The Central Bank said that the slow progress in economic liberalisation and other structural reforms has prevented the realisation of the full benefits available under the market oriented economic policy framework.

The Bank in its 2002 review said that the share of the public sector in economic activity increased sharply during the first decade, following the introduction of the new economic framework in 1977, as existing public enterprises expanded and new public enterprises were established. This was not compatible with the basic principle of private sector led growth envisaged under the new policy framework. Even though the removal of trade restrictions and the opening of sectors to private investment have been continued since 1977, the public sector still dominates a large number of major economic sectors, such as power and energy, transport, ports and aviation, water, telecommunications, financial services, education, health and trade. The continued operation of inefficient and loss making public enterprises has been one of the major causal factors for many economic problems faced by the country today. Their losses added to pressure on the fiscal deficit or increased public sector bank borrowings, exerting pressure on interest rates and crowding out private investment. Their inefficiency reduced growth in productivity in the economy and raised costs of production, exerting cost-push inflationary pressures. The adverse impact of continuing their functioning has been clearly shown up in the poor performance in infrastructure facilities, weakening the country’s external competitiveness and investor confidence. For example, the power sector has been in crisis for long, resulting in an inadequate and unreliable supply of electricity and the highest energy costs in the region. The present average cost of power per kWh in Sri Lanka is US cents 7.5, when compared to 5.8 cents in Malaysia, 5.3 cents in Singapore and 6.9 cents in Bangladesh. Furthermore, the risk in the availability of an adequate and reliable power supply has become one of the major concerns that stands in the way of building investor confidence about Sri Lanka. Similarly, weaknesses in the public transport sector have not only resulted in a heavy fiscal burden, but also, reduced productivity in almost all sectors in the economy because of delays, long travel time even over short distances and inconvenience to passengers. Similarly, public sector monopolies, although opened recently to the private sector, retarded the potential expansion in port and aviation services in the country, compared with achievements in some of the ports in the region. Efficiency in the ports and aviation sector is critical in overall economic development for a heavily trade dependent island economy.

On top of the above inefficiencies, economic reforms too have been very slow and inadequate in major input markets. Labour market flexibility, which is one of the preconditions for realising maximum benefits from a market oriented economic system, has been seriously limited by archaic labour laws and regulations. Their negative impact on labour intensive investments has adverse consequences on employment expansion. Similarly, delay and uncertainty in reforms have a serious negative impact on labour productivity and investor confidence. Large public sector holdings, delays in registration and transfer, and inefficiency in the land market have prevented the development of an efficient market and maximising land productivity. The continuing public sector involvement in agricultural seed markets and extension services has become a barrier to improve agricultural yields. The present yields of all major agricultural crops (i.e., paddy, tea, rubber, coconut) are significantly lower in Sri Lanka than in many other emerging economies. Delays in education reforms, particularly the opening of tertiary education to the private sector, and changing skills and vocational training facilities from a supply driven system to a demand driven system resulted in not only a mismatch in the labour market and high structural unemployment among educated youth, but have also led to social and political unrest in the country.

Delays in liberalising input and output markets prevented faster economic diversification, which is essential to strengthen the resilience of the economy. Continuing high dependence on hydro power, which is sensitive to the vagaries of the weather, and high concentration of exports in two products (garments and tea) and a few markets (USA and EU for garments and the Middle East for tea) resulted in the country being exposed and vulnerable to the fluctuations in terms of trade.

An efficient and dynamic public sector is critical for the effective functioning of a market economy. Slow progress in civil service reforms has resulted in a continuation of inefficiency in the public sector, retarding the realisation of benefits under the market oriented economic framework. Frequent complaints by private sector investors about public sector inefficiencies and delays in the implementation of policy changes and reforms clearly demonstrate the cost of delaying civil service reforms for accelerated economic growth. Furthermore, delays in judicial reforms and the deteriorating law and order situation in the country, which are essential for the successful functioning of a market economy, also adversely affected the realisation of full benefits from economic liberalisation in Sri Lanka.

Addressing these three major critical issues effectively is essential to accelerate economic growth. The continuation of the ongoing peace process aimed at finding a lasting political solution is necessary to remove the first barrier discussed above. The effective implementation of a comprehensive macroeconomic adjustment programme, particularly containing a medium-term sustainable fiscal strategy, will address the second issue. Finally, the acceleration of further liberalisation and other economic reforms will address effectively the third barrier mentioned above.

The required macroeconomic policy adjustments and structural reforms have been discussed extensively in previous issues of the Central Bank Annual Report, government policy documents (Vision 2020 and Regaining Sri Lanka:Vision and Strategy for Accelerated Development), special reports prepared by trade chambers and country papers prepared by international organisations. A summary of these adjustments is given below.

The most important macroeconomic policy adjustment is a continuous and sharp reduction in the fiscal deficit by rationalising current expenditure while maintaining adequate public capital expenditure and increasing revenue mobilisation to ensure medium-term fiscal sustainability. Major structural reforms necessary in the public sector to support these fiscal adjustments include the simplification of the tax system, expansion of the tax base, discontinuation of tax concessions, improvement in tax administration, introduction of cost recovery prices/charges for public services, reforming the civil service, introducing zero budgeting for public institutions at least in their current account wherever possible, improvement of procurement procedures, closing down redundant public institutions, consolidating remuneration for ministers and parliamentarians as a package, diversifying public debt instruments and improving public debt management. Similarly, a structural reform programme consisting of privatisation, commercialisation, introduction of automatic and transparent price adjustments in public enterprises, improvements in labour market flexibility and land market efficiency, application of performance based wage increases and increased private sector participation in economic activity including infrastructure and human resource development is necessary to revitalise public enterprises.

Financial sector reforms, consisting of legal reforms, commercialisation of public sector financial institutions, increased private sector participation in insurance and pension activities, and introducing competitive market regulations for capital and debt markets have been identified to strengthen financial sector stability, improve efficiency in domestic resource mobilisation and reduce intermediation costs. Meanwhile, ongoing reforms in the Central Bank have been envisaged to enable it to concentrate more on its primary objectives of economic and price stability, and financial system stability.

On the trade front, identified reforms consist of the implementation of a consistent tariff policy, rationalisation of non-tariff barriers (NTBs), simplification of government approval procedures, developing competitive markets for agricultural inputs and outputs, encouraging forward/futures markets for agricultural outputs to minimise seasonal price fluctuations, and developing independent regulatory systems.

Amendments to labour laws, expansion of performance based wage determination, rationalisation of public holidays and demand-driven skills development have been identified as necessary labour market reforms. The proposed land reforms consist of the development of an efficient land registration and transfer system and release of unutilised public sector lands. Similarly, relaxation of controls on the utilisation of the sea for fishing, recreation and transport is essential to harness fully the resources of the sea, one of the largest natural resources of the country.

In the health sector, restructuring the public health sector to concentrate more on preventive and primary health care and opening health training to the private sector are identified as major reforms. With the expansion of private sector health care services, it is essential to promote health insurance schemes to ensure the self-sustainability of the sector and its future growth. With regard to public sector health services, urgent action needs to be taken to address organisational and administrative weaknesses to minimise labour disputes that surface frequently, as they lead to great inconvenience to the public, losses in productivity and waste of scarce resources. Maintenance of a proper distribution of available limited resources and establishment of an appropriate referral system would help to reduce congestion in major hospitals.

Educational reforms, consisting of teacher training, appropriate teacher deployment, updating curricula to include new subjects such as computer and information technology, teaching major international languages, opening tertiary education to the private sector, and devolving management of schools to the local community are necessary to develop a competitive and skilled labour force and make Sri Lanka a regional service centre.

Sri Lanka’s public university system, which has failed to provide opportunities for all those who aspire to receive a university education, is severely constrained by a chronic shortage of funding, an ailment emanating from the wider budgetary difficulties of the country. The consequence has been disastrous: a gradual deterioration in the educational standards compelling prospective employers to suspect whether to hire the throughput of the university system; continuous agitations by both students and staff for better facilities and failure to attract and retain quality staff to maintain the educational standards. Valuable lessons could be learned by Sri Lanka in this regard from the experiences of the California State Public University System in the 1960s and the British University system in 1980s when there was a general cut in public funding due to similar budgetary constraints. The university systems in both cases, responded positively to the new problem by competitively restructuring their universities, as private companies would do in similar situations, by progressively reducing their reliance on public funding. Income sources were diversified, new income sources were identified and exploited, substantive ancillary products such as research output were developed and marketed and a competitive environment within the universities was created using entrepreneurial, rather than academic skills. Courses were rated and then rationalised on the basis of demand for same. It appears that university authorities in Sri Lanka are sitting idly on a vast resource base, which could be developed tor the betterment of the university system. Both students and staff must appreciate this need and work together towards saving the system as otherwise a critical stage would be reached when the entire system would face the threat of a general collapse. It is of utmost importance to infuse entrepreneurial skills into the running of public universities.