 to thousands of defaulters who were facing recovery proceedings on grounds of duty evasion was revoked in 2004. A 100% transfer tax on the purchase of land by foreigners was introduced. The two-tier value-added tax (VAT) was changed to a single-rate VAT, but was again reversed in the 2006 budget with the introduction of a four-band system. The maximum rate of corporate and personal income tax was raised from 30% to 35% in 2006 and VAT on financial services was increased from 15% to 20%. Frequent changes in the VAT, particularly for essential commodities during periods of high inflation in 2006-07, add to the unpredictability of the tax regime. Stamp duties, abolished in 2002, were reintroduced in 2006. In the 2007 budget the port and airport development levy was raised from 2.5% to 3%, and a "regional infrastructure development levy" of 2.5% on the value of imported motor vehicles was introduced. In a bid to broaden the direct tax base, subsidiary companies of groups generating a taxable profit are to be taxed at 35%, a substantial increase on the 15% tax previously in effect. Several tax changes have had retrospective effect, heightening uncertainty.

Privatisation

The UPFA government, under pressure from the Marxist Janatha Vimukthi Peramuna (JVP) party, has virtually abandoned the privatisation of strategic state-owned enter-prises. Fourteen such enterprises, including the two state banks, the water supply utility, the Ceylon Electricity Board and the railway, were brought under the purview of a newly created Strategic Enterprise Management Agency (SEMA), which was given the task of monitoring their performance. A scheme to introduce a third player into the retail petroleum sector was also abandoned.

26 Sri Lanka


Labour reforms

A first step towards reforming labour legislation was taken in January 2003, when the UNF government managed to gain parliamentary approval to amend two key pieces of labour legislation. The amendment to the Industrial Disputes Act gave labour tribunals a maximum of three months to rule on appeals, and the amendment to the Termination of Employment Act laid down a standard formula governing compensation for laid-off workers. These two labour reforms were stalled by the UPFA government, owing to strong opposition from the JVP. In August 2005, as part of a politically motivated measure ahead of the presidential election, the government also mandated an increase in private-sector wages.

Trade reforms

The UPFA continued Sri Lanka!s unwelcome tradition of making frequent changes to the tariff regime. The two-band tariff structure (with rates of 10% and 25%) that was operational in 2001 was replaced by a five-band system in 2002, and a six-band regime was introduced in 2003, with rates ranging from 3% to 25%. In 2006 the number of tariff bands was once again cut to five. Ad hoc and frequent changes to tariffs, particularly on agricultural commodities, as consumer price inflation rises, add to the unpredictability of the tariff regime.

Civil service and pension reforms

The UNF government imposed a freeze on civil service employment in 2002. This was reversed by the UPFA. Recruitment to the public sector was increased in 2004-06 with the induction of unemployed graduates, and the civil service was granted a 20% wage increase in 2005.

Subsidies

The UPFA government reintroduced the fertiliser subsidy in 2004. Petroleum and electricity prices that were freed by the UNF government in 2002 were once again administered by the state in 2004-06, primarily to prevent negative political fallout from rising prices. The rise in subsidies has increased the burden that subsidies put on the national budget, and the government has been forced to allow the cost of fuel to rise.

Successive governments have failed to achieve a sustained decline in the budget deficit, which averaged 8.4% of GDP (excluding grants and privatisations) in 2002-06. The deficit declined from 8.7% of GDP in 2005 to 8.4% of GDP in 2006, but this was largely owing to a cut back in capital spending. The declining trend in revenue was reversed in 2005, with the revenue/GDP ratio rising from 15.8% in 2004 to an estimated 18.1% in 2006. A high degree of tax evasion and the granting of multiple tax exemptions, concessions and import duty waivers are the principal reasons for the weak revenue base. The reluctance to trim the cost of the civil service or to rationalise welfare payments and subsidies has constrained the government!s ability to limit expenditure. The practice of giving populist handouts in order to gain political advantage is another major obstacle. Overruns on defence spending, often partly offset with cuts in capital spending, were the primary cause of fiscal slippage in the years to 2001, and this trend is likely to resume in 2007 with the escalation in hostilities.

In December 2005 Sri Lanka sought and received its first-ever sovereign debt rating from international ratings agencies Fitch and Standard & Poor!s. The

Fiscal deficits undermine macroeconomic stability

Sri Lanka 27


outlook for these ratings was revised to negative in April 2006, owing to the deterioration in the security climate. The government as a result postponed its plans to raise funds on international capital markets, and instead opted to issue foreign-currency bonds (Sri Lanka Development Bonds) as a means of financing the fiscal deficit.

The Central Bank of Sri Lanka has a high degree of independence in the con-duct of monetary policy. Policy is guided primarily by inflationary trends and developments on the fiscal front and to a lesser extent by movements in the foreign-exchange market. The monetary stance was gradually relaxed in 1998-2000 in an attempt to stimulate economic expansion. In 2001 there was initially a move towards a tighter policy position in order to counter the inflationary impact of a sharp increase in government borrowing. However, rates were cut in the second half of 2001 as the economy slowed, and a fairly relaxed stance was maintained until 2004. In 2005 and 2006 a sharp rise in inflation and credit growth"fuelled to a great extent by higher than anticipated government spending"compelled the Central Bank to embark on another round of tightening. Policy rates were raised on four occasions in 2006 and another two rounds of tightening occurred in the first four months of 2007.

Summary of government finances, 2006 SLRs m % of GDPTotal revenue 477,334 17.0 Tax revenue 428,378 15.3 Income tax 80,483 2.9 Value-added tax 164,555 5.9 Excise tax 92,845 3.3 Import duties 52,681 1.9 Other taxes 37,814 1.4 Non-tax revenue 48,956 1.7Expenditure & net lending 713,145 25.5 Current expenditure 547,460 19.5 Goods & services 253,025 9.0 Interest payments 150,777 5.4 Transfers & subsidies 143,657 5.1 Capital expenditure & net lending 165,686 5.9

Budget balance before grants & privatisations -235,811 -8.4

Note. Totals may not add owing to rounding.

Source: Central Bank of Sri Lanka, Annual Report, 2006.

Economic performance

Real GDP growth averaged a respectable 5.8% in 2002-06, underscoring the traditional resilience of the economy to both the ethnic conflict and political instability. This is primarily attributable to a vibrant private sector that remains the principal driver of economic growth. Real GDP grew by 7.4% in 2006"the highest on record since 1978, when the economy was first liberalised. As a result, the country!s per-capita GDP, which crossed the US$1,000 mark in 2005, rose to US$1,289 in 2006. Nevertheless, the civil war, heightened political and economic uncertainty and the unpredictable pace of economic reform

Monetary policy was tightened in 2005-07

Per-capita GDP has risen amid strong economic growth

28 Sri Lanka


continue to keep Sri Lanka!s growth rates below potential. Other problems that have constrained growth include the huge and inefficient public sector, unsustainable fiscal deficits, low agricultural productivity, inefficiencies in the financial sector and inadequate infrastructure facilities.

Exports of goods and services have generally been the fastest-growing component of expenditure-based GDP, but Sri Lanka!s performance remains vulnerable to trends in world trade, particularly because of its narrow export base. Real export growth contracted by 5.3% in 2001, in line with a downturn in world trade, but staged a recovery in 2002-06, growing by a healthy average of 5.9% a year. Exports accounted for 32% of GDP in 2006. Subdued growth in rural earnings and the erosion of real disposable incomes (owing to high indirect tax levels and inflation rates) have limited growth in private consumption, but it remains the largest component of GDP, at 74% of the total in 2006.

Government consumption has grown steadily since 2003. As a percentage of GDP it rose from 7.9% in 2003 to 9% by 2006. Investment as a proportion of GDP improved to 28.7% in 2006, from 20.9% in 2002, primarily owing to an increase in private investment, including higher foreign direct investment (FDI). Nevertheless, the investment/GDP ratio is still well below rates seen in East Asia (or even those seen in Sri Lanka in the 1990s). An unpredictable policy environment, political and security risks and poor infrastructure continue to dampen private investment, and budgetary constraints have kept public investment relatively low.

Measured by output, the services sector has emerged as the principal driver of economic growth since 2002, expanding by a healthy 7.2% a year on average in 2002-06. Growth in services has been anchored by the sharp increase in the demand for and supply of communications facilities, but it has also been boosted by healthy growth in trading and financial services. The industrial sector, which grew by a respectable annual average of 5.4% in 2002-06, also remains a major determinant of overall economic growth. The agricultural sector, the second-largest source of employment, still exerts a strong influence over the rate of GDP growth. Agriculture!s sluggish growth, the product of low productivity and inadequate investment, which leaves it vulnerable to the vagaries of the weather, has been a drag on overall economic performance in recent years.

Gross domestic product (% real change; factor cost at 1996 prices)

Annual average 2006 2002-06Agriculture 4.7 2.1Industry 7.2 5.4 Manufacturing 5.3 4.5 Construction 8.0 5.6

Services 8.3 7.2GDP 7.4 5.8


Exports and services are the most dynamic sectors

Sri Lanka 29


In recent years, consumer price inflation has been largely a cost-push phenomenon. The main sources of inflation have included increases in international oil prices (necessitating upward revisions to fuel, transport and electricity prices), the depreciation of the Sri Lanka rupee, rising war-related levies and import surcharges, and drought-induced increases in food prices. Driven by these factors, as well as by demand pressures that arose from high government expenditure and a sharp rise in private-sector borrowing, the average rate of inflation reached 13.7% in 2006, up from 9.5% in 2002. Inflation has remained high, at an average of 13% in the six months to June 2007, although it has moderated from a peak of 20.7% recorded in January 2007.

Sri Lanka!s food prices are the highest in South Asia; low productivity and inefficient marketing in domestic agriculture have kept them high, although increased competition from imports has helped slightly. Given the level of import dependence, domestic prices are extremely vulnerable to the depreciation of the Sri Lanka rupee and imported inflation. Consumer resistance to price rises is weak, and consumer protection laws are ineffective. Firmly entrenched inflationary expectations are an additional factor. Government policy has not always been supportive of the fight against price rises; populist spending, especially in advance of elections, has often undermined the Central Bank!s anti-inflation policies.

Prices (% change; av)

Annual average 2006 2002-06Consumer prices 13.7 9.8Wholesale prices 11.7 9.9

Sources: Central Bank of Sri Lanka, Annual Report, 2006.

The Sri Lanka rupee was floated in late January 2001. The decision was prompted by the sharp drop in foreign-exchange reserves and the build-up of speculative pressure in the market in the second half of 2000. In 2000-01 the rupee depreciated by a cumulative 29.2%, falling from SLRs72.1:US$1 at end-1999 to SLRs93.2:US$1 at end-2001. After a period of stability, a widening current-account deficit, combined with political uncertainty, led to a rapid slide to SLRs104.6:US$1 at the end of 2004. The surge in aid inflows following the end-2004 Indian Ocean tsunami disaster boosted the currency to SLRs100.5:US$1 at end-2005. The rupee weakened by 5.5% in 2006 to SLRs107.7:US$1, despite increased sales of foreign currency by the Central Bank, against the backdrop of a widening trade deficit.

Regional trends

Inadequate infrastructure development in rural areas, the concentration of industry and financial services close to the main ports and the airport, and the poor performance of the agricultural sector have led to an unequal distribution of the benefits of economic growth. The western province hosts the port and the airport, and generates nearly 50% of GDP, 55% of services and 57% of total

The currency depreciated in 2006

Inflation has strengthened

Regional development is uneven

30 Sri Lanka


industrial output. Labour productivity in industry and services is also highest in that province. The inhabitants of the western province have the highest income per head, followed by the north-western, central and southern provinces. The northern and eastern provinces are the poorest. Plantations, fisheries and other agriculture are concentrated in the southern, central, north-western and Sabaragamuwa provinces, which generate close to 60% of agricultural output. The onset of peace in 2004 saw increased migration to the northern and eastern provinces, but the escalation in violence in 2006 has resulted in a sharp increase in the outflow of refugees, primarily to India.

Economic sectors

Agriculture

The plantation sector produces the three main export crops: tea, rubber and coconut, of which tea holds the greatest potential for a substantial increase in output. Tea plantations were privatised in 1995, and for the next five years production hit new highs every year, surpassing 300m kg in 2000. Tea production reached a record high of 317m kg in 2005, but fell back to 311m kg in 2006 owing to inclement weather and a labour strike in November 2006. Low-elevation teas (which account for about 60% of total production and are produced mainly by private smallholders) remain the most dynamic category. Yields are over 30% higher than those achieved by the larger plantation companies, which being older suffer from soil fertility depletion. Larger firms also have higher production costs, primarily owing to wage pressures from their unionised workforces.

Sri Lanka is the world!s leading tea exporter. With the exception of 1997, and also 2002, when the prospect of a US-led war in Iraq reduced demand in the Middle East, exported volumes have grown progressively, reaching a record 327m kg in 2006. Earnings from tea exports also reached a record US$882m in 2006, boosted by higher prices. Russia and other Commonwealth of Independent States (CIS) countries are Sri Lanka!s largest buyers, followed by the UAE, Syria and Turkey.

Over two-thirds of rubber holdings and three-quarters of coconut cultivation are in the hands of smallholders. The crop sectors have also historically suffered from low investment. However, the surge in international rubber prices since 2002 has encouraged increased tapping, the adoption of better practices, such as the planting of high-yielding varieties of rubber, increased fertiliser application and the utilisation of equipment such as rain guards. Production has risen consistently since 2002, reaching 109m kgs in 2006. Yields have risen from 724 kg/ha in 2002 to 1,150 kg/ha in 2006. This has been accompanied by a sustained increase in the extent of replanting. Government incentives aimed at the rubber sector, combined with the sustained increase in global prices, appear to have revitalised the sector. However, rising consumption by the domestic rubber-products industry has restrained growth in exports of natural rubber.

The outlook for rubber is improving

Sri Lanka 31


After a record harvest of 3.1bn nuts in 2000, coconut output has fallen, partly owing to the impact of adverse weather conditions. Production hit 2.7bn nuts in 2006. The limited supply of coconuts has led to a sustained rise in retail and wholesale prices. High domestic consumption over the past few years, accounting for over two-thirds of total production, has restricted expansion in coconut exports. The principal export is desiccated coconut; Sri Lanka is second only to the Philippines in the export of this form of coconut. In a bid to revive coconut cultivation, the government has imposed a tax on coconut oil imports. Other export crops include nutmeg, cloves and pepper. The output of these crops has risen rapidly in recent years.

Paddy (unmilled) rice dominates the non-plantation agricultural sector and accounts for one-fifth of total agricultural output. Paddy production fluctuates depending on weather conditions. Favourable weather conditions in 1999 led to a record harvest of 2.9m tonnes, but a drought in 2001 cut production to 2.7m tonnes. Production rose to a new record of 3.3m tonnes in 2006. Yields have improved continuously and are on a par with those achieved in Thailand and the Philippines, but high production costs are a drawback.

Domestic agriculture is subsidised primarily through fertiliser subsidies. However, the lack of agricultural research, development and extension services, inconsistent tariff policies, restrictions on land use, the fragmentation of land holdings and the lack of a marketing infrastructure have all combined to reduce efficiency in domestic agriculture. The country!s traditional policy of achieving self-sufficiency in rice production has further stifled growth in domestic agriculture. For example, land provisioning mandates that a major portion of agricultural land be used exclusively for paddy cultivation, preventing farmers from engaging in the production of more lucrative crops. Frequent changes in agricultural tariffs, by making market prices for produce more volatile, have also dampened the incentive to invest and deterred greater private-sector involvement in domestic agriculture. Storage and transportation of produce are still fairly primitive, which leads to the loss of around 40% of output post-harvest. Heavy state interference in the agricultural sector (an important source of votes for Sri Lanka!s political parties) is also an obstacle to its development.

Mining and semi-processing

Although mining accounts for around 2% of GDP and generates about the same percentage of export earnings, its importance stems from Sri Lanka!s international reputation for the quality of its precious and semi-precious stones, in particular blue sapphires. The US, Japan, Hong Kong and Thailand are key markets for gems. The Asian financial crisis reduced earnings from gem exports in 1998-99, but this was followed by an impressive recovery in 2000. Export earnings from precious and semi-precious stones have grown consistently since 2002, buoyed by increased incentives offered to the gem industry.

Sri Lanka also has mineral reserves (graphite, ilmenite and mineral sand) that are mined by private and state companies. Mining was opened to foreign

Domestic agriculture is inefficient

Mining represents only a small part of the economy

32 Sri Lanka


investors in 1995, but resistance from environmental activists and local residents has prevented any foreign mining projects from taking off.

Manufacturing

The resilience of the manufacturing sector derives from the growing dominance of the private sector. Over 80% of manufacturing output is generated by privately owned, export-oriented factory industries, with the processing of agricultural export crops and small industry accounting for the balance. The output of the public sector fluctuates, as the Ceylon Petroleum Corporation (which generates around 90% of public-sector output) halts production for six weeks for maintenance purposes every two years.

Manufacturing has historically grown rapidly, recording real growth rates averaging around 5% annually in the past decade. Investments in modern equipment and advanced technological processes have raised production capacity, albeit modestly, and facilitated an improvement in productivity. In 2001, however, manufacturing contracted for the first time in two decades, by 4.2%, as the global economic slowdown led to a sharp contraction in export-oriented industries. After a weak recovery in 2002 the pace of growth picked up, returning to trend, despite the phase-out of the garment quota system of the World Trade Organisation (WTO) at the end of 2004. Real growth in the sector reached 5.3% in 2006.

The principal flaw in Sri Lanka!s manufacturing sector is its narrow base. Four manufacturing activities generate over 90% of total manufacturing output: textiles and garments (39% of total industrial output by value), food, beverages and tobacco (22%), chemicals, petroleum, rubber and plastic products (21%) and non-metallic mineral products (8%). The non-metallic products subcategory includes cement, ceramics, building materials and processed diamonds. A slowdown in any of these activities has a strongly negative impact on total manufacturing production. Another drawback is the heavy import dependence of the manufacturing sector. Domestic value added content is a little over one-third of total production, making the cost of production vulnerable to changes in international prices and the exchange rate. The third-largest industrial category"chemical, petroleum, rubber and plastic products"has the highest import content. Locally added value is highest for food and beverages products.

The garment industry: consolidation and expansion

The development of the garment industry is Sri Lanka!s main success story. Garment-making accounts for 35% of employment, produces close to 40% of manufacturing output and generates close to 50% of total exports. Since the start of 2005 the industry has been facing its biggest challenge"the expiry at the end of 2004 of the World Trade Organisation (WTO) Agreement on Textiles and Clothing (ATC). This ended the quota-based regime governing garment exports among WTO members, and exposed the industry to more intense international competition. Nevertheless, Sri Lanka has braved the storm. Although the pace of expansion in garment exports slowed to 2.8% in 2005, it recovered to record a healthy 6.6% in 2006.

The private sector dominates manufacturing

Manufacturing is import-dependent and concentrated

Sri Lanka 33


One of the key strengths of the industry is that it is well established. Around 50 large companies account for over half of the country!s garment output, with the top few firms dominating exports and providing the majority of jobs. These manufacturers have established strong marketing links with buyers and have moved into the niche market of branded and high-value clothing. They have built up strong ties with key clothing retailers in the US (such as Tommy Hilfiger, Victoria!s Secret, Liz Claiborne, Nike and Gap) and the EU (for example, Marks and Spencer, BHS, Next and Mothercare). Sri Lanka also has a reputation for timely delivery of standard "all season" products.

Expanding backward linkages

In 2006 some of the top garment manufacturers initiated proactive steps to strengthen the garment sector by evolving a totally integrated supply chain industry within five years, in particular for key products in which the industry has a leading edge"active wear, sportswear (including swim wear) and intimate apparel. In an initiative to increase local-content input, and thus gain access to trade advantages offered to Sri Lanka under schemes like the EU!s Generalised System of Preferences Plus (GSP+), several new projects were launched in 2006. These included the following. • The establishment in March 2006 of a dedicated industrial zone for the

production of fabric and apparel on a 175-acre plot in Thulhiriya, in the western province. The US$25m project, undertaken by one of the country!s top two garment exporters, MAS Investments, envisages the development of a top-tier industrial zone enabling the Sri Lankan fabric and manufacturing sector to compete with the large industrial zones in China, Vietnam and India. The company hopes to attract investments exceeding US$100m in knit-fabric manufacture, printing, embroidery and washing and dyeing.

• A joint venture in February 2006, involving MAS Investments, US-based Elastic Fabrics of America and Spanish-owned Dogi International Fabrics to establish a US$30m plant producing warp knit (a fabric that is use primarily in the manufacture of lingerie and swimwear). The principal aim of the project is to cater to the growing demand for high-quality warp-knit fabric by the Sri Lankan and Indian apparel industry. The mill will strengthen the fabric supply base on the island and decrease lead times for apparel manufacturers.

• The doubling of the capacity of a knit manufacturing plant by November 2007, also by MAS Investments in collaboration with Pacific Textiles of Hong Kong. The increased capacity will enable local suppliers who source knit fabric from China and India to obtain their requirements from within the country.

• The establishment by Brandix Lanka, another top garment exporter, of the country!s first exclusive dyeing plant in September 2006.

• The setting up in June 2007 of a US$27m design and product development centre by Brandix as part of the sector!s strategy to transform itself from a mere "manufacturer" to a "fully integrated service provider".

Sri Lankan apparel firms expand into South Asia

Sri Lanka!s top apparel exporting companies, MAS Investments and Brandix Lanka, have further consolidated their presence in the South Asian region by moving into India. Brandix Lanka in 2006 entered into a Memorandum of Understanding (MoU) with the Andhra Pradesh government to establish an apparel park in the

34 Sri Lanka


state. The US$35m park will enable activities such as designing, manufacturing, sourcing, logistics, technological support and training to be concentrated in one location. The company has already inked deals for the establishment of a US$20m knit-fabric manufacturing plant as well as a US$15m logistics hub in the park. Brandix Lanka has set a target of generating US$1bn in investment in the park over the next five years. MAS Investments entered into an MoU in December 2006, also with the Andhra Pradesh government, to establish a 750-acre industrial zone in the state!s Nellore district. The estimated investment of US$200m is expected to yield US$500m of export revenue over a period of five years.

Sri Lanka is following an export-oriented industrialisation strategy. A wide range of incentives, including lower tax rates, tax holidays and duty-free imports of raw materials and capital goods, are available for export industries. The progressive rationalisation of tariffs and reduction of protection levels has affected some import-substituting industries, such as cement and textiles. Others, such as processed foods, detergents and fabricated metal products, have proved equal to the challenge and compete effectively with imports.

With the exception of a few large investments in the garments sector, investment in manufacturing has slowed in recent years. Foreign investors have been deterred by the volatile political environment (the ethnic conflict and inter-party tensions in parliament have both played a role). In addition, the high cost of credit and an unpredictable interest rate regime have dampened domestic investment. The restrictive labour market, characterised by stringent labour laws, has been cited as an additional deterrent to expanding production. The rising cost of infrastructure facilities (especially fuel, electricity, port and freight rates) has represented an additional burden.

Construction

The construction industry, which performed poorly between 1998 and 2002, has experienced a reversal of fortunes since 2003. Rising demand for high-rise flats and private housing, combined with the refurbishment of hotels, led to rapid growth in 2003-04. Reconstruction in the wake of the end-2004 tsunami provided further impetus to the industry; in 2005-06 growth accelerated sharply to average 8.5%. This rate is likely to fall now that most reconstruction is completed. However, the implementation of foreign-financed infrastructure projects in water supply, power, ports and roads, combined with the sustained demand for the construction of high-rise apartment complexes, will support the sector. The recovery in construction activities was mirrored by sustained growth in imports of building materials in 2003-06.

Public-sector housing programmes cater primarily to low- and middle-income families, predominantly in rural areas. Private-sector housing programmes that focus on the middle- and higher-income categories have benefited from the increased demand for housing in urban areas. Tax incentives and the increased availability of housing finance have raised demand for housing, but land scarcity (especially in urban areas) and the difficulty of obtaining clear title

Policy instability undermines the export industry

Construction growth has picked up

Sri Lanka 35


deeds remain constraints. Additional constraints that the construction sector faces include a shortage of skilled workers"owing to increased overseas migration of craftsmen"and higher prices for inputs such as cement, roofing sheets and timber. High interest rates (of around 20%) for housing finance currently pose a further challenge.

Financial services

Sri Lanka!s financial sector has grown rapidly in recent years, both in terms of the number of institutions and the scope of services offered. The sector was liberalised in 2003, when the government allowed 100% foreign ownership of commercial banks, insurance services and stockbroker services. The govern-ment also privatised the insurance sector. Several steps were taken in 2003-04 to enhance the systemic stability of the sector. Capital adequacy ratios were raised, and provisioning requirements made more stringent. The Central Bank of Sri Lanka lifted minimum capital requirements for commercial banks from SLRs500m (US$5m) to SLRs2.5bn (US$25m), and raised those for savings banks and finance companies from SLRs200m to SLRs1.5bn. Banks have been given until the end of 2007 to comply. Credit ratings for all deposit-taking institutions are now mandatory. In 2006 the Central Bank tightened regulations further by introducing a cap on shareholdings in commercial banks and specifying single borrower limits for companies, to prevent individuals or groups (of owners or borrowers) exerting excessive influence over banks.

The dominance of the banking sector in the financial industry has grown: it accounted for 71% of assets in 2006. Bank coverage has improved, with an expansion in the branch networks of the main commercial banks. Intense competition among banks has also led to rapid growth in value added services, such as automatic teller machines (ATMs), credit cards, telebanking and Internet banking. It has also encouraged increased financial intermediation.

Besides expanding services, the banking sector is also undergoing structural changes. Mergers, acquisitions and strategic alliances, among both commercial banks and other financial institutions, are becoming more common. The distinction between commercial, development and other specialised banking services has been blurred. Development banks have diversified into insurance and fund management, for example, and have increased their lending capacity by acquiring strategic stakes in commercial banks. Commercial banks, whose main source of business is trade financing, are financing development projects (through loan syndication) and moving increasingly into consumer credit and housing finance.

A persistent weakness of the banking system has been high intermediation costs. These are reflected in the interest rate spreads offered by Sri Lankan banks, which are significantly higher than those in other countries in South Asia. Fundamentally, high costs stem from poor credit-management techniques (high levels of bad loans increase dependence on the fewer sound loans for income) and high operating expenditure. Other problems include the need to mobilise long-term deposits held at fixed rates, high taxes and statutory costs,

Financial sector reforms gain momentum

Banking dominates the financial industry

High spreads highlight problems in the banking sector

36 Sri Lanka


and overdependence on interest-earning activities for income. Although the financial soundness of the banking system has improved, the non-performing loan (NPL) ratios of commercial banks are still relatively high at 12.6% in 2006. This is partly attributable to the lengthy and cumbersome legal procedures involved in debt recovery, which make dispute resolution a protracted and costly experience.

A major weakness in the financial sector is the fact that it is dominated by the state. Through its ownership of the two largest commercial banks, the Bank of Ceylon and the People!s Bank, and more recently in 2006 through the creation of a new development bank, the state!s presence in the banking sector is substantial. It also has a virtual monopoly on the management and use of long-term savings (through two pension funds and the largest savings bank), and consumes over 50% of domestic financial resources, primarily to finance government borrowing. The pre-empting of long-term savings funds by the state has constrained growth in the private debt market.

Under a restructuring plan, net profits and deposits at the Bank of Ceylon and the People!s Bank (which has benefited from a recapitalisation programme financed by the Asian Development Bank"ADB) have risen, and the ratio of NPLs has fallen. Nevertheless, the banks still remain vulnerable to political interference, in the form of issuing loans that stand little chance of being repaid.

The insurance industry has grown since its privatisation but only accounts for a mere 2.9% of total financial assets. The industry is dominated by two companies that together account for 72% of assets.

Sri Lanka!s capital markets are relatively underdeveloped, but have grown in recent years. The declining trend in the stockmarket since 1998 was reversed after the election of a coalition government led by the United National Party in December 2001. In 2002 the Colombo Stock Exchange (CSE) became one of the best-performing markets in the world, with the All-Share Price Index (ASPI) rising by 31%, and the Milanka sensitive price index surging by 33%. Market capitalisation nearly doubled in 2003, reaching SLRs263bn by the year-end. Despite political and security tensions in 2004-06, the CSE has remained strong. In 2004 the ASPI climbed by a hefty 42%, and in 2005 an initial public offering (IPO) from the leading mobile-phone operator, Dialog GSM (owned by MTN Networks, a subsidiary of Telekom Malaysia), caused the ASPI to climb above 2,000 points in 2005, and hugely boosted market capitalisation.

Escalating violence between the government and Tamil rebels in 2005-07 has led to increased volatility, and some declines in the stockmarket. However, the CSE has proved fairly resilient; by end-2006 the ASPI rose by 42% year on year, to 2,722, and market capitalisation increased by 43%, to SLRs835bn"equivalent to 30% of GDP. The number of listed companies, however, remains relatively limited.

Although there is an active market for government securities, the private debt securities market is small. However, the decision in 1999 by a leading credit-rating agency, UK-based Fitch, to establish a local branch and issue local ratings encouraged more companies to move into bonds and debentures. It has also

The state continues to dominate the financial sector

The stockmarket has experienced a long bull run

Sri Lanka 37


encouraged more companies to seek credit ratings in preparation for listing on the stockmarket.

Positioning Sri Lanka as a regional financial centre

Sri Lanka has long nurtured the vision of developing the island as a financial hub in the region. The country has several positive factors that support this vision, including its strategic location, political neutrality, a literate and trainable labour force, a vibrant and growing telecommunications infrastructure and a long history of liberal economic policies that have boosted growth in the financial sector. However, there are several challenges and weaknesses that the country faces on the road to achieving financial hub status. • Political instability and the ongoing civil strife remain the key deterrent to

attracting more investment in the financial sector. • The state!s domination of the domestic finance sector. The two state banks

would need to be granted greater autonomy in determining their lending strategies. The current inefficiencies in state banks would also need to be addressed to reduce intermediation costs and upgrade service standards.

• By international standards, the country!s commercial banking sector and capital market institutions are relatively small. The largest institution has assets of just US$3bn. It is therefore essential to facilitate consolidation among private banks.

• Policies would need to be implemented to encourage the entry of global banks. • The legal and regulatory framework"currently well below best international

practices"would need to be brought into line with international norms. At present the country!s laws and legal knowledge relating to new financial products are insufficient. Dispute resolution is cumbersome and protracted. Enforcement of financial case judgements is also weak. The regulatory framework would also need to be revamped; current practice tends to involve piecemeal tinkering with a 20-year-old banking act that has archaic provisions dating back to when it was launched.

• The relatively low volume of trade in equities, bonds, derivatives and commodities is another drawback. The capital market currently lacks the diversity, depth or liquidity needed to become a financial centre.

• The country would also need to invest in developing a framework unifying all payment systems to cater to both national and international requirements. This would require substantial investment in technological infrastructure.

Other services

Sri Lanka!s tourism industry"the principal economic beneficiary of the ceasefire when it was effective"has once again become a casualty of the ethnic conflict. Arrivals fell to 400,414 in 2000 when the country was put on a "war footing", and dropped by 16% in 2001 following an attack on the country!s international airport. One year of peace in 2002 saw arrivals rise by 17% to 393,174. Tourist arrivals remained on a strong upward trend in 2003, exceeding the 500,000 mark for the first time, but the December 26th tsunami in 2004 delivered another shock to the industry. As the security climate deteriorated, tourist arrivals in 2005 and 2006, at 549,308 and 559,603, respectively, were below the recent high of 566,202 recorded in 2004. Tourist arrivals then

The civil war has affected tourism

38 Sri Lanka


plummeted by 23.5% year on year in the five months to May 2007. Occupancy rates in most coastal and other leisure hotels have fallen sharply, from an average of 59.3% in 2004 to 39.8% in 2006. The dismal state of the tourism industry was further undermined by several airlines reducing their services to Sri Lanka in the wake of air attacks by the Liberation Tigers of Tamil Eelam (LTTE, or Tamil Tigers) near Sri Lanka!s Bandaranaike international airport in April 2007. Tourism receipts are the leading source of invisibles inflows. Over 100,000 people are directly or indirectly employed in the sector, making it one of the leading sources of employment in the country.

Owing to its security risks, Sri Lanka has been unable to add value to its inherent advantages as a tourist destination, and still mainly attracts budget tourists. Nevertheless, the focus is gradually shifting, and the packages offered are being diversified to include, for example, ecotourism and adventure holidays. These aim to attract more upmarket customers. Hotels are also upgrading their facilities and services to attract higher-spending tourists. India emerged as the leading source of tourists in 2004-06, buoyed by stronger ties between the two countries, as well as by attractive airline fares and holiday packages. The UK is the second-largest source.

The external sector

Trade in goods

Foreign trade, 2006a (US$ m)

Exports fob 6,883 Textiles & garments 3,080 Tea 881 Rubber products 428

Imports fob 10,253 Textiles 1,546 Petroleum 2,070 Food & drink 956 Machinery & equipment 1,075Trade balance -3,370

a Provisional.


Sri Lanka has the most liberal trade environment in South Asia. Export and import licences exist for only a few items for security or environmental reasons. However, the frequent changes to the tariff regime are a drawback, as they have undermined predictability. During 2001-05 tariff rates and bands were changed every year.

Sri Lanka is heavily reliant on trade. Exports and imports of goods as a percentage of GDP stood at approximately 26% and 38%, respectively, in 2006. The country!s high propensity to import has resulted in a persistent trade deficit. Despite a sustained recovery in exports since 2003, increased import payments stemming from higher oil prices and rapid growth in imports of

The trade environment is liberal

Sri Lanka 39


investment goods have raised the trade deficit substantially in 2004-06. In 2006 the deficit stood at US$3.4bn, around 12.5% of GDP, according to the Central Bank of Sri Lanka.

An inherent weakness in the external sector is the country!s narrow export base. Garments alone generate almost one-half of total export earnings and are the leading net foreign-exchange earner. Combined with tea they account for almost 60% of total exports. The overwhelming dependence on garments has made the country vulnerable to shifts in international demand. In 2001-02, for example, the contraction in garment exports caused by weak demand in the developed world was the primary reason for the sharp decline in export earnings.

There has been some diversification in industrial exports. In 2006 exports of processed rubber goods increased substantially, and as the second most important industrial export accounted for 6.2% of total exports. Sri Lanka is the world!s leading exporter of certain types of tyres, but in the past it had not been able to move up the processing chain in much of the rest of the rubber products industry. Exports of machinery and equipment have also grown, accounting for 5.7% of total exports in 2006. Among other products, diamonds and jewellery and leather goods have shown promise, and exports of processed foods have expanded extremely rapidly in recent years.

Over 80% of the incremental growth in exports in 2006 was generated by industrial exports, which grew by 8.8% in that year. Earnings from textiles and garments"the leading export category"rose by 6.6% year on year to US$3.1bn. Although exports to the US declined marginally, this was more than offset by an 18.4% increase in exports to the EU under the concessions offered to Sri Lanka by the EU!s General System of Preferences Plus (GSP+) scheme. Boosted by higher oil prices, earnings from petroleum products rose by a hefty 43% in 2006 to US$187m. Overall, revenue from all principal categories of industrial exports recorded growth. Rubber product exports expanded by 8.4%; machinery and equipment exports expanded by 19.5%; diamonds and jewellery by 17.5% while processed food exports grew by 14.4%.

Agricultural exports account for a little less than one-fifth of overall export revenue. Earnings fluctuate, and remain dependant upon weather conditions (which dictate production levels) and prices in the global market. Agricultural export earnings continue to be dominated by tea, which has retained its pre-eminence as the second-largest export earner after garments. With the exception of 1999, when tea prices declined in Sri Lanka rupee terms, both exported volume and rupee earnings have continued to hit record highs, allowing Sri Lanka to maintain its position as the world!s leading tea exporter. Minor export crops, primarily spices (Sri Lanka is the world!s largest exporter of cinnamon), have also performed well. Their value has historically tended to exceed combined earnings from coconut and rubber exports.

Record earnings from tea, together with price-induced increases in earnings from raw rubber exports, led to a 12% increase in US-dollar-denominated earnings from agricultural exports in 2006. Earnings from tea exports, which

The narrow export base is a concern

Industrial goods drive an increase in export earnings

40 Sri Lanka


have experienced a sustained recovery since the end of the Iraq war, rose by 8.8% in 2006. This was largely attributable to the 2.9% rise in US dollar prices for the product, which supported the 5.7% expansion in exported volumes. Earnings from rubber exports grew by a spectacular 98.5% owing to sharp increases in both global prices and exported volumes. The value of coconut exports rose by a healthy 9.3% in 2006, with a 9.8% rise in volumes offsetting the marginal 0.4% drop in unit prices.

Sri Lanka!s manufacturing sector remains heavily dependent on imported capital goods and industrial inputs, which together accounted for nearly 80% of total imports in 2006. Increased usage of thermal power has boosted imported oil volumes since 2000. This, combined with higher global prices, has raised the country!s oil bill from 13% of total imports in 2002 to 20% in 2006. The US dollar value of intermediate good imports rose by 12.1% in 2006, primarily reflecting the impact of higher oil prices: oil imports rose by 25% year on year and accounted for 30% of the increment in imports. In line with export performance, textiles and garments, which at US$1.5bn accounted for 15% of total imports in 2006, have traditionally been a dominant import category. However, owing to rising local production of raw textile materials, as well as relatively modest growth in garment exports, imports of textiles, increased by just 1% in US dollar terms in 2006. All principal intermediate goods imports recorded increases, driven by improved industrial activity. Imports of chemical products rose by 4.9% year on year, while fertiliser imports grew by 21.6%.

Consumer goods, which account for around one-fifth of total imports, grew by 20.5% in 2006. The value of food imports, which represented 9.3% of total imports in 2006, tends to fluctuate depending on the size of domestic harvests and movements in international prices. Rice, sugar, wheat and milk products dominate food imports. Passenger cars and household appliances dominate consumer-durable imports (which make up 10% of total imports), and grew relatively fast, by 14.9%, in 2006, primarily owing to a sharp increase in imports of cars, demand for which continues to rise despite heavy taxation of them.

The overwhelming reliance on a few export markets is another weakness in Sri Lanka!s external trade profile. The US and the EU together take over 60% of Sri Lanka!s merchandise exports and over 95% of its garment exports. The EU is also the principal source of tourism. Japan is a major market for fish products, machinery accessories and gems. The Middle East is a leading tea market, the main source of oil supplies and the leading employer of migrant workers, accounting for over 60% of total remittances from Sri Lankans employed abroad.

Asian countries (including Japan) supply over one-half of Sri Lanka!s imports. A bilateral free-trade agreement (FTA) with India became operational in 2000, and exports to India have grown sharply from just US$72m in 2001 to US$700m in 2006. India is now Sri Lanka!s third-largest export destination. Imports from India have also risen massively, growing from US$601m in 2001 to US$2.3bn in 2006. Pharmaceuticals, wheat, rice, cotton yarn, and buses and cars are the leading imports from India. Trade with India is set to increase further under a Comprehensive Economic Partnership Agreement (which will

Textiles and oil dominate imports

India joins the US and the EU as a major trade partner

Sri Lanka 41


include trade in services and investment), due to be finalised in 2007. Sri Lanka has also finalised a FTA with Pakistan, which came into effect in June 2005. Among Sri Lanka!s other leading suppliers of imports are China (including Hong Kong) for fabrics and garment accessories, and Singapore for petroleum, and telecommunications and data-processing equipment. Iran is the leading source of oil imports.

Invisibles and the current account

The ceasefire between government forces and the rebel Liberation Tigers of Tamil Eelam (LTTE, or Tamil Tigers) in 2002 led to a marked improvement in the services account, with the surplus on services rising from US$295m in 2002 to US$419m in 2004, according to the Central Bank. The key contributors were tourism and port services. However, a sharp decline in tourism receipts in 2005-06 cut the surplus to US$256m by end-2006.

The deficit on the income account almost doubled between 1997 and 2000 in US dollar terms, as rising interest payments on foreign debt and remittances of profits and dividends by foreign-invested enterprises in Sri Lanka outstripped growth in income from foreign assets. However, in 2001-04 this trend was reversed as the fall in global interest rates led interest payments to decline more sharply than interest income. The income deficit subsequently rose again, reaching US$388m by 2006, as interest payments on external debt climbed again"partly owing to higher debt accumulation and the expiry of the debt moratorium in 2005"and as repatriation of profits and dividends by foreign investors increased.

Private transfers that consist mostly of remittances from Sri Lankans working in the Middle East are the second-biggest foreign-exchange earner after garments. They form an important balancing element in the current account. In 2006 net private transfers amounted to US$2.2bn, and were sufficient to finance 60% of the combined deficit on the trade, services and income accounts. Official transfers, which consist primarily of food and commodity grants, have been on a declining trend, and amounted to just US$101m in 2006.

Capital flows and foreign debt

Three consecutive years of balance-of-payments surpluses in 2001-03 were reversed in 2004, as a sharp increase in the current-account deficit, combined with a decline in official aid inflows, resulted in a deficit of US$205m. The rise in aid inflows"primarily tsunami-related"in 2005 saw Sri Lanka return to a surplus of US$501m. The surplus dropped to US$204m in 2006, owing to the sharp widening in the trade deficit. Net capital inflows in 2006 grew by 48% from US$1.2bn in 2005 to US$1.8bn in 2006. This included a record US$1.2bn in grants and loans to the government, largely for tsunami-related reconstruction. The country!s aid utilisation rate improved to 21.2% in 2006 from 17% in 2005.

The services surplus fell between 2004 and 2006

Private transfers help to offset the income deficit

Aid inflows have risen

42 Sri Lanka


Foreign direct investment inflows

Although Sri Lanka has one of the most liberal and foreign-investor friendly regimes in Asia, FDI inflows have remained well below potential, primarily owing to the volatile security climate. Annual FDI inflows averaged 0.8% of GDP in the 1980s, increasing to 1.2% of GDP in the 1990s. FDI reached US$430m in 1997 during a privatisation programme, but fell back as the privatisation programme stalled and the unstable political and security climate deterred investors. FDI inflows staged a recovery from 2002, largely as a result of the improved security climate. Net foreign direct investment (excluding privatisation, which has largely stalled since 2001) rose from US$82m in 2001 to US$234m in 2005. In 2006 FDI rose to US$604m"the highest on record. More than 50% of FDI was generated by the reinvestment of retained earnings by certain large foreign investors in telecom-munications and garments. The government!s "300 factories" programme to promote rural industrial development also drew in new investments. Of the total FDI in 2006, over 60% was attributable to the telecoms and textiles and apparel sectors.

According to the Central Bank, increased loan inflows to the government, combined with the weakening of the US dollar against major currencies, limited the growth in Sri Lanka!s external debt to a modest 7%, from US$11.4bn in 2005 to US$12.2bn in 2006. As a consequence of faster GDP growth in 2006, the debt/GDP ratio fell to 45.4% in 2006 from 48.2% in 2005. The country!s debt profile remained unchanged, with medium- and long-term loans (96% of which are government-owned or government-guaranteed) accounting for 95% of the total debt stock in 2006. Short-term debt (which made up 5% of the total debt stock) declined by 4.5% in 2006, and consisted mainly of trade-related credit. Short-term debt as a percentage of official reserves (a measure that reflects the country!s vulnerability to external shocks) was around 22.4%"a significant improvement on the level of 35.3% recorded in 2002. Since most debt is provided on concessional terms, the impact of higher international interest rates on external debt-service payments is relatively small.

Sri Lanka has full current-account convertibility (the IMF!s Article VIII status), but capital inflows and outflows are restricted. There has nevertheless been some relaxation on capital flows in recent years. Exporters are allowed to borrow in foreign currency from development banks, foreign-controlled firms can borrow from domestic banks, and Sri Lankan companies can borrow in the international capital markets, subject to approval from the Central Bank. In 2006 capital controls were relaxed further by permitting foreign country funds, regional and mutual funds, foreign companies and foreign citizens to purchase up to 5% of Sri Lankan rupee-denominated Treasury bonds. Non-resident Sri Lankan citizens were also invited to purchase foreign-currency-denominated "Nation Building" bonds.

Foreign reserves and the exchange rate

Foreign-exchange reserves fell by almost 50% between 1998 and 2000, undermined by a decline in FDI and an overall balance-of-payments deficit in 1999-2000. This was followed by a marked improvement, with reserves

Foreign debt is high, but mostly concessional

Foreign reserves are steady

Sri Lanka 43


(excluding gold) rising from US$1bn in 2000 to US$2.8bn in 2006, according to IMF figures. Increased inflows in the form of private remittances, FDI, public- and private-sector long-term borrowing and net portfolio investment all helped to shore up reserves. Inflows associated with aid related to the end-2004 tsunami disaster have also served to prop up foreign-exchange reserves.

Foreign-exchange reserves, 2006 (end-period)

Total Per head (US$ bn) (US$)Sri Lanka 2.8 135.7Pakistan 11.5 72.3

India 170.7 155.9

Sources: IMF, International Financial Statistics; Economist Intelligence Unit, CountryData.

44 Sri Lanka


Regional overview

Membership of organisations

The South Asian Association for Regional Co-operation (SAARC), which comprises India, Pakistan, Sri Lanka, Bangladesh, Nepal, the Maldives, Bhutan and Afghanistan, was established in 1985. Afghanistan, the newest member, joined formally in April 2007. SAARC!s aims include promoting welfare, accelerating economic growth, eradicating poverty, and improving relations between member states. Summit meetings are meant to be held annually and are complemented by technical committees, meetings of foreign ministers, and a standing committee of the foreign secretaries (senior foreign ministry civil servants) of each country. An under-resourced secretariat based in the Nepalese capital, Kathmandu, co-ordinates SAARC!s activities.

In the early years agreements were made to establish a food security reserve, set up a meteorological centre, combat terrorism and encourage cultural exchanges between member states. Along with micro-level issues, SAARC has launched a South Asian Free-Trade Area (SAFTA). SAFTA, seen as a replacement for the South Asian Preferential Trading Arrangement (which was agreed in 1995 and had by 1996 identified more than 2,000 products as eligible for preferential treatment), was initially to be put in place by the ambitious target date of 2001, but eventually came into existence in January 2006. After the 1997 SAARC conference an eminent persons! group was formed to plot the way forward for the association. The group argued that closer economic ties were the key to the future, and proposed that a free-trade area be put in place by 2008 (2010 for the least developed member states), a customs union by 2015 and an economic union by 2020. Political factors weigh against even this extended timetable.

Tensions between the organisation!s two largest members, India and Pakistan, have hampered SAARC!s progress on wider issues, although it has been effective in providing a forum for meetings of non-governmental organisations and professional groupings. Indian objections to Pakistan!s participation in SAARC summits after its military coup in 1999 led to the cancellation of summits in 1999 and 2000. India has also accused Pakistan of refusing to extend SAFTA benefits to it. The difficulty of making multilateral progress against a background of Indo-Pakistani tensions has led to a growing emphasis on bilateral trade links. India has signed bilateral free-trade agreements (FTAs), in effect by-passing SAARC, with Nepal (in 1996) and Sri Lanka (in 2000), and also has an FTA with Bhutan, while Pakistan and Sri Lanka signed an FTA in 2005. Moreover, much of SAARC!s work is likely to be superseded by World Trade Organisation regulations.

SAARC!s ability to reposition itself as the preferred conduit for bilateral relationships within South Asia is likely to determine the success or otherwise of the association. Its achievements in promoting civil-society links within South Asia contrast strongly with its failure to boost ties at government level"a reflection of the volatile relationship between India and Pakistan.

The South Asian Association for Regional Co-operation

Sri Lanka 45


Appendices

Sources of information

Central Bank of Sri Lanka, Annual Report

Central Bank of Sri Lanka, Selected Economic Indicators (weekly)

Department of Census and Statistics, Sri Lanka Labour Force Survey (quarterly)

Department of Census and Statistics, Statistical Abstract (annual)

IMF, International Financial Statistics (monthly)

International Institute for Strategic Studies, The Strategic Balance 2004-2005

World Bank, World Development Report (annual)

UNDP, National Human Development Report: Sri Lanka

World Bank, Recapturing Lost Opportunities, 1999

Board of Investment website, containing general information on opportunities and regulations: www.boisrilanka.org

Central Bank of Sri Lanka: www.lanka.net/centralbank

Department of Information (general news and news links), useful for updates giving the official line on the ethnic conflict: www.news.lk

General government information and news links: www.gov.lk

IMF: www.imf.org

World Bank: www.worldbank.org

Reference tables Population (m; mid-year)

2002 2003 2004 2005 2006Total 19.0 19.3 19.5 19.7 19.9 % change, year on year 1.5 1.3 1.1 1.1 1.1


International statistical sources

Select bibliography and websites

National statistical sources

46 Sri Lanka


Labour force (% unless otherwise indicated; fourth quarter data unless otherwise indicated)

2002 2003 2004 2005a 2006b

Labour force ('000) 7,145 7,654 8,061 8,141 7,602

Employed 6,519 7,013 7,394 7,518 7,112

Unemployed 626 641 667 623 490

Labour force participation rate 50.3 48.9 48.6 48.3 50.7

Share of employment

Public sector 13.4 13.5 13.0 13.3 14.0

Private sector 44.5 44.4 46.4 46.1 42.1

Self-employed 28.6 29.6 28.3 29.7 30.1

Unpaid family workers 10.7 9.9 9.4 7.9 10.2

Unemployment rate 8.8 8.4 8.3 7.7 6.4

Note. Data for 2002 exclude the northern and eastern provinces; data for 2003 exclude the northern province.

a Data include all districts and are based on a one-off survey in August 2005. b Third quarter data.


National energy statistics 2002 2003 2004 2005 2006a

Electricity

Available capacity (mw) 2,230 2,243 2,378 2,411 2,429

Hydropower 1,171 1,247 1,280 1,291 1,309

Thermal 756 973 1,025 1,115 1,115

Emergency power 300 20 20 - -

Units generated (gwh) 6,951 7,612 8,159 8,769 9,389

Hydropower 2,692 3,310 2,961 3,450 4,635

Thermal 3,201 3,904 4,571 5,314 4,751

Total sales by Ceylon Electricity Board (gwh) 5,502 6,208 6,666 7,255 7,832

Petroleum products

Imports ('000 tonnes) 3,761 3,304 3,993 3,980 4,075

Crude oil 2,280 1,995 2,201 2,008 2,153

Refined products 1,344 1,168 1,644 1,823 1,764

Liquefied petroleum gas (LPG) 137 141 148 149 158

a Provisional.


Government finances (SLRs m unless otherwise indicated)

2002 2003 2004 2005 2006a

Total revenue & grants 268,966 284,421 320,153 412,387 507,402

Tax revenue 221,837 231,597 281,551 336,828 428,378

Non-tax revenue 40,050 44,868 29,921 42,919 48,956

Grants 7,079 7,956 8,681 32,640 30,068

Total expenditure & net lending 402,989 417,671 476,906 584,783 713,145

Current expenditure 330,847 334,693 389,679 443,350 547,460

Capital expenditure & net lending 72,142 82,979 87,227 141,434 165,686

Budget balance (before grants) -141,102 -141,155 -165,434 -205,036 -235,813

a Provisional.


Sri Lanka 47


Money supply (SLRs m unless otherwise indicated; end-period)

2001 2002 2003 2004 2005

Money (M1) incl others 122,211 139,361 162,640 189,339 231,621

% change, year on year 3.2 14.0 16.7 16.4 22.3

Quasi-money 426,927 483,134 556,220 670,191 791,576

Money (M2) 549,138 622,495 718,860 859,530 1,023,197


Source: IMF, International Financial Statistics.

Interest rates (%; period averages unless otherwise indicated)

2002 2003 2004 2005 2006

Lending interest rate (%) 12.2 9.0 10.2 12.1 14.7

Deposit interest rate (%) 9.2 6.0 5.1 10.2 13.0

Sources: Central Bank of Sri Lanka, Annual Report, 2006; Economist Intelligence Unit.

Prices and earnings (% change, year on year)

2002 2003 2004 2005 2006

Consumer prices (av) 9.5 6.3 7.6 11.6 13.7

Average nominal wages 17.8 4.0 6.8 3.9 7.4

Average real wages 8.3 -2.3 -0.8 -7.7 -6.3

Unit labour costs 10.7 4.6 1.9 0.4 -8.5


Gross domestic product (market prices)

2002 2003 2004 2005 2006

Total (US$ m) At current prices 16,536 18,246 20,054 23,539 26,963

Total (SLRs m) At current prices 1,581,888 1,761,164 2,029,370 2,365,592 2,801,822

At constant (1996) prices 968,358 1,026,652 1,082,577 1,147,852 1,232,253


Per head (SLRs) At current prices 78,273 86,374 98,657 114,059 133,913

At constant (1996) prices 47,915 50,351 52,629 55,345 58,895



48 Sri Lanka


Nominal gross domestic product by expenditure (SLRs m at current prices where series are indicated; otherwise % of total)

2002 2003 2004 2005 2006

Private consumption 1,214,120 1,341,900 1,542,110 1,761,890 2,068,510

76.8 76.2 76.0 74.5 73.8

Government consumption 139,311 139,268 164,887 195,093 253,369

8.8 7.9 8.1 8.2 9.0

Gross fixed investment 330,543 386,621 506,675 627,199 803,011

20.9 22.0 25.0 26.5 28.7

Stockbuilding 4,261 2,135 268 334 355

0.3 0.1 0.0 0.0 0.0

Exports of goods & services 570,833 632,907 736,967 792,656 885,947

36.1 35.9 36.3 33.5 31.6

Imports of goods & services 677,180 741,667 921,537 1,011,580 1,209,370

42.8 42.1 45.4 42.8 43.2

GDP 1,581,888 1,761,164 2,029,370 2,365,592 2,801,822


Real gross domestic product by expenditure (SLRs m at constant 1996 prices where series are indicated; otherwise % change year on year)

2002 2003 2004 2005 2006

Private consumption 775,500 825,921 865,271 886,052 937,369

6.9 6.5 4.8 2.4 5.8

Government consumption 105,225 109,317 116,646 123,699 144,761

4.3 3.9 6.7 6.0 17.0

Gross fixed investment 224,193 261,980 294,067 326,355 369,985

4.4 16.9 12.2 11.0 13.4

Stockbuilding 3,057 1,517 188 232 244

0.3a -0.2a -0.1 a 0.0a 0.0a

Exports of goods & services 374,115 394,284 424,137 447,943 469,330

6.3 5.4 7.6 5.6 4.8

Imports of goods & services 513,732 566,367 617,732 636,429 689,436

11.2 10.2 9.1 3.0 8.3

GDP 968,358 1,026,652 1,082,577 1,147,852 1,232,253

4.0 6.0 5.4 6.0 7.4

a Change as a percentage of GDP in the previous year.


Agricultural production 2002 2003 2004 2005a 2006b

Paddy ('000 tonnes) 2,859 3,071 2,628 3,246 3,342

Tea (m kg) 310.0 303.2 309.5 317.2 310.8

Coconut (m nuts) 2,392 2,562 2,591 2,515 2,684

Rubber (m kg) 90.5 92.0 94.7 104.4 109.2

a Revised. b Provisional.


Sri Lanka 49


Mining and quarrying exports (SLRs m)

2002 2003 2004 2005 2006a

Precious & semi-precious stones 8,173 7,601 10,939 12,088 12,385

Metallic ores & iron pyrites 187 78 659 1,676 624

Natural graphite 212 243 269 268 322

Ilmenite � � 13 34 108

Others 56 147 224 338 683

Total 8,628 8,069 12,103 14,404 14,121

Note. Totals may not sum owing to rounding.

a Provisional.


Manufacturing production (SLRs m unless otherwise indicated; current prices)

2002 2003 2004 2005 2006a

Total manufacturing 548,431 604,199 697,088 778,404 877,898

Textiles, clothing & leatherwear 240,712 261,990 295,379 308,646 326,216

% of total 43.9 43.4 42.4 39.7 37.2

Food, beverages & tobacco 136,173 151,870 172,424 195,184 225,975

% of total 24.8 25.1 24.7 25.1 25.7

Chemicals, rubber & plastics products 90,250 100,113 123,491 152,175 181,980

% of total 16.5 16.6 17.7 19.5 20.7

Non-metallic mineral products 35,108 38,413 47,231 55,789 68,063

% of total 6.4 6.4 6.8 7.2 7.8

Fabricated metal products 19,358 21,872 24,964 28,237 32,021

% of total 3.5 3.6 3.6 3.6 3.6

Paper & paper products 7,528 8,293 9,869 11,304 12,794

% of total 1.4 1.4 1.4 1.5 1.5

Private-sector industrial production index (1997=100) 121.3 126.6 134.2 142.3 150.4

% change 2.6 4.4 6.0 6.0 5.7

a Provisional.


Realised investments in Board of Investment projects (cumulative; end-period)

2002 2003 2004 2005 2006a

No. of enterprises 1,643 1,766 1,867 1,871 1,929

Total investment potential (SLRs m) 241,471 277,480 319,465 380,129 468,016

Foreign investment (SLRs m) 164,894 186,782 208,696 233,523 285,367

a Provisional.


50 Sri Lanka


Stockmarket indicators (Colombo Stock Exchange)

2002 2003 2004 2005 2006CSE all-share price index (year-end; 1985=100) 815.1 1,062.1 1,506.9 1,922.2 2,722.4Milanka sensitive index (year-end; 1998=1000;

index not backdated) 1,374.6 1,897.8 2,073.7 2,451.1 3,711.8Market capitalisation (SLRs bn) 163 263 382 584 835

Turnover (SLRs m) 30,183 73,629 59,052 114,666 105,154Net foreign purchases (SLRs m) 2,443 209 1,107 6,285 5,377


Tourism statistics 2002 2003 2004 2005 2006a

Total visitor arrivals 393,174 500,642 566,202 549,308 559,603

From Europe 208,374 265,802 298,776 236,481 242,668

From Asia 143,064 177,351 198,068 223,351 242,132

From North America 19,869 25,110 29,759 46,457 35,323

From Australasia 13,209 22,965 26,540 29,738 25,127

Gross tourism receipts (SLRs m) 24,202 32,810 42,666 36,377 n/a

No. of hotel roomsb 13,818 14,137 14,322 13,162 14,218

Occupancy rate (av; %) 43.1 53.2 59.3 43.6 39.8

a Provisional. b Graded hotels only.


Main composition of trade (US$ m; fob-cif)

2002 2003 2004 2005 2006

Exports fob Textiles & garments 2,425.5 2,575.3 2,818.1 2,896.5 3,087.4

Tea 659.7 705.2 740.1 810.8 882.1

Diamonds & gems 191.7 216.3 246.6 264.6 312.2

Petroleum products 73.2 65.3 100.1 131.0 187.2

Total exports incl others 4,702.5 5,124.8 5,770.8 6,351.1 6,895.9

Imports cif Textiles and allied products 1,321.7 1,371.9 1,516.7 1,531.9 1,549.2

Machinery & transport equipment 873.6 942.8 1,319.6 1,657.6 2,070.9

Mineral products 791.8 903.4 1,113.9 1,187.2 2,170.3

Chemicals 154.6 169.5 206.5 248.6 261.0

Total imports incl others 6,110.0 6,669.5 7,988.3 8,839.6 10,264.4


Sri Lanka 51


Main trading partners (% of total)

2002 2003 2004 2005 2006

Exports fob to: US 37.7 34.6 32.5 31.1 28.2

UK 12.6 12.5 13.5 12.2 11.5

India 3.6 4.8 6.8 8.9 9.0

Germany 4.3 4.5 4.8 4.3 4.1

Imports cif from: India 13.8 16.1 18.0 20.7 18.5

China 4.3 4.9 5.7 7.1 10.5

Singapore 7.2 7.8 8.7 8.3 8.7

Hong Kong 8.1 8.4 7.7 7.3 4.2

Source: IMF, Direction of Trade Statistics.

Balance of payments, IMF series (US$ m)

2001 2002 2003 2004 2005

Goods: exports fob 4,817.0 4,699.0 5,133.0 5,757.0 6,347.0

Goods: imports fob -5,377.0 -5,495.0 -6,005.0 -7,200.0 -7,977.0

Trade balance -560.0 -796.0 -872.0 -1,443.0 -1,630.0

Services: credit 1,355.0 1,268.0 1,411.0 1,527.0 1,540.0

Services: debit -1,749.0 -1,584.0 -1,679.0 -1,908.0 -2,089.0

Income: credit 108.0 75.0 170.0 157.0 35.0

Income: debit -375.0 -328.0 -341.0 -360.0 -332.0

Current transfers: credit 1,155.0 1,287.0 1,414.0 1,564.0 1,968.0

Current transfers: debit -172.0 -190.0 -209.0 -214.0 -233.0

Current-account balance -238.0 -268.0 -106.0 -677.0 -741.0

Direct investment in Sri Lanka 172.0 197.0 229.0 233.0 272.0

Direct investment abroad 0.0 -11.0 -27.0 -6.0 -38.0

Inward portfolio investment (incl bonds) -53.0 -143.0 0.0 -116.0 662.0

Outward portfolio investment 24.0 78.0 145.0 111.0 276.0

Other investment assets 183.0 104.0 -94.0 -354.0 -223.0

Other investment liabilities -480.0 -511.0 -328.0 -17.0 -4.0

Financial balance -154.0 -286.0 -75.0 -149.0 945.0

Capital account nie credit 55.0 71.0 81.0 71.0 257.0

Capital account nie debit -5.0 -6.0 -6.0 -7.0 -8.0

Capital account nie balance 50.0 65.0 74.0 64.0 250.0

Net errors & omissions 15.0 136.0 -114.0 -189.0 -75.0

Overall balance -308.0 -262.0 -365.0 -935.0 -935.0

Financing (� indicates inflow) Movement of reserves -211.0 -348.0 -628.0 129.0 -532.0

Use of IMF credit & loans 131.6 125.3 82.8 0.0 152.8


52 Sri Lanka


External debt, World Bank series (US$ m unless otherwise indicated; debt stocks as at year-end)

2001 2002 2003 2004 2005

Public medium- & long-term 7,499.7 8,400.4 9,158.8 9,847.5 9,811.6

Private medium- & long-term 389.4 328.6 268.4 295.9 243.0

Total medium- & long-term debt 7,889.1 8,729.0 9,427.2 10,143.4 10,054.6

Official creditors 6,623.3 7,502.3 8,546.6 9,205.4 9,237.1

Bilateral 3,384.4 3,748.4 4,265.8 4,549.0 4,682.8

Multilateral 3,238.9 3,753.9 4,280.8 4,656.4 4,554.3

Private creditors 1,265.8 1,226.7 880.6 938.0 817.5

Short-term debt 627.3 700.6 620.8 647.8 1,008.0

Interest arrears 93.9 99.2 0.0 0.0 0.0

Use of IMF credit 214.3 310.0 393.3 293.9 381.3

Total external debt 8,730.7 9,739.6 10,441.3 11,085.1 11,443.9

Principal repayments 521.1 500.6 419.7 552.4 292.9

Interest payments 232.6 220.9 188.1 218.2 150.4

Short-term debt 20.0 10.1 7.4 19.0 41.4

Total debt service 753.7 721.4 607.8 770.6 443.3

Ratios (%) Total external debt/GDP 55.4 58.9 57.2 55.3 48.6

Debt-service ratio, paida 10.1 9.8 7.5 8.5 4.5

Note. Long-term debt is defined as having original maturity of more than one year.

a Debt service as a percentage of earnings from exports of goods and services.

Source: World Bank, Global Development Finance.

Foreign reserves (US$ m; end-period)

2002 2003 2004 2005 2006

Total reserves incl gold 1,706.0 2,334.0 2,205.0 2,737.0 2,948.0

Total international reserves excl gold 1,631.0 2,265.0 2,132.0 2,651.0 2,837.0

Gold, national valuation 75.0 69.0 73.0 86.0 111.0


Exchange rates (SLRs per unit of currency unless otherwise indicated; annual averages)

2002 2003 2004 2005 2006

US$ 95.7 96.5 101.2 100.5 103.9

£ 143.4 157.6 185.3 182.7 191.2

� 90.4 109.1 125.8 125.2 130.5

Rs 1.97 2.07 2.23 2.28 2.29

Rmb 11.6 11.7 12.2 12.3 13.0

¥ 0.763 0.833 0.935 0.912 0.893


Editors: Duncan Innes-Ker (editor); Gerard Walsh (consulting editor) Editorial closing date: July 17th 2007 All queries: Tel: (44.20) 7576 8000 E-mail: [email protected]

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