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SL Budget 2022– Proposal to solve the nation’s fiscal deficit, shortage of foreign reserves and debt


The 76th budget of the Democratic Socialist Republic of Sri Lanka was presented by the government on the 7th of October 2021 reflecting on the action plan for reducing the budget deficit, improving the country’s foreign reserves and repaying outstanding debts.

Sri Lanka is currently facing an unprecedented economic crisis mainly evoked by the pandemic. Economic problems have heightened to an extent where the public are feeling inflationary pressures, reduced affordability of a key basket of goods and the lack of availability of essential consumer goods. The escalation of issues is a compound effect of multiple political and economic policies in the past. In light of these, the 2022 budget has come in stringent to be able to resolve for multiple issues


Proposal to finance budget deficit domestically through increased income from taxation and reduction of national expenditure


Statistics illustrate a rapid rise in Sri Lanka’s budget deficit from 5.3% in 2018 to 8.0% in 2019, 12.8% in 2020 and 10.5% in 2021. Sri Lanka intends to finance this rising deficit through local sources in 2022 and bring it down to 8.8%.


A main source of income proposed is taxation. Direct taxes would include a one-time surcharge tax at a rate of 25% on individuals or companies with a taxable income exceeding LKR 2 billion (approximately USD 27 million) for the year of assessment 2020/2021. Indirect taxes would include the increase in Value Added Tax (VAT) from 15% to 18% for financial services payable by specified institutions and the introduction of a new tax policy called the ‘social security contribution’ for corporates that earn a gross annual turnover exceeding LKR 120 million. Financial experts insinuate that the social security contribution might have been brought into effect to reverse the steep value-added tax cut that was introduced in 2019 to create a production economy although it adversely impacted state finances and led to monetary instability and an external crisis involving possible sovereign default.


In addition to taxation, deficit would be brought down through a drastic cut back on national expenditure. The estimated expenditure for 2022 is LKR 2,505 billion (excluding debt servicing), which is LKR 315 billion lower compared to 2021. The highest allocation of funds has been proposed for the Ministry of Defense (15%) followed by State Ministry of Provincial Council and Local Government (13%). In efforts to further cut down spending, a salary-freeze has also been proposed (the exception being the LKR 30 billion for teachers who are entitled to a pay rise). The finance minister has declared the need to enact a legislation to halt supplementary estimates or midway increases in spending to avoid further salary hikes.


The government intends to improve foreign exchange reserves…

Sri Lanka’s foreign reserves stands at USD 1.58 billion at the end of November 2021, down from USD 7.5bn in 2019. In December, this reserve value increased to USD 3.1bn on account of an inflow from a Chinese loan that had been obtained. The reduction in reserves is also as a result of a massive hit on remittances and tourism due to COVID-19 as it has been tougher than ever to attract investors or tourists into the country.

The government highlighted in its budget speech that there’s a resolve to improve the quality of reserves from 2022 to 2024 by reviewing the current framework in place under the Board of Investment related to attracting foreign direct investment and introducing suitable measures in this regard. Despite Covid-19 minimizing the options left for the country’s growth, the Central bank stated that growth is likely to improve by 5 percent in the year 2022 if tourism reaches its peak, post-pandemic.


But the key challenge lies in debt repayment

While Sri Lanka announces that it has no intention to default on its debts, the lack of foreign exchange reserves raises questions on how the country would systematically solve the grinding problems involved with accumulated debt, the dollar problem, and shortages in the market.

In short, the appropriation bill has been proposed with the aim of reducing the budget deficit to 8.8% in 2022 and eventually achieving a balanced budget over the years. The fiscal proposals presented focuses on companies with a high revenue threshold without placing constraints on small and medium enterprises. In order to relieve pressure of the shortage of foreign exchange reserves in the country and put debt on a sustainable footing, proposals to attract foreign direct investment and improve tourism have been made.


References

https://www2.deloitte.com, https://economynext.com, https://www.statista.com , https://www.channelnewsasia.com, https://groundviews.org, https://home.kpmg, https://www2.deloitte.com/lk