Grim outlook for world economy in 2009

The Asian Development Bank (ADB) gives a grim outlook to global economy in its flagship publication ADB Outlook 2009 released last week.

According to the report the economic growth in Sri Lanka will be reduced to 4.5 per cent, while inflation and current account deficit will be at 8 per cent and 7.5 per cent of the GDP.

The report said that the economies will recover in 2010 and Sri Lanka’s GDP growth rate will be 6 per cent in 2010 while inflation and current account deficit will be at 6 per cent and 7 per cent of the GDP. However, the inflation will depend on government’s borrowing programs, the report said.

Addressing the media the Lead Economist at ADB Narhari Rao said that the deepening global recession and its impacts on export industries and low performance in the agricultural sector compared to 2008 are the reasons for the slowdown in the Sri Lankan economic growth this year.

Positive signs

On the positive side, the report said that the signs that the civil conflict could end this year paving the way for reconstruction which should give stimulus to the economy if financing is available.

The government will ease monitory policy in response to the global downturn and according to the Financial Road Map for 2009. As a result of tight monetory policy adopted last year the inflation dropped from over 20 per cent to single digit. In February, the Central Bank cut policy interest rate by 25 basis points, the first change in two years.

Since Sri Lanka’s financial system was not exposed to the toxic assets of the US and European systems, it should remain largely unscathed. However, non performing loans seems to be rising, because industries such as clothing, tea and construction are facing difficulties. These problems will persist during 2009 when borrowing sources stay limited.

Major challenge

The report said that maintaining fiscal discipline in 2009 will remain a major challenge. The budget for 2009 expects the deficit to fall to 6.5 per cent of the GDP, a view underpinned by assumptions of discipline in current spending and strong revenue performance. Historically both these targets are hard to meet, leading to cuts in capital budget to maintain the deficit at a manageable level.

The public investment program will also depend on the government’s ability to raise funds in international capital markets,which will remain problematic this year. Sri Lanka’s sovereign rating was downgraded in 2008 both by Fitch (to B+ from BB-) and Standard & Poor’s (to B from B+). The rating was further downgraded by Fitch to B in February this year.

Referring the stimulus package of Rs. 16 billion announced by the government the report said that the source of funding and its implication on budget deficit are still unclear.

The interventions which the government sees as necessary to maintain growth, would make it harder to meet fiscal targets in 2009; the fiscal space for such interventions is also limited on account of the high deficit.

The current account deficit will remain high at 7.5 per cent of GDP in 2009 given lower exports and slowing remittance. Exports will fall due to lower external demand and lower prices. Exports and GDP growth are expected to pick up during the second half of 2010 and the current account will start to improve that year.

Global outlook

Turbulence in financial markets and continued weakness evident in recent economic data dominate the global outlook for 2009-2010. GDP in the US, Eurozone and Japan (G3) in 2009 is projected to contract by 2.6 per cent and world trade volume is seen to decline by 3.5 per cent. A mild recovery is anticipated in late 2010, with G3 growth expected at 1.1 per cent.

However, the report said that the downside risks to this outlook are overwhelming, which could further slash the already dismal prospects.

Ineffective crisis resolution schemes and fiscal stimulus packages could drag down the current bleak forecasts for the US and other economies.

Emerging protectionism is becoming worrisome. Commodity prices are likely to remain volatile and deflationary risk insight could lead to further deterioration of labour markets, yet monetory policy options to combat it will be increasingly limited. Social instability could pose additional threats to economic prospects, the report said.

(GW)