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Containing the widening trade deficit a challenge
There has been little concern about the massive trade deficit that is likely this year as it is not likely to lead to a balance of payments problem. Indications are that the balance of payments would be in surplus despite a trade deficit of anywhere between US$ 6 to 8 million. This was so last year too when the trade deficit reached a record figure of US $ 5.2 million, but the balance of payments recorded a surplus of US $ 921 million. The trade deficit was offset by remittances from abroad, earnings from tourism and capital inflows.

This is expected to be so this year too even though the trade gap is expected to be wider than that of last year, The root cause of the large trade deficit is the expenditure on imports that are larger than the country’s export earnings. Export earnings on the other hand have shown a substantial increase. The fact that the trade deficit has been more than offset by these capital inflows is not a good reason to be unconcerned with the widening trade gap. How could the trade gap be reduced?

Export Increase
The bright side of the trade picture is that there have been significant gains in exports. This is quite clear on the basis of the trade statistics for the first four months of the year. Exports performed well in the first four months of this year and increased by 50.3 per cent to US dollars 3,467 million. This is no mean achievement when considering the export pessimism that developed after the withdrawal of the GSP plus concession. The Export Development Board expects exports to exceed US$ 1 billion. This is quite likely as exports in the first four months have already reached, 3.47 million US Dollars. Even more significant that this figure is the fact that there has been a resurgence in the country’s industrial exports that have increased by nearly 60 percent compared to those of the first four months of last year.

The largest contribution to the growth in export earnings came from industrial exports. This augurs well for the country’s industrial development and its contribution to economic growth, income generation and employment. The higher exports of textile and garments in recent months are indeed one of the most impressive achievements. Garments exports increased by 64 percent in the four month period. It appears that the country’s main export has regained its competitiveness in international markets. The restructuring of the industry and global developments that have rendered Sri Lanka’s garments more competitive, and domestic developments that have rendered our suppliers as more reliable to purchasers may account for this.
Earnings from exports of rubber products have also shown a growth. Export earnings from rubber products in the form of solid tyres and rubber gloves continued to increase thereby increasing domestic value addition to the country’s natural rubber that is now mostly consumed locally by industrial production. Agricultural export earnings increased by26 percent reflecting healthy growth in all major agricultural exports. The average export prices of tea and rubber continued to remain high at US dollars 4.76 per kg and US dollars 5.14 per kg, respectively.

The Achilles heal in the trade account has been imports whose increase has outpaced export growth. All major categories of imports increased substantially in the first four months of this year. Expenditure on imports of consumer goods increased by 42 per cent with the growth in imports of motor vehicles being especially large. Import expenditure on food and beverages increased by 11 percent in the first four months, but the increase in April was much larger at 27.7 per cent due to both higher import volumes and higher prices of food imports. Expenditure on imports of intermediate goods increased by 44 percent with expenditure on textile imports increasing by 64 percent and expenditure on petroleum imports increasing by 20 per cent. Expenditure on imports of investment goods increased by 58 percent due to higher imports of transport equipment.

Critical Issue
The critical issue is how could the country rein in import expenditure more in line with the country’s export earnings? In the case of investment goods they are determinants of industrial development and their increase could be considered a favourable development. This is only partially so with respect to the increase in intermediate goods. Imports of textiles, fertilizer and other raw materials for industrial production are useful contributors for the country’s economic production and exports. On the other hand, there are imports such as petroleum, though classified as intermediate goods are consumer items that do not necessarily contribute to production.

Although petroleum imports are an essential item for industrial production, electricity generation and transport, some part of it is consumer expenditure. The need to bring down expenditure on oil imports in the context of the country’s trade situation cannot be over stressed. Further oil prices are a significant proportion of import expenditure and subject to sharp fluctuations in prices.
When oil prices increase the country’s import expenditure increases and the trade deficit widens. In the first four months of this year, petroleum imports increased by 20 percent compared to that of the same period last year and cost US $ 1237. The expenditure on oil imports is determined by the quantity imported and international prices. Some of the increase has been due to international price increases over which the country has no control.
However the large expenditure on oil necessitates a degree of conservation in its use, especially for transport and electricity generation. The development of alternate forms of energy and reduction in consumer use must be attempted. In other words, while the country would remain highly dependent on oil imports, there should be policies that reduce petroleum consumption.
Consumer items are important in determining import expenditure. Although food imports constitute only about 10 percent of import expenditure, there are possibilities of reducing this expenditure by domestic production of key items like sugar, milk and fruits. Much of such import substitution has occurred in the case of rice, where the country is more or less self sufficient in the staple. Yet increased production of rice could enable a further substitution of rice for imported wheat.

While there has been significant progress in the production of milk, the performance in sugar is disappointing. In a situation where due to climate changes, there is every prospect of shortfalls in global agricultural production and consequent sharp rises in food import prices, it is prudent for the country to increase agricultural productivity and increase production of both food crops and export crops.
The availability of land in the Eastern and Northern provinces should enable new cultivation of food and cash crops that either reduce imports or increase agricultural export earnings. In the first four months food imports increased by 11 percent and cost US $ 730 million. Not all of this could be saved but a decrease of 20 percent in the food import bill could save around US $ 450 million that is substantial.

However the huge increase in consumer expenditure was in non-food consumer items. In the first four months of this year such imports increased by 114 percent over that of the same period and cost the country US$ 604 million, somewhat less that food imports though and about one half the cost of oil imports. One can expect motor vehicle imports that increased substantially to taper down with the pent up demand satisfied.
The question is whether we needed to have reduced motor import duties and consumer durable tariffs so drastically. There is a need to contain imports of consumer durables and luxury items by higher tariffs both as a measure to reduce import expenditure and revenue measure.

Although the high import bill leads to a widening trade gap, it is of less concern as the large amount of remittances, tourist earnings and capital inflows ensure that the deficit is offset and there is a balance of payments surplus. It behoves an economy that borrows heavily and has a large foreign debt to reduce its trade deficit and increase the balance of payments surplus to reduce its foreign debt and foreign borrowing. There has been significant progress in export performance but the increase in imports is of current concern.