The Sri Lankan economy grew by 2.3% YoY in 2019, coming in 0.2pp below our forecast of 2.5% for the year. 4Q growth was at 2.0% YoY owing to a slowdown in the services sector amidst the presidential elections. Meanwhile, the industries sector picked up as a result of improved growth momentum in manufacturing and construction. The agri sector showed signs of an impact from adverse weather conditions experienced in most parts of the island, as growth declined by 0.7% YoY during the quarter. Looking ahead, While the government has taken several proactive steps to curtail the economic impact of COVID-19 through fiscal and monetary policies, we expect a significant negative impact on growth in 2020. We expect the industries sector to be the worst hit as a result of 1) external supply and demand disruptions combined with 2) an internal slowdown as a result of lockdown measures. While we expect overall consumer demand to gradually pick up by June 2020, the services sector would feel the impact stemming from lower tourism. Given that the government has taken a number of measures to help the continuation of agri activities, we expect this to recover the fastest. Our base case calculations indicate a ~4.0% - 4.5% YoY decline in growth for 2020.
Our analysis directs towards a high probability of a recession in 2020
Amidst this backdrop, our view is that: 1) the Agri sector will see demand constraints in the near-term but, will resume productivity at a faster pace than Industries and Services, owing to local demand pickup in the medium-term. There will be bursts of high demand, but this would likely normalise in 2H 2020, 2) In Industrials and Services, March and April will see the highest impact stemming from supply side, demand side and domestic headwinds. We expect to see a gradual pickup from 3Q onwards, 3) External demand slowdown and negative multiplier effect from low tourism will go on till 4Q 2020, as most of Sri Lanka’s trading partners (the US, UK and Europe) and source markets for tourism are still grappling with containing the virus and 4) Higher government spending and injected liquidity will help money supply in the near-term, but not sufficient to fully mitigate the overall negative impact.
As such, our base case analysis indicates a ~4.0% - 4.5% YoY GDP contraction for 2020.