Approval of IMF loan:

An endorsement of economic policies

by Asangi JAYASINGHE

The Executive Board of the International Monetary Fund (IMF) approved a 20 month Stand By Arrangement (SBA) Facility of USD 2.6 billion to Sri Lanka on July 24, 2009 and the first tranche of this loan, amounting to USD 322 million was made available last Tuesday. Chief Economist of the Central Bank, Dr. Nandalal Weerasinghe explained the reason and advantages of getting the IMF loan to the Sri Lanka's economy in an interview with the Sunday Observer.

Q: What were the reasons for requesting an SBA loan Facility from IMF?

A: By July/August 2008, we had a foreign reserve of USD 3.5 billion due to foreign investments in our Treasury Bills and Bonds. During this time, country's inflation was on the decline, exports grew by 10 percent, private remittance grew by 20percent and the Country's BOP had a surplus of more than USD 500 million. However, due to the global financial crisis that erupted in September 2007 and intensified in 2008, the overseas investors started fleeing from emerging markets such as Sri Lanka.

The sudden withdrawal of investment in Treasury Bills and Bonds by foreign investors, and other factors such as hasty claims on short term credit facilities that were quite freely available for petroleum imports, the acute drying-up of commercial financing required for counterpart funds for the implementation of foreign funded projects under the public investment program and severe valuation losses arising from the sharp depreciation of major international currencies against US dollar had adverse effects on the country's BOP and this led to a depletion of our external reserves. By end 2008, the country's BOP turned into a deficit and external official reserves dropped to USD 1.7 billion.

The situation had worsened by March 2009 and external official reserves had dropped to USD 1.3 billion. This was similar to the crisis situation faced by Malaysia and Thailand in 1997.It is in this context that in March 2009, Sri Lanka sought a SBA facility with exceptional access from the IMF amounting to USD 1.9 billion, 300 percent of country's current quota.

Q: The Central Bank of Sri Lanka requested for this facility in March 2009. Why did it take such a long time for the IMF to grant this facility?

A: In response to the request, a team of IMF officials visited Sri Lanka in late March to assess the impact of the global financial crisis on Sri Lanka and to consider as to whether Sri Lanka was in need of such assistance. Although, we completed all technical level negotiations and the finalization of the content of the Letter of Intent in April 2009, there was a delay in taking the SBA facility for discussion by the Executive Board of the IMF.

This was due to some member countries been pressurised by LTTE lobbyists to oppose the granting of this SBA facility to Sri Lanka.

However, with the ending of war with the LTTE in May 2009, a staff mission from the IMF arrived once again in Sri Lanka in early July, to understand the new environment and update the Program accordingly. IMF indicated that the SBA facility would be taken for discussion by the Executive Board on July 24 , 2009 and accordingly, the LOI was signed by the Sri Lankan authorities on July 16 , 2009, with the key objectives under the SBA program being to rebuild external reserves further, while strengthening the country's fiscal position and the domestic financial system.

The SBA facility was approved by IMF on July 24 , 2009. Although, some of the world's leading nations such as the United States, Britain, Germany and France abstained at the voting, we had 70 percent of votes from other member countries supporting the granting of this facility by IMF.

The approval of the SBA facility on July 24 , 2009 is an endorsement of country's economic policies by the IMF as all macroeconomic policies and targets under the 20-month program are in line with policies already implemented and announced by the authorities. Initially, we requested only for a USD 1.9 billion facility and the IMF said that is not enough and granted an SBA Facility of USD 2.6 billion to Sri Lanka.

Q: Already the first tranche of this loan amounting to USD 322 million was made available to Sri Lanka, the balance will be disbursed in seven tranches within the next 20 months, subject to the quarterly reviews on economic performance of the country. For what purposes will this loan be utilized?

A: Well, this loan is given to the Central bank of Sri Lanka.

Not to the Government. It is directly credited to the bank in eight equal instalments to help improve Sri Lanka's balance of payments (BOP).This facility is not for repayment of loans the Government has taken. This is a misconception people have. However, if the government need they can buy dollars from the Central Bank.

Q: What is the interest Charge for this facility and how will it be repaid?

A: This loan is repayable within 4 years commencing April 2012. The rate of interest of the SBA facility is composed of two components; the service charge and a fixed margin. The service charge is calculated weekly, based on the Sirs rate, which is at present is 0.3 percent per annum.

The fixed margin is 1 percent per annum for the outstanding loan amount up to 300 percent of the quota. When the outstanding loan amount exceeds 300 percent of the quota, a surcharge of 2 percent per annum is levied. This is significantly a lower rate than prevailing market rates. We will be investing this money in good securities abroad at higher market rates. So this facility is not a burden to the government or the public.Also having this facility, the country's gross official reserves will increase to comfortable levels which in turn would bring down the risk and insurance premiums and STRAWS charges.

Q: What are the agreed policies associated with the SBA Loan Facility?

A: Unlike in year 2003 when IMF granted a Poverty reduction and growth facility of USD 269 million, where the IMF had insisted on privatization of State-owned enterprises like STRAUSS and cuts to welfare and subsidy payments, they agreed to economic and financial policies of the authorities of Sri Lanka based on the Governments overall vision documented in the Mahinda Chintana.

The Government budget deficit for 2009 is expected to be 7 percent of GDP under the program. The fiscal consolidation path accommodates expenditure for relief, rehabilitation and reconstruction of the conflict affected areas while protecting social expenditure such as expenditure for health, education and Samurdhi payments.

Also the country's foreign reserves will be strengthened to the highest level prevailed before September 2008 as early as possible. The borrowing from domestic banks and non-banks sources to finance the budget deficit is expected to be within the preannounced targets.

Q: IMF is disbursing this facility in eight tranches subject to the quarterly reviews on economic performance of the country. What steps will be taken to achieve this expected economic and financial performance?

A: We have already bought down the inflation to point 0.9 percent in June 2009 compared 28 percent in year 2008. Growth is projected to be 3 percent on account of worsening global environment. A strong fiscal effort is necessary to achieve the program target of 7 percent GDP in 2009. As revenue measures will take time to put in place and yield results, the governments adjustment program in 2009 will rely more on expenditure restraint, while ensuring vulnerable groups are protected.

We have already taken a number of measures to increase our revenue. We have introduced nation building tax and raised exercise taxes on liquor, cigarettes, and other consumer items. Moreover, we have issued directives to government institutions to maintain strict controls on budgets and justify all cost overruns. We have taken steps to limit the length and the scope of tax exemptions granted under the Board of Investment Act and the Inland Revenue Act.

Government policy is to ensure that state owned commercial enterprises are run efficiently. CBSL will continue to implement an effective monetory policy framework and will have a comprehensive strategy to strengthen the financial sector will also address gaps in supervisory framework.

Q: The once war torn Sri Lanka is now emerging as an investment option. It is strongly believed that the endorsement of the Sri Lankan authorities' policies by the IMF would boost investor confidence in Sri Lanka. How has been the response from the investors?

A: Now there are two reasons for investor confidence in this country. The war is over and especially north and east of the country is emerging as a potential source of profitable business opportunity. Even before the war was over, by April 2009, investors knew the war was at the last stage and the foreign investors who withdrew their investments were willing to invest in Sri Lanka again. With the approval of IMF loan, investor confidence has boosted significantly and Central Bank officials meeting with top 100 investors of the world recently in USA had been very satisfactory. Approval of IMF facility shows the excellent economic trust of the IMF upon the Sri Lankan Government policies .

These investments could be channelled for infrastructure development as well as for the post-conflict reconstruction and relief effort, thereby increasing country's production and job creation in the long run and lay the foundation for future economic growth and enhance macroeconomic stability.