The Sri Lankan
economy is likely to face multiple headwinds over the near term arising from a
volatile agricultural sector, a poor consumer outlook, as well as rising risks
of a balance of payments crisis.
However, the
industrial sector is likely to recover over the coming quarters on the back of
a more stable political climate. As such, we forecast Sri Lanka's economy to
grow at 4.8% in 2016, marking a stabilisation of growth from 2015.
The Sri Lankan
government will have to agree to austerity measures imposed by the IMF in order
to secure a USD1.5bn bailout as the country faces risks of a balance of
payments crisis. Under the conditions of the bailout, the government will
likely have to reduce its budget deficit to 5.4% of GDP by end-2016. In
addition, the CBSL will be forced to raise interest rates and devalue the
currency in order to build a foreign reserves buffer. However, we believe that
the government will face difficulty in making short-term adjustments to its
budget due to political gridlock and high interest costs.
The election of
President Maithripala Sirisena in January 2015 and the UNP's victory in the
August general election have been positive for socio-political and economic
reforms in Sri Lanka. However, we note that the loose coalition arrangement
(which is made up of two parties from opposite ends of the political spectrum)
is highly susceptible to political gridlock, and will be a risk to the
policymaking process in the country. At the same time, there is also a
possibility that the Joint Opposition could gain traction due to defections
from the Unity Government. Accordingly, we have dialled back the Short-Tem
Political Risk Index Score to 71.5, from 72.3 previously.
Major Forecast
Changes
The rupee will
likely face further downside pressure over the coming months due to persistent
capital outflows and the requirement to build up a foreign reserves buffer
under the IMF's guidance. This informs our expectation for the unit to weaken
to LKR155.00/USD by end-2016, versus our previous forecast of LKR152.00/USD.
Nevertheless, the currency will likely stabilise and average LKR156.10/ USD in
2017 as investor confidence gradually recovers.
The Central Bank of
Sri Lanka (CBSL) will likely adopt a more aggressive monetary tightening stance
in order to slow credit and money supply growth. In addition, higher interest
rates are also necessary for the CBSL to build up a foreign reserves buffer (in
line with IMF demands). As such, we expect the central bank to hike its
benchmark deposit and lending facility rates by 50 basis points to 7.00% and
8.50%, respectively, in H216.
For more information Visit at: http://mrr.cm/JWA
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