Sri Lanka can expect an economic boom by ending the conflict with a defense budget of Rs. 177 billion estimated for 2009 but the opportunity may be lost if the war is prolonged beyond 2009, an economist warned last week.

Dr. Ranjith Bandara, MBS Coordinator of the University of Colombo, said the defense expenditure is essential in order to stabilize the country’s future.

"But, this expenditure should not continue beyond 2009. Expected possible gains will not only be lost if the war is prolonged; there will also be a devastating effect on the economy," Dr. Bandara, said.

"If terrorism can be eliminated by, or controlled, by the end of 2009, the positive ripple effect will see Sri Lanka to an economic boom. In fact, it is hoped that (much of what remains) from the Rs. 177.06 defense budget, if the war ends soon, can be diverted to development and capital expenditure," he said, addressing a seminar on the global credit crisis organised by the Merchant Bank of Sri Lanka PLC (MBSL) of which Dr. Bandara is a Director.

He said that Sri Lanka was insulated against the global economic downturn relative to other economies due to its low exposure to financial markets of the developed world.

However, he says that Sri Lanka can not escape unharmed for long if the global crisis continues.

"Unless the global financial crisis further deepens, there is no danger for Sri Lanka. I think that being a small country has benefitted us.

"The impact (on the economy) will vary according to each sector. For example, there will be fewer tourists from Europe and this will affect the already troubled sector.

"Raising interest rates and inflationary pressure, the US dollar appreciating at the expense of the rupee, coupled with a war budget and high public sector expenditure will make things difficult for Sri Lanka," Dr. Bandara said.

However, he went on to say that Sri Lanka’s small exposure to global financial institutions, particularly the US, and the increased emphasis to developing the rural local economy of the country will cushion the impact of the global financial crisis to a certain degree.

"The current reduction of oil prices would comfort our foreign reserves, however, the people are yet to realise the benefits of reduced oil prices," he said.

While the country’s biggest exporter, the apparel sector, is bracing itself for reduced demand from the US and EU in 2009. Dr. Bandara was optimistic.

"They cannot produce their own clothing, and since clothing is an essential item these markets will still demand on Sri Lanka," he said.

Several commodities have seen prices fall as a result of the global financial crisis, but the Chief Dealer of Commercial Bank, Prins Perera, said that commodity prices are expected to increase.

"Prices cannot continue to decrease indefinitely, and sooner or later prices will increase again so importers can use this opportunity to build their stock reserves," Perera said.

He also said that present conditions presented an opportunity for importers to hedge their exposures.

Wheat, Sugar, Corn, Soybeans are some of the food items that have seen depressed world prices and are expected to increase.

Aluminium, copper, nickel, zinc, tin, lead, gold and oil are some of the other commodities that may experience a price revival in the future.

Quoting the Central Bank, Perera’s presentation to the seminar says that the pressure on the rupee to depreciate may ease from the early days of this month because of seven month credit line for oil from Iran along with increases in foreign remittances.

The Central Bank announced last week that it will be more flexible in allowing the rupee to depreciate against the dollar so that exports can remain to be competitive.

However, analysts say this decision was taken to relax pressures on Sri Lanka’s depleting reserves after the Central Bank sold dollars to keep the rupee stable at 107/108.

The Central Bank meanwhile, imposed a 100 percent margin on letters of credit on the total invoice on imports of about 40 selected items so as to ease the pressure on the rupee from depreciating.