Macro Analysis /
Sri Lanka

Sri Lanka: Macro Roundup - July 2022

  • Political uncertainty eases as Wickramasinghe takes reigns

  • Short term Government securities curve remains inverted

  • Primary data indicated a slowdown in June; easing fuel shortage a key factor

Asia Securities
29 July 2022
Published byAsia Securities

July saw the appointment of a new President following the resignation of Gotabaya Rajapaksa. While President Wickramasinghe has indicated his intentions of forming an all-party government, we note that majority of key posts remain with the Rajapaksa led SLPP. The key positive at this point is continued refinancing discussions with bilateral partners and the IMF given that the Finance Ministry portfolio continues to be under the new President. Economic activity saw a decline during the month, with continued shortages impacting activities. Following a pause in IMF discussions owing to heightened political uncertainty, we note that discussions are ongoing, and we expect a Staff Level Agreement to materialise in August; a key step towards securing fiscal funding to ease the current pressure. At this point, we maintain our 2022 GDP expectations of a 7.5% - 9.0% YoY contraction. We expect a sharp contraction in 2Q and 3Q 2022. Meanwhile inflationary pressure continued, with headline inflation reaching 54.6% YoY in June. We note that funding from an IMF EFF program is likely to take place towards December 2022/January 2023. We emphasise that a strong reform plan and a stronger political backdrop is key to mitigating the economic impact.

Political uncertainty eases as Wickramasinghe takes reigns

One of the largest protests in Sri Lanka was seen in early July following months of public calls for the President Rajapaksa’s resignation. A parliamentary vote saw PM Wickramasinghe winning the 3-way race to complete the remaining term until the 2024/25 Presidential elections. The key positive at this point is continued discussions with the IMF and key lending partners which President Wickramasinghe had initiated during his time as Prime minister. In comparison, a possible coalition government may have led to prolonged delays in decision making due to varied policy directions.

Short term Government securities curve remains inverted

The surge in demand for government securities seen over the past few months continued to taper down to some extent in July. This comes amidst a sharp increase in yields seen over the past weeks as investors factored in a possible local debt restructure. While we note that this remains a “last resort” for the Central Bank, with the IMF echoing that the total debt remains “unsustainable” indicates that proactive measures would need to be taken to bring the overall debt levels down. In our view, the Government’s first plan is likely to be SoE reforms, thereby easing pressure on the government balance sheet. Against this backdrop, 1-year Government bond yields increased to 29.82% at the latest auction (23.84% earlier). The yield curve remains inverted, with the 3-month bill yields at 31.50%.

Primary data indicated a slowdown in July; easing fuel shortage a key factor

Following a marginal improvement in June, footfall around retail stores and workplaces declined sharply into negative territory in July due to 1) the prolonged fuel shortage and its consequent disruptions to the public transport system, and 2) the emergency law imposed to control unrest in the lead up to the change of the political leadership during the month. Looking ahead, with the National Fuel Pass System now being rolled out, we expect mobility levels, especially movement around retail stores and workplaces, to improve gradually.