Sri Lanka needs to make "urgent" progress on raising taxes, says the IMF
Sri Lanka needs to make "urgent" progress on raising taxes if it is to secure its fiscal future, the IMF mission chief to the country Jaewoo Lee said in an interview in Washington with the Business Times recently. "The urgency for implementing fiscal reforms has increased," he said adding that the essential need at present is strengthening the Sri Lankan economy by addressing external and fiscal structural weaknesses, as well as maintaining macroeconomic stability.
The IMF is to disburse the second tranche of its Extended Fund Facility (EFF) of US$ 170 million after the conclusion of the first review at the Board, in the coming weeks.
Mr. Lee is Deputy Division Chief of the Regional Studies Division in the IMF's Asia and Pacific Department. He has also worked in the IMF's Research Department, including on the IMF's exchange rate assessment.
Excerpts of the interview
On the IMF Extended Fund Facility and how it will help Sri Lanka:
The IMF's Extended Fund Facility (EFF) supports the government's economic reforms, which in turn aims at strengthening the Sri Lankan economy by addressing external and fiscal structural weaknesses, as well as maintaining macroeconomic stability. The authorities' ambitious reforms intend to put public finances on a sustainable footing by improving revenue potential to create space for its social and development spending programmes, which are essential for lifting Sri Lanka's growth and making it more inclusive.
This is the IMF's 15th programme arrangement with Sri Lanka. The IMF's own internal evaluation found that the previous programme (Stand-By Arrangement, agreed in 2009) was partly trying to address longterm structural vulnerabilities with shortterm stabilisation instruments. To this end, the EFF arrangement, with its strong focus on the government's structural reform agenda and intensive technical assistance for capacity building, is a better suited instrument for supporting the government's reform program. Given that structural reforms often take time to implement and bear fruit, the engagement under an EFF and its repayment period are longer than most Fund arrangements.
The authorities' reform programme, supported by the EFF, aims to provide a policy anchor for macroeconomic stability and structural reforms, while strengthening external resiliency in a challenging global environment. The programme rests on several pillars: The first is to promote revenue-based fiscal consolidation to lower Sri Lanka's high public deficit and debt. This is important to create space for the country's large social and developmental needs. To support this adjustment, there is a need to broaden the tax base and improve the efficiency of the tax system. The second pillar is to strengthen the management of public expenditure and reform state-owned enterprises in order to reduce fiscal risks and improve transparency. Finally, the programme aims to strengthen Sri Lanka's external position and resilience through buildup of international reserves and structural reforms to enhance competitiveness. The programme promotes transition to inflation targeting, which also envisages enhanced exchange rate flexibility.
To protect the poor and vulnerable is an integral part of the program. In Sri Lanka, the government's reforms aim at increasing available resources primarily through increasing tax revenues by broadening tax base, and also by improving expenditure management.
As additional background, Sri Lanka's current tax revenues are one of the lowest in the world, as a share of income. Past episodes of fiscal consolidation in Sri Lanka were mainly implemented through expenditure compression, as revenues consistently fell short of targets.
Breaking from the past, authorities now aim to implement a well-designed fiscal consolidation path based on increasing revenues, which will enable the government to devote more resources to health, education, infrastructure and social spending. Such expenditures will help ensure growth, a steady reduction in poverty, and continuous improvement in Sri Lanka's social development indicators.
EFF also supports Government's reform efforts in shifting the source of taxation from indirect to direct taxes. In this regard, ongoing work on redrafting the Inland Revenue Act is critical for implementing a more transparent, fair and even-handed taxation framework, which will better mobilise resources from people who are most able to pay.
On whether the EFF would add to Sri Lanka's debt and make the problem worse:
Sri Lanka's reform programme aims to strengthen the government finances and reduce the need for future borrowings, thereby contributing to the decline of debt relative to the size of the economy.
The IMF's advice on macroeconomic policies is anchored in the analysis of a country's capacity to finance its policy objectives and service the ensuing debt without unduly large adjustments. To this end, the IMF routinely conducts public and external debt sustainability analyses to better detect, prevent, and resolve potential crises.
On whether approval of the IMF EFF depend on financing from other sources:
Actually it works other way around. In many cases, IMF arrangements play a catalytic role in bringing in financing from other sources. In the case of Sri Lanka, it is expected to catalyse an additional $650 million in other multilateral and bilateral loans. It also helps to restore investor confidence in market access and sovereign borrowing.
IMF supported programmes reflect the specific needs of each country. In this respect, each programme is different as the authorities determine the specific objectives of the programme , and the IMF supports the authorities' reform program. In Sri Lanka, as mentioned earlier, the IMF aims at assisting the adjustment process under an Extended Fund Facility (EFF) when the government tackles structural weaknesses that require time to address. As an example, in the recent past, Bangladeshi authorities successfully implemented and completed Fund supported programme , which strengthened country's reserve position considerably and helped to advance important reforms in revenue mobilisation and debt management.
On whether the IMF loan would help promote good governance and increase transparency in Sri Lanka:
The IMF places great emphasis on promot- ing good governance and increasing transparency when providing policy advice, financial support, and technical assistance to its member countries. The EFF-supported programme for Sri Lanka focuses on the government's ongoing efforts to improve transparency and accountability by: including and publishing tax expenditure statements and non-commercial obligations of SOEs in the budget; strengthening public financial management through better commitment controls and automated systems (ITMIS), strengthening revenue administration through risk based audits and automated systems (RAMIS); agreeing and publishing statements of corporate intent for large SOEs to name a few.
We regularly hold meetings with civil society and private sector representatives to gather their views on the economy and reform priorities.
The IMF is open to engaging in discussions with various interested groups though our local office or during visiting missions. We believe that regular exchange of views will be mutually beneficial as the main purpose of the IMF is to support the people of Sri Lanka in their homegrown efforts to develop the economy and ensure stability.
An IMF staff team visited Colombo in mid-September to discuss progress on the Sri Lankan authorities' economic programme that is being supported by a three-year Extended Fund Facility (EFF). The team found that overall, macroeconomic performance in the first half of 2016 reflected a mix of improving balance of payments, reduced growth mainly related to recent floods, and slightly higher inflation. However, looking past the second-quarter weakness of due to floods, the economic momentum of Sri Lanka appears to remain robust.
In addition, the effective tightening of fiscal and monetary policies contributed to improving market confidence and easing pressures on external balances. The recent submission of the VAT bill to the Parliament was a step in the right direction. We believe that a well-crafted and high-quality tax policy strategy to raise Sri Lanka's low tax revenue-to-GDP ratio will further strengthen confidence going forward.