Sri Lanka drives 2007 export growth



By Research Intelligence Unit


Many in the international arena are expecting 2007 to be a tight year for the Sri Lanka economy with an unresolved conflict that is stifling the tourist sector, budget deficits, double-digit inflation and currency depreciation amidst the prospect of further oil price shocks. The Economist for instance forecasts lower growth in 2007 for the island. In its forecast for the year ahead, it says that whilst some development, particularly in infrastructure projects will take place, the people living in the conflict affected areas are expected to have to endure further misery and hardship.

However, global developments are becoming increasingly difficult to forecast and most forecasts for 2006 were proved to be off the mark. In a climate of uncertainty what hopes and prospects lie in wait for the island economy’s top export sectors in 2007?

Cautious Optimism

The island’s Central Bank expects a ten percent export growth in 2007, led by top revenue earners like apparel and other industrial exports, as well as agricultural commodities like tea and rubber. But growth is closely tied to changes this year in global trade, emergence of Asia as an economic power, competition from regional neighbors, and an economic slowdown in Sri Lanka’s top export market the United States.

Sri Lanka exports nearly two billion dollars worth of goods to the US each year, largely ready made apparel supplied to top buyers and retailers. But Sri Lankan exports to the US could face twin problems this year. A leading trends researcher has predicted that the United States will slide into a "systemic recession" influenced by high consumer debt and low incomes in 2007. "The paycheck-to-paycheck public will feel the pinch in their pocketbooks and businesses will be hit hard in their bottom lines long before recession becomes 'official,'" the quarterly Trends Journal forecasted. The U.S. middle class will generally "sink deeper into a financial hole," even as most people, particularly in the service economy, work longer at their jobs, while the rich will continue amassing wealth, the Trends Research Institute said. In addition, Sri Lanka has also begun feeling the pinch of regional giants China and India that benefit from raw material bases in house and cheaper costs, supplying markets like the United States and Europe at rock bottom prices.

Nearly half of Sri Lanka’s export earnings come from the 2.7 billion dollar garment sector, with the island, though expensive, making a name for itself for its top quality manufacture, design capabilities, fast turnaround and strong labour standards. But largely Chinese competition has seen apparel exports to the US drop one percent in the first nine months of last year to 1.6 billion dollars, a trend that is likely to continue into 2007. Vietnam, another competitor, will also join the World Trade Organization and thereby joining the ranks of global free trade, leaving Sri Lanka with a bigger fight on its hands, according to Lanka Business Online. With Vietnam joining the WTO, trade restrictions between it and other countries are eased. But Sri Lanka can count on trade restrictions, at least in the short term however, with the US congress throwing out legislation in November that would have normalized trade relations with Vietnam (LBO). The apparel sector is hoping to have clocked in three billion dollar growth in 2006, hoping to reach the 3-7 percent growth this year as well.

Sri Lanka is counting on strong growth into Europe this year to shore up losses on exports to the US, with deeper trade concessions into Europe expected in 2007. Sri Lanka is the only South Asian nation to win duty free access for over 7000 products, including apparel, into Europe for its strong labour standards. The concessions came however with tough rules of origin criteria that specifies the extent of local value addition needed at high 50 percent levels. That is to be relaxed further this year, allowing more Sri Lankan exports to benefit from the tax breaks into Europe. “Exports are projected to grow strongly by around 10 per cent in 2007 benefiting from better terms of the rules of origin criteria in the GSP+ scheme offered by the EU, expansion of the bilateral trade as a result of increased tariff reductions under free trade agreements with both India and Pakistan and continuing global economic growth,” the island’s central bank said in a review of the economy.

South Asian Boom

The global economy is expected to grow 4.7 percent this year, an easing off from the five percent of 2006. Strong performers in Asia like China, India and Singapore are expected to exceed global growth targets, possibly generating a healthy external demand for Sri Lanka’s goods and services. South Asia has performed impressively in the past two years, reaching over eight percent growth last year according to the Asian Development Bank and has a growing class of higher spending consumers, providing Sri Lanka with immense trade opportunities. Sri Lanka can leverage on the strong regional performance, on the back of free trade deals it already has with India and Pakistan. India is Sri Lanka’s third largest trading partner, but Sri Lanka’s exports are still concentrated in a few, still contentious areas like vegetable oil or vanaspati, spices like pepper and copper. The two sides have agreed to try and expand trade between them and expand the basket of goods being exported. Sri Lanka already has zero duty access for all goods to India other than those on a negative list and a 67 percent tariff reduction on Sri Lankan exports to Pakistan. Further tariff liberalization to Paskistan is expected over the next few years. India and Sri Lanka are also trying to liberalise service sectors such as finance, tourism and possibly some professional services under a new economic partnership agreement this year.

Sri Lanka’s industrial sector benefited from healthy external demand in 2006, with capacity expansion in some industries as well as development of a new industrial park at Thulhiriya likely to pay dividends this year. The output in factory industries is expected to grow 7.1 percent in 2007 due to expansion of output in both Board of Investment and non-BOI industries.

Agricultural exports are expected to improve this year with production of the famed Ceylon tea projected to grow by around 2.2 percent to 322 million kilos in 2007. As the Colombo Auction opened for business in 2007, the market prices witnessed signs of a return to normality following the somewhat freaky price variations that were experienced at close of 2006, driven by supply shortfalls.

Earlier calculations by sector analysts on the impact on plantation companies of the new wage deal inked with estate workers may seem to have over-estimated the negative impact. With the new wage fixed at 260 rupees for the next two years, some estimates had indicated a cost hike of 23 per cent for plantation companies that are primarily active in tea cultivation. Even so investor sentiments appear to have kept the faith. Between December 20 and January 2, 2007, nine of the 17 Plantation stocks monitored by MBS Research have gained healthily, with some posting double-digit percentage gains. Seven were marginally down with one remaining unchanged in value.

Rubber, that enjoyed soaring prices last year is likely to keep the momentum, with output projected to increase by 5.5 percent to about 115 million kilos in 2007, supported by high international prices. Coconut production is projected to go up by 8.3 per cent to around 3,000 million nuts in 2007, due to the favourable weather conditions of last year.

Meanwhile, in the currency market, BMR reports the Sri Lankan rupee holding at 107.55 against the US dollar, marginally stronger week-on-week due to the higher inflow of remittances during the festive season. Internationally the Euro has continued to strengthen against the US dollar, reaching US$ 1.3238 as at January 2. The US dollar’s inverse relationship with gold also continued with the latter hitting a four-week high of $637.8 per ounce throughout Asia.

Copyrights Reserved (RIU 2007). Prepared exclusively for the Business Standard