Boston, MA -- (SBWire) -- 10/04/2013 --Core Views
We have long cautioned that the political unassailability of the ruling United People's Freedom Alliance (UPFA) greatly increases the risk of government overreach. Recent developments, such as the highly controversial impeachment of the chief justice and the government's inaction on political reconciliation with the Tamil minority, have only bolstered our view.
More than two and a half years after the EU decided to withdraw preferential tariff benefits to Sri Lanka, it appears that the country's exporters are now beginning to feel the economic squeeze. The ruling government's inadequate progress on the human rights front suggests to us that these privileges are unlikely to be reinstated any time soon. The strategic space for Sino-Lanka ties to continue strengthening should remain wide, if not become even wider, due to the ongoing friction between Sri Lanka and India.
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In line with our expectations for the island to register renewed weakness through H113, Q113 GDP figures showed growth softening from the bounce witnessed in Q412. While we expect a sustained recovery from H213 onwards, with our full-year growth forecast at 6.4%, we believe that such an upturn is unlikely to be a forceful one. Economic tailwinds such as the loose monetary policy of the central bank, the secular downtrend in oil prices, and slowly improving developed world demand for the island's exports should see economic prospects improving from H213 onwards.
With headline price concerns rapidly coming off the table, we believe that the primary focus of the Central Bank of Sri Lanka's policies over the coming quarters will be fixed on economic growth. We are projecting 50 basis points (bps) worth of additional easing in H213, taking the reverse repo rate to 8.50% by end-2013.
Over the medium term, we firmly believe that the rupee weakness seen since June has largely come to an end, and that currency stability will be the order of the day.
The government's budgetary plans for 2013 showed its aim to narrow its fiscal deficit to 5.8% of GDP by end-2013. Overall, we believe that there is nothing revolutionary about how the government will conduct its business this year, and that the amount of fiscal consolidation will likely be minimal at best. The government's agenda for consolidation is starting to become increasingly difficult to sustain as revenues are proving much tougher to come by.
While the country's overall business environment remains mediocre from a pan-Asian perspective, we cannot ignore the rapid and dynamic changes taking place in its regulatory framework. This in turn should help to sustain the country's foreign direct investment boom.
Major Forecast Changes
We see the rupee ending the year close to where it is now at LKR132.00/US$.
We have marginally upgraded our 2013 current account forecast to -4.3% of GDP, from -4.6% previously.
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