By H.W. Thisuri Jayathma –

H.W. Thisuri Jayathma

Positive Developments

In Sri Lanka, recent economic performance has improved faster than expected; in the short term, economic growth expanded by 5% in 2024, which is higher than the 4.4% projected in the October development updates. According to the Central Bank’s policy agenda, during 2024, the Sri Lankan economy achieved significant macroeconomic stability, and maintaining the stability of its financial system continued to receive support from the Extended Fund Facility arrangement with the International Monetary Fund (IMF-EFF). Support from the Government enabled the completion of its debt restructuring process successfully, except for a small portion, by the end of 2024, and normalised relations with creditors and external partners. Following this progress, the sovereign rating of the country was upgraded by leading rating agencies, and the country completely emerged from default status. On the other hand, inflation declined steadily, dropping significantly (to 4.2% by February 2025) and eventually reaching deflationary levels by the end of the year, while the Central Bank further reduced policy rates, easing credit conditions and stimulating demand. In the external sector continue to be positive movement in 2024. The Balance of Payments position to strengthen the surplus in the current account recorded a surplus in 2024 as well, it recorded of two consecutive years of surpluses in recent Sri Lanka’s history. As a result of that, the Sri Lankan rupee recorded an appreciation and demonstrated greater stability in 2024 as well, driven by net forex inflows and improved market sentiments. Tax-to-GDP ratio increased sharply from 9.9% (2023) to 12.4% (2024), driven by VAT and excise reforms. Due to prudent expenditure management, Primary expenditure increased from 10.6 to 11.5 per cent of GDP between 2023 and 2024e. Spending on salaries and pensions (due to arrears on gratuity being cleared) and welfare payments increased. While capital spending increases marginally, total spending decreases gradually under the execution of the capital budget. In a debt restructuring country, achieve significant improvement end of the year and the middle of the year. Under that Dept-to-GDP ratio Debt-to-GDP ratio dropped to 102.4% (from 111.7%). In a bilateral agreement are finalize to restructuring of USD$ 10 billion of official and Exim Bank of China was finalised, and the first of these was signed with the Japan International Cooperation Agency. In recent the government of French Republic agree to reschedule a debt stock of € 390 million till 2042, with a five-year grace period and a cap on original interest rates. Further, the Financial sector remains resilient and showed higher stability in 2024. Gradual decrease of the spillover effect of the economic crisis on the financial sector due to the increase of the Gross loans and receivables (credit) of the banking sector and reduction in the non-performing loan (NPL) ratio (Capital adequacy reached 18.5% and NPL declined slightly by 12.6%).

Area of Concern

Over the past few years, poverty and vulnerability have remained high. The poverty rate stands at 24.5% (2024), compared to 11.3% (2019). Although there was a slight decline in poverty this year, vulnerability has also increased. Malnutrition is on the rise, with rates of underweight and stunting increasing among children under five. Food prices have more than doubled between 2021 and 2024, prompting households to alter their diets, which has led to a reduction in the consumption of nutritious food and an increase in malnutrition among the population. Therefore, the government needs to pay greater attention to this issue. On the other hand, employment and real wages remain between 14% and 24%, while labour force participation has fallen to 47.8%. Outmigration of over 535,000 Sri Lankans for foreign employment between 2022 and 2023 has occurred, and during this period, both the number of passport applications and registrations with the Bureau of Foreign Employment have increased significantly, indicating a shift towards external job opportunities (ILO, 2023). Moreover, the rise in inactivity accounts for most of the decline in employment witnessed during the crisis, resulting in a decrease in labour force participation rates for both men and women. Finally, in the fiscal sector, the trade deficit widened by 23.9% in 2024 because imports rose faster than exports. Risks from global uncertainties, trade disruptions, and limited capital inflows have heightened external vulnerabilities, so the country needs to pay more attention to increasing exports and diversifying products to gain greater benefits from trade.

Policy Recommendations

According to the Sri Lankan Development Update, it suggests various key areas for development in the country to achieve sustainable recovery from the economic crisis. These include trade liberalisation, managing state-owned enterprises, improving the investment climate, and enhancing digital tax administration as part of structural reforms. When considering pro-poor growth, job creation in the industry and service sectors, along with revitalising small enterprise growth, represents more effective and efficient approaches. On the other hand, avoiding regressive taxation while balancing fiscal consolidation with social protection is essential for improving fiscal discipline and equity. Finally, strengthening human capital is a crucial factor in achieving all these recommendations. Therefore, the country addresses malnutrition and ensures sustainable public sector capacity amid brain drain.

* Ms. H.W. Thisuri Jayathma is an Intern (Research)at the Institute of National Security Studies (INSS), the premier think tank on National Security established and functioning under the Ministry of Defence. The opinion expressed are her own and not necessarily reflective of the institute or the Ministry of Defence.