5 Years On

Sri Lankas Post-War Hub Ambitions: Can Hambantota Learn from Penang?

A First Look at the Potential for Expanding Trade under a Sri Lanka China FTA

Implications of Modis victory for Indo-Sri Lanka relations

page 18 page 04 page 35

A PublicAtion by the institute of Policy studies of sri lAnkA

january to june 2014

DIGEST

Post-war EConomy:

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EditorialEXECUTIVE DIRECTOR

Saman Kelegama, DPhil (Oxon)

DEPUTY DIRECTOR

Dushni Weerakoon, PhD (Manchester)

TALKING ECONOMICS TEAM

Anushka Wijesinha, EditorCharmaine Wijesinghe, Manager Publications and EventsSavani Jayasooriya, Communications Officer

DESIGN+LAYOUT

Thilini Perera, Consultant Designer

CONTRIBUTING AUTHORS

Nisha Arunatilake

Samanthi Bandara

G.D. Dayaratne

Deshal de Mel (Guest)

Raveen Ekanayake

Dilani Hirimuthugodage

Priyanka Jayawardena

Suwendrani Jayaratne

Rajiv Kumar (Guest)

Sunimalee Maduruwala

Nipuni Perera

Chatura Rodrigo

Madushi Seneviratne

Athula Senaratne

Dushni Weerakoon

Janaka Wijayasiri

KanchanaWickremasinghe

Anushka Wijesinha

Institute of Policy Studies of Sri Lanka

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In May 2009, Sri Lanka made significant progress towards long-term peace and stability with the decisive end to a thirty-year armed separatist conflict.Five years on, the economy is in an exciting new era, but a sense of cautious optimism prevails.

The first few post-war years also coincided with the fallout of the global recession. This meant that while the economic recovery with the end of years of destruction was a fillip to growth, the unfavourable climate for exports held growth back. In 2009 the country was struggling with a precarious balance of payments position, pressure on the rupee, and crumbling exports. Five years on, the economy is in a distinctly different position. Exports are recovering, infrastructure is improving, and investors are looking at the country favourably once more. But tensions with parts of the international community, questions over human rights and governance, and uninspiring performance on foreign direct investment, continue to be areas of concern for policymakers, private firms, and people, alike.

As Sri Lanka entered into the second half of the countrys first post-war decade in May this year, this edition of the Talking Economics Digest chose to take a closer look at the challenges for post-war Sri Lanka in a special series titled Post-war Economy: 5 Years On. It features a number of articles and interviews across different dimensions of the post-war era, including the synopsis of an incisive roundtable discussion with four of the countrys leading economic voices two reputed economists, and two private sector leaders.

This edition also contains a number of special articles and interviews on youth, education and employment, developed to coincide with the World Conference on Youth 2014, for which IPS was a key knowledge partner.

As with previous editions, this edition too contains an array of insightful articles across the spectrum of socio-economic issues- in environment, we debate whether Sri Lankas hydro-power potential is drained out or has more to offer; in enterprise, we look at what lessons Korea can give us in growing the SME sector and also how entrepreneurship can boost female labour force participation; in trade, we analyzethe opportunities for trade under a proposed Sri Lanka-China free trade deal; in agriculture, we review the merits and demerits of the proposed new Seed Act; in employment, we argue for better provisions to deal with the rise of precarious work; and in health, we call for a more balanced and holistic alcohol policy. Meanwhile, in a guest article in this edition, a leading Indian intellectual sets out his perspective on what Prime Minister Modis election means for Sri Lanka.

At the heart of this edition, though, is the vision for a holistic framework to take Sri Lanka into the next five post-war years. As many of the expert opinions featured in this edition acknowledge, there is much to do to ensure that the countrys post-war dividend is harnessed to its full extent, and harnessed by not just the few. The research community has an important role to play in continually flagging the numerous policy challenges that must be tackled boldly and without delay. Sri Lanka has much work to do. But at least now these can be done in a climate unencumbered by war. Copyright and Disclaimer

All material published in the Talking Economics Digest are the copyright of the Institute of Policy Studies of Sri Lanka (IPS), unless otherwise speci fied. It cannot be quoted without due acknowl edgement to the IPS and the author. It cannot be reproduced in whole or in part, without the written permission of the IPS. The content, com ments and posts of the Talking Economics Digest and the IPS blog represent the views of individual authors and do not necessarily represent the views of the IPS.

Five Years On

AnushkA WijesinhA Editor Talking Economics (Research Economist, IPS) anushka@ips.lk The Institute of Policy Studies of Sri Lanka (IPS) is an autonomous institution that aims to promote policy-oriented economic research and

to strengthen the capacity for medium-term policy analysis in Sri Lanka. Its mission is to contribute to the socio-economic development of the country through informed, independent and high quality research that seeks to influence the policy process. With over two decades of substantial research expertise, IPS has emerged as a regional centre of excellence and the most influential think tank in Sri Lanka.

Research . Inform . Impact

c o n t e n t s4/ a First LOOk at the POtentiaL FOr exPanding trade under a sri Lanka China Fta

6/ the Credit diLemma: mOnetarY and FinanCiaL sYstem stabiLitY in sri Lanka

8/ sri Lanka needs a new FramewOrk FOr PreCariOus wOrkers

10/ Can sri Lanka Learn FrOm the kOrean sme PrOmOtiOn strategY?

12/ dOes sri Lanka need a new seed aCt?

14/POst-war eCOnOmY: 5 yEArS on

28/ adaPting sri Lankas COasts and OCean resOurCes tO a Changing CLimate

30/ drained Out Or new POtentiaL?: hYdrO POwer and sri Lankas energY ChaLLenge

33/FOrest attraCtiOn: Can sri Lanka use eCOtOurism FOr sustainabLe FOrest management

35/ imPLiCatiOns OF mOdis ViCtOrY FOr indO-sri Lanka reLatiOns

37/ wCY 2014: a reCaP OF iPs knOwLedge COntributiOns tO the YOuth agenda

39/ sri Lanka must be readY FOr a POst-demOgraPhiC diVidend era - new rePOrt bY iPs and unFPa

40/ COmPrehensiVe POLiCY Changes needed tO heLP sri Lanka reaLise its YOuth POtentiaL

42/ sri Lanka needs a mOre baLanCed and hOListiC aLCOhOL POLiCY

44/ the urgent need FOr e-waste management in sri Lanka

46/ risks and rights FOr COnsumers in the digitaL age

48/ the unseen imPaCt OF us taPering OF QuantitatiVe easing On the sri Lankan eCOnOmY

50/ COnFLiCts amOng sri Lankas heaLth wOrkers are hurting Patients Care

52/ what wOmen dO and what wOmen Can dO: entrePreneurshiP and gender eQuaLitY in sri Lanka

53/ CustOms FOr seCuring and FaCiLitating Legitimate trade in sri Lanka

56/ iPs news

59/ Fast FaCts

AUGUST 2014 august 20148

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28 35

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mainly consist of machinery and electrical goods, which account for 34% of total imports from China (Figure 3). Textiles are the second largest import item from China accounting for 27% of total imports.

What is the Trade Potential between Sri Lanka and China? There appears to be potential for Sri Lanka to expand trade with China given the sheer size of the Chinese economy and its share of world trade. In 2012, China imported US$ 1,818 bn from the world (accounting for 10% of world imports) and exported US$ 2,048 bn (11% of world exports).

A cursory look at the revealed comparative advantage (RCA) indices of Sri Lanka and China tells us that there is potential for bilateral trade given that the two economies have comparative advantages in different export sectors. A RCA index above 1 indicates that a countrys share of exports in that sector exceeds the global export share of the same sector, in which case it can be inferred that the country has a comparative advantage in that sector. When looking at trade patterns between Sri Lanka and China, it appears that Sri Lanka enjoys comparative advantage in the following sectors: 1) animal and animal products, 2) vegetable products, 3) food stuffs, 4) plastics/rubbers, 5) textiles and 6) stone glass while China enjoys comparative advantage in 1) raw hides, skins, leather, furs, 2) footwear, 3) metals and machinery, 6) electrical equipment and 7) textiles, as shown in Based on a preliminary analysis of RCAs, it appears that Sri Lanka and China have comparative advantage in quite dissimilar sectors which suggests that there are complementarities between the two countries to stimulate bilateral trade. Moreover, some of these sectors face high tariff rates in China and as such they are likely to benefit from tariff concessions negotiated under a FTA. The only exception is textiles, which both countries have a comparative advantage.

Some Issues to ConsiderTariff concessions alone may not be sufficient in expanding trade between the two countries. The actual capacity of Sri Lankan exporters to cater to the Chinese market, as well as non-tariff measures (NTMs), may constrain traders from fully utilizing the agreement. This is clear from Sri Lankas experience with existing free trade agreements with India and Pakistan1. Also, China has already signed FTAs with 8 other countries, with 6 more under negotiation2 which means that that other countries producing similar goods to Sri Lanka may already have preferential or duty free access to the Chinese market. In this context, it is imperative that trade negotiations not only cover products in which Sri Lanka has a comparative advantage but also that the concessions awarded by China should be higher or at least equal to the reduction in tariffs granted to other countries. In negotiating a trade agreement with China, some of these issues need to be taken into account to ensure that Sri Lanka and China can benefit mutually under a FTA.

The Institute of Policy Studies of Sri Lanka (IPS) has embarked on a study of the opportunities and challenges of a FTA with China, from a Sri Lanka perspective. The findings from the study, which will be available by mid this year, aims to stimulate an informed discussion and influence policy outcomes.

(Endnotes)1 Compiled from ITC Trade Map database http://www.trademap.org/2 The special administrative regions of Hong Kong and Macau are excluded in the

analysis throughout this article as an FTA with China is likely to only include mainland

China 3 Refer Challenges remain for ChinaSri Lanka FTA http://www.eastasiaforum.

org/2014/03/28/challenges-remain-for-china-sri-lanka-fta/ 4 http://fta.mofcom.gov.cn/english/index.shtml

two countries has increased steadily over the years; almost doubling between 2008 and 2012 from US$ 1.5bn to US$ 2.7bn1. China is now Sri Lankas second largest trading partner2 as well as the second largest source of imports (after India). In 2012, China accounted for 14% of the total imports of Sri Lanka but is less prominent as an export market for Sri Lanka. It ranked as the 16th largest export destination and accounted for only 1.2% of total exports from Sri Lanka in 2012. Nevertheless, the importance of China as an export destination seems to be on the rise given that exports to China have been growing vigorously over the years, recording an annual growth of 27% per year during 2008-2012. This was higher than the growth in Sri Lankas exports to the world (6%) during the same period.

Meanwhile, imports from China have grown at a faster rate (29%), resulting in an expanding trade deficit (Figure 1) which by 2012, stood at US$2.4bn. In view of the widening trade imbalance, the move to sign a bilateral trade agreement is timely. What is Sri Lanka Currently Trading with China? Reflecting Sri Lankas export structure, the export basket to China is dominated by textiles (41%) (Figure 2). Plastics/rubber, vegetable products and mineral products account for around 13% each. These four sectors together accounted for 81% of Sri Lankas total exports to China in 2012. These sectors no doubt stand to benefit from greater market access under a FTA with China. Sri Lankas imports from China

A First Look at the Potential for Expanding Trade under a Sri Lanka China FTABy Nipuni Perera and Janaka Wijayasiri

Sri Lanka and China have embarked on a joint feasibility study of a Free Trade Agreement (FTA) and an agreement is expected to be sealed by the end of the year according to a number of reports in the media recently. However, there has been little analysis or discussion about the potential for trade expansion under a Sri Lanka-China FTA beyond general statements on how it would potentially boost bilateral trade. In this context, this blog delves into trade data to examine Sri Lankas trade patterns with China in recent years, and identifies some sectors which could stand to benefit from a negotiated trade agreement. Emergence of China as a Major Economic Partner While historical and cultural relations between Sri Lanka and China go back to many centuries, modern day economic and political ties were established with the signing of the historic Sino-Lanka Rubber-Rice Pact in 1952 and establishment of formal diplomatic relations in 1957. Over the past 55 years, bilateral economic cooperation has expanded under very cordial relations established between the two countries. More recently, economic relations have been elevated to a higher level with China emerging as Sri Lankas largest aid donor as well as an important source of investment.

According to trade statistics, bilateral trade has also seen a notable expansion. Total trade between the

Description Sri Lanka China

Animal and Animal Products 1.2 0.41

Vegetable products 6.32 0.27

Foodstuffs 1.16 0.44

Mineral Products 0.3 0.12

Fuels 0.02 0.1

Chemicals & Allied Industries 0.17 0.53

Plastics/Rubbers 2.51 0.85

Raw Hides, Skins, Leather, & Furs 0.32 2.4

Wood & Wood Products 0.75 0.71

Textiles 10.87 2.96

Footwear / Headgear 0.52 3.73

Stone / Glass 1.2 0.94

Metals 0.1 1.03

Machinery/Electrical 0.16 1.74

Transport 0.25 0.55

Miscellaneous 0.21 1.15

Table 1: Revealed Comparative Advantage (RCA) Index for Sri Lanka and China

Source: Compiled from WITS database

Figure 1: Key Trends in China-Sri Lanka Trade Relations

Source: Estimated based on ITC Trade map

US$ Million

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faced liquidity problems in 2009. In spite of this, the sector continued to grow, with eight Specialized Leasing Companies (SLCs) elevated to Licensed Finance Companies and six new licenses issued to LFCs post-2009, bringing the total NBFIs to 58 (48 LFCs and 10 SLCs) by 2013.

On the heels of yet another NBFI facing liquidity problems in 2013, the CBSL announced a proposed financial sector consolidation plan. Whilst it undoubtedly has long term objectives, the immediate concern is primarily to minimize systemic risks posed by deposit taking institutions deemed to be at some risk. The immediate consolidation process aims to bring down the numbers of NBFIs from 58 to 20. These have been divided into three categories of A (19 NBFIs), B (38 NFBIs), and C (1 NBFIs). Category B NBFIs are to merge with local banks or Category A NBFIs, or merge among themselves so that they fulfill conditions of Category A NBFIs, the most important being an asset base of over Rs. 8 billion.

Whilst financial sector consolidation is in the right direction, obligatory mergers and acquisitions may not be the most efficient way to set about it. In the long term, efficient financial intermediation to support economic growth and stability comes from prudent monetary and exchange rate policy management, and regulatory oversight. The Sri Lankan economy has been subject to stop-go policy cycles since 2008 an acutely unsettling phenomenon for private sector investors. A moderate inflationary environment alone will not induce greater investor appetite. Investors and financial institutions must be also offered a measure of policy consistency and stability, be it in setting exchange rate policy, interest rates or other regulatory requirements.

February 2014 marked five consecutive years of single-digit rates of inflation in Sri Lanka supposedly the longest spell in the countrys post-independence history. Quite rightly, the Central Bank of Sri Lanka (CBSL) can take its share of credit for this success, especially in view of historic high and volatile inflation rates of the past. Indeed, the scale of monetary stability becomes clear when considering the fact that inflation rates hit a peak of 22.6 per cent in only 2008 before settling to single digit levels from February 2009.

Despite five years of a moderate inflationary environment and higher average economic growth during that period, private investment trends have been modest. The monetary authorities are struggling to revive credit appetite in spite of signaling the end of a tight monetary policy stance way back in December 2012. Credit growth to the private sector was extremely sluggish at 7.5 per cent in 2013. It has continued in the same vein so far in 2014, recording a growth of only 4.4 per cent year-on-year in February.

The private sector thus seems to be rather indifferent to the successful slaying of Sri Lankas inflation bogey, and inducements to borrow for investment. The latter has been pushed through an aggressive easing of monetary policy: a 25 basis point reduction in policy rates in December 2012, followed by a further rate reduction of 50 basis points in May 2013;slashing the Statutory Reserve Requirement (SRR) of Licensed Commercial Banks (LCBs) by 2 percentage points from 8 per cent to 6 per cent in June 2013; requiring all LCBs to reduce penal rates of interest charged on all loans and advances including credit facilities already granted to a level not exceeding 2 per cent per annum, whilst finance and leasing companies were requested to reduce the penal rate of interest to 3 per cent per annum from August 2013; and a further policy rate cut of 50 basis points in October 2013.

import tariff reductions and adopting a flexible exchange rate policy in February 2012.

The latest round of monetary policy easing comes in the wake of a doubling of credit growth to the private sector between 2009 and 2012. It is perhaps not surprising that the credit overload of the past is still to work its way through the economy, deterring fresh uptake by the private sector. Such excesses constrict not only investors, but also the financial sector as well.

Credit booms have been fuelled by consumption (Figure 2). In 2010-12, the take-off in pawning-related consumption lending that suffered subsequent to a drop in gold prices added to the distress. With a slower rate of economic output post-2012, the combined impact has been to expose the banking sector to rising NPLs just as the ratio stabilized after the last credit bout. The gross NPL ratio for banks climbed sharply to 5.6 per cent in 2013 while that for the non-bank finance institutions (NBFIs) rose to 6.7 per cent.

Another casualty of the recent credit booms has been the NBFIs. The environment of cheap credit during 2007-08 proved a trigger point for the collapse of a number of financial institutions. A total of eight NBFIs

By Dushni Weerakoon

Lending rates that remained fairly sluggish in the first half of 2013 owing to high government borrowing have adjusted. The Average Weighted Prime Lending Rate (AWPR) fell from 14.4 per cent in February 2013 to 9.4 per cent in February 2014.

The reasons for the overdue credit pick-up are perhaps partly explained by Sri Lankas growth pattern of recent years. Much of the higher growth is coming from non-tradable services sectors and industry sectors such as construction and utilities. Many of these also have large state involvement. Booming sectors where businesses can plug-in investments is more limited than the overall high GDP growth numbers would suggest. Not surprising then that in times of credit growth, much of it goes into consumption and related sectors.

A second explanation lies in past over-kill in pushing credit up-take by the private sector. Sri Lanka found itself grappling with a more complex monetary and exchange rate policy setting post-2007 in the face of high domestic demand financed by external debt. As capital flows in, if monetary authorities choose to intervene in the foreign exchange market to hold the currency from appreciating, it leads to an expansion in the monetary base and the potential for greater liquidity in the economy and excessive credit growth.

There was excessive credit growth in 2007-08, alongside rising inflationary pressure. The monetary policy response was slow, allowing real interest rates to be negative over time, fuelling a culture of cheap credit (Figure 1). Credit growth to the private sector peaked at over 25 per cent in mid-2007, with significant growth in consumption and housing related loans, before being brought under control by year end. Despite high inflation and a sharply deteriorating current account, intervention to maintain stability in the exchange rate saw Sri Lanka teetering on the edge of a balance of payments crisis, averted after an agreement with the IMF in 2009. The reckoning came in the form of lower growth and a weakened private sector appetite for credit.

From mid-2010, Sri Lanka once again began to push for private sector credit growth. Policy rate adjustments, abandoned in favour of reserve money as the primary operating target for monetary policy in 2007, got underway from mid-2009. The banking sector, yet to fully recover from the excesses of the preceding credit boom that saw gross non-performing loans (NPL) ratios rise to 8.5 per cent in 2009 were subject to moral suasion to speed up lending to the private sector. Credit growth to the private sector accelerated from mid-2010 even as policy rates remained unchanged throughout 2011 fuelling an import surge and precipitating the imposition of a mandatory ceiling on commercial bank credit growth. Sri Lanka once again tried to hold the currency steady against a sharply deteriorating current account and was compelled to change direction by reversing

2006 2007 2008 2009 2010 2011 2012 2013

25

20

15

10

5

Repo AWPR CCPI

Private Sector Credit

2006 2007 2008 2009 2010 2011 2012 2013

3000

2500

2000

1000

1500

500

Credit growthCredit

Figure 1: Monetary Sector Indicators

Source: CBSL, Annual Report, various years.

Trad

ing

Cons

umpti

on

Hou

sing

Indu

stri

al

Pers

onal

loan

s

Agr

icul

tura

l

Serv

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Indu

stry

Agr

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ture

&

Fish

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2006 - 2008 2010- 2012

Share of Credit Extended

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10

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35

40%

Banks

NBFIs

Gross NPL Ratio

3

22007 2008 2009 2010 2011 2012 2013

4

5

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8

9

10%

Figure 2: Financial Sector Indicators

Source: CBSL, Annual Report, various years.

The Credit Dilemma: Monetary and Financial System Stability in Sri Lanka

Inflation and interest rates

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As the global economic crisis put various pressures on employment, it is not only the loss of jobs, but also the rise of temporary forms of employment that have become more prevalent in both developed and developing countries. In response to economic insecurity and market instability, the increase of jobs of a precarious nature is receiving more attention. Despite the pressures of the global downturn, Sri Lanka managed to reduce unemployment rates to as low as 4% by 2012. However, the country has simultaneously seen an increase in the incidence of precarious work in recent years, and now more than half of all employees are temporary or casual workers. This raises serious concerns on the status of decent work in Sri Lanka.

What is precarious work?Precarious work is part of a global business strategy - a practice adopted by employers to shift risks and responsibilities onto workers. Precarious workers are those who perform duties and tasks of permanent employees but are not protected with the rights of permanent employees. These workers are employed on temporary contracts for varying durations. Another form of precarious work is a disguised or ambiguous employment relationship a lack of clarity on the identity of the employer. For example, firms

Sri Lanka needS a new Framework For PrecariouS workerSMore than half of all eMployees now are teMporary workers

hire workers for their core business activities through agencies, often through subcontractors, franchisers and manpower agencies. These workers are hired by an agency or subcontractor but perform their duties for a separate company. It is a precarious work arrangement because it is often unclear as to who is responsible and accountable for workers rights and benefits.

Why should we worry about precarious workers? Temporary contracts usually undermine the benefits accrued to employees - a lack of access to social protection and benefits, legal and practical obstacles to joining a trade union and bargaining collectively, and susceptibility to hazardous working conditions. These workers are highly insecure as they know they are easily replaceable. The International Labour Organization (ILO) recognized this spread of precarious work as a worldwide corporate attack on the right to organize and bargain collectively, by shifting to subcontracting and individual contracts, attacking sectoral and national bargaining, and evading employer responsibilities by complicating what should in fact be a direct employment relationship with their workers.

recent trends in precarious work Sri Lanka is seeing an increasing prevalence of temporary/casual employees. In 2012, out of total public sector and private sector employees (4.6 million), 2.5 million, or 54% were precarious workers temporary/casual workers or workers without a permanent employer. Moreover, temporary and casual workers have increased at a faster pace than permanent employees over the 2006-2012 period (see Table 1). By 2012, 16% of all employees did not have permanent employer.

By Priyanka Jayawardena

The increase in private sector employment in recent years has mainly been in temporary and casual jobs. To increase enterprise profitability and to circumvent rigid labour laws, Sri Lankan firms have been keeping their permanent workforce to a minimum while increasing temporary or casual workers. LFS data reveals that 92% of temporary and casual workers are attached to private sector. Between 2006 and 2012, temporary and casual workers in the private sector increased by 21% while permanent employees increased only by 5%. This reflects the fact that in recent years the private sector has created more precarious jobs than permanent ones.. From an employers perspective, the reasons behind this include high labour turnover, catering for seasonal demand, the cost of regular labour, and also nature of service (outsourcing for call centers, janitorial and security staff of work places.

Figure 1: Private sector job expansion has been mainly in temporary and casual work

rise of agency-hired workers in EPZsAlthough data limitations prevent an accurate estimation of the extent of agency-hired workers (through manpower agencies), it is a well known practice in Sri Lanka, particularly in the countrys Export Processing Zones (EPZs). Formal manpower agencies supply workers for EPZ firms for their core business on temporary or even without written contracts, leaving them very vulnerable to precarious work arrangements. There are arrangements for daily hiring of workers where manpower brokers hang around the EPZs and supply workers for firms to meet their daily labour requirements. Some firms form their own manpower agencies from which they can hire workers at a cheaper rate, with diluted worker rights. However, depending on hired workers does have negative implications for firms as well. For

instance, problems with irresponsible workers, inexperience workers, and problems associated with longr-term human resource gaps.

Transforming precarious work to decent workOne way of transforming precarious work to decent work is by paying more attention to creating more and better jobs. This can be done through introducing tighter labour standards under company/business registration related to restrictions on temporary hiring for core business activities. Meanwhile, firms must strive to limit the use temporary and agency-hired workers to legitimate instances only, for instance, in meeting seasonal demand of firms and to provide supplementary services (security, janitorial, etc.). Firms should also not be allowed to increase temporary or agency-hired workers above a reasonable threshold.

Another way of transforming precarious work to decent work is by better regulation of precarious work in order to safeguard workers rights. As agency workers are not protected by most labour laws, it is important to devise a regulatory mechanism that better protects their rights addressing issues of stability, equality of employment conditions, social protection, etc. As a first step, the issuance of letter of employment to all temporary employees should be made compulsory for the firms. Also, mandatory employee insurance is recommended for all hired workers to cover all workplace-related accidents. Meanwhile, a far-reaching awareness campaign on the rights of agency-hired workers will help in protecting their rights as both firms and workers will have more information and avenues for legal redress.. Further, rigorous monitoring of EPF/ETF registration, and frequent labour inspections, will help with the transformation.

Much of this cannot be achieved without better regulation of manpower agencies At the very least, all the manpower agencies should be registered under the Department of Labour.

In the past 5-6 years alone, the number of precarious workers those not covered by labour laws and susceptible to their rights being violated, rose by over 300,000 in Sri Lanka. These workers are in a highly disadvantaged position. They often earn lower wages regardless of their experience and education and suffer job insecurity due to uncertainty on whether their contract will be extended or faceunjustified termination of employment. Better regulation, and a reformulation of the policy framework, is urgently needed to tackle this, in order to secure the best interests of workers, while also recognizing the evolving labour needs of Sri Lankan firms.

This article is based on the policy brief titled Precarious Work in Sri Lanka : The Need for a New Policy Framework contained in the forthcoming Sri Lanka: State of the Economy 2014, the IPS flagship annual publication.

2006 2012

Permanent 46.2 45.7

Temporary/casual 36.1 38.3

No permanent employer 17.7 16.0

Total 100.0 100.0

Table 1: Permanency Status of Employee (%)

Source: Authors calculations based on Labour Force Survey data for 2006 and 2012

2012

2006

500 1000Thousands

1500 2000

temporary/casual permanant

Source : Authors calculations based on LFS 2006, 2012 data.

10 11

linkages between SMEs and large enterprises, enhancing SMEs technical capabilities, and stimulating SME start-ups and new venture businesses.

Having reviewed the experience of Korea with respect to the above, the paper argued that Sri Lanka cannot (and probably should not aim to) follow Koreas example with regard to the first pillar -protection - but should certainly draw from the second - promotion. The reasons for not drawing from the protection pillar are many. SME-mandated institutions in Sri Lanka are too scattered and ill equipped to effectively identify SME-specific markets and monitor their reservation for SMEs. Undertaking such measures without strong and capable experts could prove disastrous. Moreover, Sri Lankas present industrial context is not the same as Koreas when it first began and so would be inappropriate to emulate. As Korea later recognized as well (following liberalization and deregulation in the early 1990s), such protection policies do have negative consequences (inefficiency, over investment in less-than-profitable activities, etc.) and could lead to skewing of the competitive landscape of the economy.

Yet some of the promotion measures, for instance, in access to finance and expanding markets, could hold valuable lessons.

Access to Finance: Credit Guarantee Fund As widely acknowledged in Sri Lanka, access to finance is a significant and persistent challenge in the SME sector, despite successive rounds of concessional loan schemes by the government as well as aid donors. In that context, Sri Lanka could learn from the array of strong and comprehensive measures adopted by Korea on boosting SME lending. One such example is the Korea Credit Guarantee Fund (KCGF), now Korea Credit (KODIT). There is an urgent need for Sri Lanka to establish a similar national institution a SME Credit Guarantee Fund (SCGF). The institution ought to be separate from the Central Bank of Sri Lanka and function independently. Capital (funding) for it can come in part from the government and in part from private commercial banks. For instance, in the KODIT case, all banks pay in an annual 0.225% of total outstanding loans into the fund (0.5% in early years). The SCGF ought to have multiple regional branches to cater to SMEs where they are located and in line with the government vision of developing lagging regions. Like in KODIT, qualified graduates ideally from a business administration or management background, working as analysts, must staff it. The SCGF can provide between 75 90% of loan coverage for an SME seeking a loan facility, which is offered following a credit rating exercise done by it (possibly using credit information from the Credit Information Bureau that already exists in Sri Lanka). Under the Knowledge Sharing Partnership, there could be a government-to-government capacity building effort to help Sri Lanka establish an SCGF, learning from KODIT. The impact of KODIT is impressive; as I learnt during an in-depth discussion I had with a Deputy Director there, Mr. Jong-goo Lee. He observed that, In 1975, around 35% of all loans in the Korean banking system were to SMEs, but by 2013 it was 77%. The credit guarantee scheme contributed a lot to this.

Market Access: Public Procurement and Linkages with Larger Firms Sri Lanka may not be able to do all the access to market expansion measures that Korea undertook as many of them bordered on heavy protection and regulation. However, certain elements could be adopted; for instance, the promotion of public procurement from SMEs. Government agencies can be directed to increase the amount of procurement made from SMEs, track this and report on progress to the Ministry of Finance and Planning. They could also be required to demonstrate annual incremental increases in this.

Another measure could be to encourage inter-enterprise cooperation and sub-contracting. Similar to the legislative measures adopted in Korea like the Small and Medium Enterprises Sub-Contracting Promotion Act and the Inter-Enterprise Cooperation Promotion Act, larger enterprises could be given incentives for incorporating domestic SMEs more in their supply chains. The incentives could either be direct for instance, tax concessions based on some formula of the value of inputs procured from SMEs, or indirect national recognition scheme (awards, etc.) for large enterprises that demonstrate the best supply chain linkages with SMEs.

Can Sri Lanka Learn from the korean sMe proMotion strategy?

By Anushka Wijesinha

KOREA IS NO STRANGER TO ECONOMIC HARDSHIP,

RECOVERY, AND PROGRESS. The Korean War during

1950-53 took 1.5 million lives and destroyed close to 40%

of the countrys industrial facilities. Yet, it overcame this

turbulent history to become a developed country in less

than a generation an achievement fondly referred to

as The Miracle on the Han River. As it joins the ranks of

donor countries, a key part of Koreas growing international

cooperation is in the form of knowledge sharing essentially

sharing the Korean success story and its policy lessons. Last

week, a team of experts from Korea, who had been tasked

with developing recommendations on five policy areas for

Sri Lanka, submitted their final report to the Sri Lankan

authorities. Their work was conducted under the Knowledge

Sharing Program of the Korea Development Institutes (KDI)

School of Public Policy and Management, and looked at SMEs,

food processing industry, technical, vocational education

and training (TVET), FDI, and techno-entrepreneurship. I was

particularly interested when I read the news of this visit as I

just completed a Visiting Fellowship at the KDI where my key

research area was on industrial policy in Korea, with a special

focus on SMEs. In the final research paper, I put forward some

thoughts on aspects of the Korean SME development that

may hold lessons for Sri Lanka. This article highlights some of

those ideas for further debate.

Koreas Post-War Industrialization With a combination of strong state leadership, policies based on expert advice, and a strategic approach to economic development, Korea quickly emerged as an industrial powerhouse. In this transformation, SMEs were certainly not the headline story. It was the chaebols; the large private conglomerates that led the countrys Heavy and Chemical Industries (HCI) drive like Hyundai, Samsung, Daewoo, and LG. But the SME sector was indeed a key part of this story. The growth of these large firms paved the way for the development of SMEs, as they required a wide range of parts and intermediate goods in their manufacturing. It is at this stage that government policy support for SMEs began. The first, and groundbreaking, step was the introduction of the Basic Small Business Act as far back as 1966. Since then Korea has introduced over 15 legislative measures and policy initiatives to support SME development during various stages of its industrialization.

Koreas SME Effort: Protection and Promotion Some of the key features of state support for SMEs in Korea revolved around two pillars protection and promotion. As extensively reviewed in the paper, Korea adopted many policies to restrict and reserve certain sectors for SMEs exclusively in order to enhance market access for SMEs. Concurrently, it adopted several promotional measures in various aspects improving SME financing, encouraging

Big conglomerates like samsung were at

the heart of koreas industrialization drive,

But smes played a key role in enhancing their supply

capacity. (image By anushka

wijesinha, seoul, 2013)

Strengthening Apex Institutions Implementing the host of SME support measures in Korea was possible because of the strong institutional mechanisms behind it. Sri Lanka, too, needs strong, capable national institutions to implement and/or oversee SME support and promotion policies. Currently, the SME-mandated state institutions are scattered, measures are often taken on an ad-hoc basis. Sri Lanka can look at institutions like the Small and Medium Business Administration (SMBA) and Small Business Corporation (SBC) of Korea learn from how they are staffed, what functions they carry out, and how they give leadership to the SME agenda. While the National Enterprise Development Authority (NEDA) was originally envisioned as the apex SME body to cater to these needs (established under a recommendation of the SME White Paper that IPS gave leadership to) the current status of NEDA leaves much to be desired. The paper detailed a set of seven aspects for NEDA to strengthen, learning from Koreas SMBA and SBC. Two specific points there relate to information and analysis for effective and data-driven SME policy development and implementation. Without good data on the SME sector any new initiatives will be ill informed, would waste public money, and fail to fully cater to enterprise needs.

Does Korea Hold Lessons for Sri Lanka? In short, the answer is yes. Some may argue that Koreas SMEs have often taken second place, behind the powerful chaebols. However, I would argue that without the active promotion of SMEs in Korea, the chaebols couldnt have risen in the way they did. Of course, more recently this has caused an over-dependence of SMEs on them. No doubt there are many outstanding issues with the Korean SME sector at present. In fact, Sri Lanka can learn not only from Koreas successful SME policies but also from the ones that were less successful also. Yet, what is clear (and as shown in the paper) is that policy approaches to SME development in Korea have and continue to be genuine in their intent, strong in their conceptualization, extensive in their reach, coherent and focused in their implementation, and consistent over time. These are no doubt valuable lessons for Sri Lanka as it continues to grapple with the challenge of SME development.

(In 2013 Anushka Wijesinha completed an Asia Development Fellowship where he was based at the KDI in Seoul. )

Talking Economics

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Over seven hundred onion farmers in the Dambulla area suffered losses due to substandard seeds bought from a private company in the area. Farmers in the area stated that they had to depend on this imported Indian variety. According to the existing laws, farmers who are affected are not able to get any compensation from companies or from the government. They had to bear the entire loss which was estimated around 25 Million.

This report was just one of many recent news items from across Sri Lanka about substandard seeds being distributed to farmers. Who is responsible for reining this in? Can farmers get their money back from seed dealers? Why do farmers have to depend on imported seed varieties? What is the government doing to tackle it? These are some of the questions being raised by farmer societies, seed companies and policy makers. This article analyses the existing seed protection system in Sri Lanka, and discusses the changes that are being proposed under a new Seed Act.

what seeds are Produced in sri Lanka?Before delving into the regulatory aspects of seed production, its useful to explore the nature of seed production in the country. There are three major generations in rice seed production: breeder seeds, basic seeds and certified seeds. Breeder seeds are produced by the Department of Agriculture (DoA) at their Rice Research Development Institutes (RRDI). It is then multiplied at DoA farms to produce basic seeds. These basic seeds are then distributed to the public and private sector to produce certified, quality-assured rice seeds. Currently, it is the government and farmers who are mainly involved in producing rice seeds in Sri Lanka. According to the Department of Agriculture, there are nearly 800 farmers who are engaged in this. The majority of farmers had been contract seed growers of the Department of Agriculture (DoA) in the past

and so they possess the technical know-how to produce quality seeds, and are recognized as good seed producers at the village level. Meanwhile, for potatoes, the majority of the seeds are imported. While nearly 86 hectares are registered for potato seed production in the country, only 81% of that is accepted as quality seed production area. And nearly, 640 MT of seed potato were certified in the year 2012. Vegetable seed production, too, is at a very minimal level. Breeder and foundation seeds are produced by the government, and then multiplied by the private sector. Hybrid vegetable varieties are imported by the private sector. In 2012, the total vegetable seed imports were 3,398 MT, and local vegetable seed production was around 43 MT. In 2012, over 2,300 permits were issued for seed imports, of which 30% were for vegetable seeds, and for plant and planting materials imports.

seed Production and reguLation Until the late 1980s, seed production in Sri Lanka was handled solely by the government. Since 1984, the private sector started to import seeds, and subsequently (in the 1990s) got into seed production. With more private sector involvement in seed production, the government introduced the National Seed Policy in 1996 to ensure high quality of the seeds. Its main objective was to establish viable seed enterprises for local farmers, and help them access high quality seeds and planting materials. Yet, this was not entirely successful and problems with regard to seed quality began to emerge. So in 2003, the government enacted the Seed Act No 22 of 2003, to regulate the quality of seed and planting materials, and to safeguard farmers as well as the seed handler from malpractices that would harm the seed industry of the country. Although it was passed in 2003, the Act came into practice only in 2008. By now, around 1,926 seed handlers have been registered under this Act, and a National Seed Council has also been established.The main responsible institutions in seed

production are the Ministry of Agriculture and the DoA. Two institutions in the DoA, in particular, are responsible for seed production, marketing, and distribution in the country - the Seed Certification and Plant Protection Centre (SCPPC) and the Seed and Planting Material Development Centre (SPMDC). The main objective of the SCPCC is to promote seed industry development and assure the quality of seeds and planting materials.The SPMDC performs regulatory functions pertaining to assuring the quality of seeds and planting materials available to farmers. The SPMDC is also responsible in implementing the Seed Act.

the ProPosed new act Moves are underway to introduce a new Seed Act, and several debates are going on about its merits and demerits. There are some critical gaps in the current legislation that can be tackled under a new one.

Firstly, under the current system, there is no compensation system for farmers who are victims of substandard seeds. Farmers who buy seeds from unregistered dealers face issues like lower yields and lower productivity, and sometimes even unexpected outcomes like the crop turning out to be of a totally different variety to what was planted. Farmers themselves have to bear the costs of this fallout. As Sri Lanka continues to depend on imported seed varieties, especially for hybrid vegetables, the risk of farmers falling into this trap is higher. It is essential that a robust compensation system for farmers is provided for.

Secondly, the existing Act, implement ten years ago, does not take into account changes that have taken place in Sri Lankas agricultural sector. With the introduction of new technology in agriculture, new developments like the introduction of genetically modified seeds have occurred. Therefore, the existing Act needs to be changed to address new issues that emerge from this.

Thirdly, the National Seeds Council needs further strengthening and the proposed bill seeks to do that. There will be a Seed and Planting Material Technical Advisory Committee, consisting of the Director General of Agriculture, experts in the field, dealers in seed and planting materials, and other stakeholders.

Fourthly, the existing legislature has not given due consideration to the important area of traditional crop varieties. There is no legal framework at present to protect traditional agricultural crop varieties and plant genetic resources. The proposed new Act states that Rules and guidelines to confirm the identity of traditional agricultural crop varieties and of crop varieties important to agriculture maintained by the farmers shall be prepared by the varietal release committee and they shall be published by the Director-General, and the task of protecting plant genetic resources will be given to the Plant Genetic Resource Center (PGRC) of the DoA.

Finally, given that there are several institutes involved in this area of seeds and planting material, coordination has been problematic. The new Act has proposed the appointment of a Registrar responsible for supervising, coordinating and assisting in implementation of the Act.

criticisms and concernsAmong the criticisms of the proposed Act is that it will restrict farmers from exchanging seeds with fellow farmers at the village level, due to tighter rules on certification of seed handlers. This concern stems from a clause in the proposed Act which states that all seed and planting material handlers have to be registered and need to obtain a certificate. However, this concern is misplaced, as it has since been made clear that the rule will only apply for commercial activities. Another area of concern has been the section on offences and penalty which states that any person who is found guilty of violating the terms of the proposed Act will be fined a minimum of Rs. 50,000 and imprisoned for six months. Former government officials familiar with this area, as well as farmers, are concerned about this high minimum fine, and the lack of mention of any upper limit on the fine. This has to be made much clearer. The proposed Act also empowers the Director General of Agriculture, the Registrar, Assistant Registrars, and other authorized officers to inspect and monitor the premises of seed and planting material handlers, obtain relevant information, reports anddocuments, samples of seed and planting material

as and when necessary. To avoid any lack of transparency in the case of disputes, it would be best to have an independent monitoring body or at least a credible appeals system.

is a new seed act needed? Yes. A revisit of the existing legislation is timely, as it is clear that the gaps in the current laws will be addressed with a new Act. Presently, only 20-25% of seed and planting material used in the country comes from registered producers; the rest is from unregistered sources. This is hardly a desirable scenario. Meanwhile, much of the seed supply to Sri Lanka is imported and the private sector plays a major role in seed supply. It is important to have a proper system where only registered producers can supply seeds, to ensure the quality of the seeds and also to guarantee high productivity and yields. This in turn will ensure that farmers are not left in the lurch due to substandard seeds. The proposed legislation has the potential to achieve this and more, by creating a win-win situation for both farmers and seed suppliers.

Note: The proposed Bill is currently being finalized at the Legal Draftsmens office. It will then be forwarded to a Cabinet Sub-Committee, before being drafted as an Act to be debated in Parliament.

DoES SRI LAnkA nEED A nEw SEED AcT? By Dilani Hirimuthugodage

TO MARK INTERNATIONAL DAY FOR BIODIVERSITY (22ND MAY)

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Post-war EConomy:

5 Years On

As Sri Lanka marks the first 5 years since the end of the armed conflict in May 2009, the IPS launches a special series of posts on our blog Post-War Economy: 5 Years On. In this first of the series, we feature an interview with Dr. Saman Kelegama, IPS Executive Director, who shares his perspectives on how the country has fared since the end of the war, and what challenges are in store for the next 5 years.

Kelegama reviews the rapid post-war development in several areas of the economy, with particular reference to the accelerated completion of infrastructure projects. The post-war period facilitated the quick completion of these projects, he noted. War-affected provinces are now making strong contributions to the national economy, and he pointed to the example of the Eastern

Under normal circumstances, Sri Lanka would have joined the ranks of many countries across the world gripped by economic uncertainty in the wake of the worst global economic crisis in 60 years to be forecast for 2009. For Sri Lanka, however, 2009 will represent a remarkable turnaround in the political arena and possibly in the economic sphere as well

Those were the opening lines of the Sri Lanka: State of the Economy (SOE) 2009 report, released just months after the 18th May 2009

IN CONVERSATION wITH

Saman Kelegama

PoST-WAr EConomy: 5 Years On

[Scan to watch full interview]

Province that is now the largest paddy-producing region of the country. Yet, he observes that Sri Lanka was faced with an adverse global economic climate, despite the opportunity that opened up with the end of the war. He reminded us that, when the war ended it coincided with the global recession starting and making an adverse impact on all developing countries including Sri Lanka.

When asked whether Sri Lanka has fully reaped the post-war dividend, he asserted that, No, we have not fully harnessed that opportunity there is a very large unfinished agenda. He pointed to a few key aspects. First, Sri Lanka has not been successful at attracting FDI. Compared to Vietnams 4% of GDP, our FDI has been fluctuating between 1 to 2% of GDP, he observed. On reasons for this, he argued, is that the country has not been giving the right signals to foreign investors. We have to give predictable and consistent signals without policy backtracking. He cited instances like the private sector pension bill, the bill to permit private participation in higher education, the Act to acquire private enterprises, etc., giving mixed signals. Second, Sri Lankas export performance remain weak, and the export share of overall GDP is low. Third, Sri Lankas relationships with Western countries have seriously faltered. He remarked that, We have not been able to fully convince the Western countries who are still our major export markets that the post-war reconciliation and development is on the correct path. That is why we lost GSP Plus in 2010. There is a lot more to be done on reconciliation and also our dialogue and discussions with the Western countries. Dr. Kelegama also discussed the countrys weakening tax revenue position, as a critical area to tackle in the next five years, and recalls the reform proposals made by the Presidential Commission on Taxation. He also cautions against depending heavily on foreign borrowings to finance the savings-investment gap This borrowing is not sustainable, he said.

During the course of the interview, his comments cover the gamut of Sri Lankas development trajectory since May 2009, including infrastructure, foreign investment, policy inconsistency, government revenue, reconciliation, exports, and more.

PoSt-war eConomy: 5 YearS on SPeciaL SerieS

milestone in Sri Lankas history, and amidst a turbulent global economic climate.

The SOE, published annually, is the IPSs flagship publication, and selects a contemporary theme each year and delves into it through a series of chapters and policy briefs. The opening chapter in each SOE Policy Perspectives gives an independent assessment of the Sri Lankan economy, in brief, across a spectrum of areas macroeconomic developments, international economic developments, overall national economic policy issues, and emerging socio-economic challenges. In this post, we recap the key insights and arguments put forward in the Policy Perspectives chapters of the first five post-war editions of the SOE.

In 2009, we were optimistic about the immediate gains from the

The end of the armed separatist conflict in 2009 ushered

in a new era of optimism and opportunity in Sri Lanka. A

key challenge that now needs addressing is - what must

be done to ensure that the country consolidates the post-

war gains and build a prosperous future for all its people?

This special segment brings you a collection of articles and

interviews around this question, drawing together insights

from IPS researchers as well other experts

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16 17

rapid growth, but policies that are also sensitive to issues of equity in the distribution of, and access to, resources.

In 2012, we moved beyond the post-war theme, to discuss how the hard fought gains can translate into a more sustained growth trajectory over a longer term. Amidst subdued growth in the industrialized West, Sri Lanka was proving to be a rising star in emerging market economies, posting a speedy rebound with GDP growth averaging at 8% per cent since the country saw an end to its long-drawn conflict in May 2009. We argued that growth, at the end of the day, is the cornerstone both politically and economically, and commented that,

While economic growth alone should notbe the sole yard stick by which governments attempt to gain legitimacy, growth does matter. Rapid growth over a period of years allows countries such as Sri Lanka to grow from low income levels to middle-income status. The trickier part is to ensure that the growth process is sustainable and inclusive.This is particularly so for a country emerging from a prolonged and divisive conflict.

With rapid, sustained and inclusive growth, we argued, Sri Lanka would be able to cater to the rapidly evolving aspirations of a post-war populace. This transition raises legitimate economic, political, and social aspirations that call for a steady and politically harmonious growth process, we reiterated.

In the 2013 edition, we reviewed Sri Lankas impressive post-war economic performance thus far, remarking that While the country has no doubt struggled to sustain the boost seen in the years immediately following the end of the conflict, this does not take away from the impressive gains in prosperity made in recent years. Indeed, across unemployment, poverty, and regional income disparities, Sri Lanka had seen notable improvements. Reviewing these developments, we observed that,

Unemployment has fallen from 5.8 per cent in 2009 to 4.0 per cent in 2012 and poverty nearly halved between 2006/07 and 2009/10. The traditional lagging regions are catching up, with the Western Province GDP dominance falling from 50.8 per cent in 2005 to 44.4 per cent in 2011, and provinces like Southern, Northern, North Central, and Uva showing steady increases in their contribution to national output. All of these contribute to a changing scenario of social mobility in the country. Private consumption expenditure (PCE) has risen steadily in recent years, growing by 70% between 2008 and 2012. With higher growth and falling poverty comes the potential for a rising middle class.

The main focus of the SOE 2013 was the middle-income transition Sri Lanka is currently undergoing, and the opportunities and challenges that it throws up. We particularly focused on the gradual emergence of a middle-class population in the country, and introduced Sri Lankas first-ever analysis on the subject (also captured in this article). On this, we noted that,

There are signs of upward mobility and an emerging middle class in the country. This is evidenced by, inter alia, a sharp decline in the incidence of poverty, growing demand for advanced services,

luxury and consumer durable products, greater spending on private health care and education services, as well as the proliferation of technology and services that connect more Sri Lankans to global information and commerce.

Yet, we acknowledged that this rise of the middle class will not be without friction - demands on better governance and quality of institutions will increasingly come to the fore.

A growing middle class has greater demands on, and want a greater voice in, how they are governed and the institutions that govern them. This tendency has been seen in countries like India, with a rapidly growing middle class -- whether it be demanding a change from police in action against sexual abuse, protests against corruption (for instance, the Anna Hazare movement), or the increasing number of public interest litigation using the Right to Information Act. Similarly, in countries like Turkey, where years of steadily growing

incomes fostered a large middle class, which became increasingly less tolerant of an overbearing state and ultimately erupted in the kind of dissent seen recently. The efficacy of institutions to meet the evolving needs of people and the quality of rule of law in protecting their rights would become increasingly more important to the upwardly mobile social class, and the government needs to be cognizant of this.We ended the 2013 chapter on a positive and progressive note,

The rising socio-economic prosperity in Sri Lanka, if fostered cleverly and inclusively with progressive public policies, can spur economic dynamism, innovation, and social progress, and place the country on firmer ground, as it makes a decisive transition into a middle-income economy and beyond.

So, between 2009 and 2013, IPS research and analysis contained in each SOE has covered the gamut of socio-economic issues facing post-war Sri Lanka from ensuring that post-war growth is inclusive and sustainable, to tackling the reforms needed to place the country on a steady footing as it transitions to middle-income.

The optimism we expressed at the beginning of the SOE 2009, certainly still holds true to today. We wrote,

The military victory over an armed separatist conflict spanning three decades has brought the prospect of long term peace and stability a step closer. In the economic sphere, despite the near term economic gloom, it has brightened the prospects significantly for sustained socioeconomic development of the country in the longer run.

Yet, as we have acknowledged across all the post-war SOE editions, there is much to do to ensure the post-war dividend is harnessed to its full extent, and harnessed by not just the few. We have flagged numerous policy challenges that must be tackled boldly and without delay. Sri Lanka has much work to do. But at least now it can be done in a climate sans-war.

[IPS is currently preparing its 2014 edition of the SOE, which is due for release in October.]

end of the war and the prospects it held for future development. This paragraph summed it up well,

The economic benefits of peace will bemanifold, ranging from a halt to the destruction of the countrys human and social capital, its infrastructure, and confidence in its economy. It will also help in opening markets and reintegrating economic activities. The end of armed conflict will also allow the rehabilitation and reconstruction of the Northern and Eastern Provinces of the country to commence, with spill-over effects to invigorate economic growth across the country.

But we cautioned that the immediate post-war bump cannot be sustained without a more strategic, long-term approach.

A reconstruction related economic boom can lift Sri Lankas economic growth in the medium term. But, if it is not accompanied by efforts to improve overall efficiency in the economy that retains the confidence of investors the boom can be relatively short-lived, and leave behind macroeconomic instability in its wake. What is required is to ensure that are construction related economic impetus is allowed to transform into a sustained longterm growth path through an appropriate economic reform process.

By the time the SOE 2010, was released, Sri Lanka had been graduated into middle-income emerging market status by the IMF, and out of the Poverty Reduction and Growth Trust set of poor countries. Yet, we observed in that edition that the unfavourable global economic climate put a damper on post-war economic dividends.

Sri Lanka made significant progress towards long term peace and stability in 2009 withthe successful end to a 30 year armed separatist conflict in the country. The economic dividends, however, were slow to materialize, held down not only by a severe global economic downturn but also by the distractions of Presidential and Parliamentary elections. In the midst of such developments, Sri Lankas relatively low GDP growth of 3.5 per cent for 2009 went almost unnoticed.The reasons were primarily two fold. First,the adverse knock-on effects of the global economic crisis on the Sri Lankan economy were anticipated well in advance. And secondly, any residual concerns about the downturn were eclipsed by optimism of new opportunities for growth that a post-conflicteconomy could generate in the medium term.

As the euphoria surrounding the end of the war continued to echo resoundingly, in the SOE 2010 we delved a bit deeper into the economic dimensions of conflict that we considered most crucial to bear in mind. This was especially important given the theme of that years report, which focused on inclusive growth and the reduction of inequities. We discussed that,

Usage of the term post-conflict implies many things, including the many political nuances it contains in relation to issues of conflict resolution. At its simplest, however, it can be taken to imply a phase of reconciliation and reconstruction, with intended political and development objectives. In so far as post-conflict development relates to the economic sphere, the primary objective is to reduce the major risk factors of conflict recurrence by formulating economic policies that are sensitive to issues of inequities among groups. While there can be many commonalities in the

policies adopted by conflict-affected countries towards this end, there is no recommended one-size-fits-all approach. Sri Lanka, like other conflict-affected states, must fashion an approach that is context- appropriate to its own circumstances. Above all, it must be owned, formulated and driven by national actors.

In that edition we acknowledged that a post-conflict economic recovery phase driven by accelerated infrastructure spending can see the country achieving an annual average growth rate in excess of 7 per cent in the next few years. Indeed, we have clearly seen this average 7%+ growth in the years that followed. Yet, as growth continued its upward momentum, we cautioned that Sri Lanka must avoid being lulled into a sense of complacency. While recognizing the sharp increase in spending allocate to the North and East, we argued that there must be clear growth strategies beyond the immediate recovery efforts. As some macroeconomic imbalances during that time continued to worry all stakeholders, we remarked that without a sound medium term macroeconomic framework that under pins a strategy of growth with stability, Sri Lanka may fall victim to thephoenix effect - where countries rebuild and grow faster in the immediate post war era, but is not sustained in the longer run.

In that report, we were also unequivocal about the need to ensure conflict-affected regions play a strong and equal part in the new growth opportunities emerging. We said that,

The traditional livelihood practices and the know-how that took advantage of the natural resources in the North and East were discontinued dueto decades of conflict, while most productive resources in the area were oriented towards military efforts. For sustained development,it is essential that the people in the North and East areable to take advantage of their natural endowments and be economically independent. To achieve this, they must be assisted in reviving their traditional livelihoods, including tourism, fisheries, agriculture and other industries. Assistance is needed in a variety of ways including, skills training, managing local assets, and improving access to credit.

But it wasnt just the pure economics of it, but the bottom-up, collective approach for post-war recovery that was emphasized. The long duration of the conflict has also damaged the social

infrastructure and the trust of the people in the area. Efforts must be put in place to encourage community-led approaches to developing the production base in the North and East and help rebuild the damaged social fabric in these war torn areas.

In 2011, we complemented the previous years post-war themes with a discussion on how to make this new growth more inclusive. The underlying argument was that Sri Lankas growth path must be one where it is not the few who benefit from, and play a part in creating, growth, but the many. We cautioned that growth inequities will risk reversing the gains of the end of the war. We wrote,

For Sri Lanka, emerging from a costly era of a long drawn conflict, rising socio-economic aspirations must be met to help restore and cement social harmony in its post-conflict development efforts. That calls for economic policies that will not only deliver broad-based

PoST-WAr EConomy: 5 Years On

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18 19

With the aim of maximizing spinoff benefits of both of these two mega infrastructure interventions, the government has been declared themfree ports and a 1100-hectare Special EconomicZonearound the sea port has been earmarked for private investment.The attraction of Foreign Direct Investment (FDI) in particular has been prioritized to kick start industrial progress in the area. Yet, the performance so far has been lackluster, and strategic foreign investments into the area have been slow to come, mirroring the overall picture in the economy of sub-par FDI inflows (just 2.8% increase in 2013). With questions emerging about the realistic potential of the area, it is a good time to look elsewhere for lessons on what can be done. Malaysias Penang Export Hub holds salutary insights for Sri Lankan policymakers.The success of the hub is borne out in its development impact in four decades,Penangs regional GDP per capita went from being 12% lower than the national average to being 125% higher than the national average.

Penang Export Hub Penang is a state located on the northwest coast of the Malaysian Peninsula. It comprises of Penang Island, an island of 293 square kilometres located in the Strait of Malacca; and SeberangPerai, a narrow hinterland of 753 square kilometers on the Malay Peninsula. The state is home to 1.5mn people, however in terms of natural resources relative to its population, it is the least favorably endowed of all states of Malaysia. In 1969,the state government had to take into account the regions limited agricultural potential and lack of mineral resources, and called for a new strategy to plug in the Penang economy into the global economy. It aimed to attract clean industries that required the movement of materials and products by air-transport such as

electronics, medical and other precision and machining industries, and high weight-to-value products such as household electrical appliances that depend on the shipping port and railways for the movement of material and products.Under the leadership of its then Chief Minister,Dr.Lim Chong Eu, the electronics sector was chosen for promotion1. This was because of itsrelative labour-intensive nature and its compatibility with Penangs tourism industry (as electronics is a relatively clean manufacturing process). The state government established free trade zones to attract electronics multinational enterprises (MNEs) to set up production facilities in the region. What stands out the most with respect to Penangs FDI attraction strategy was the way it set about promoting investments to the region.

At the outset, a new statutory body the Penang Development Corporation (PDC) - was established for coordinating activities of the municipal administration and the state government. The apex policy-making body of the PDC - the State Planning and Development Committee (SPDC) - was chaired by Dr. Lim himself. The PDC operated with the work ethic and management style of a privatesector company, with rewards for employees based on productivity and performance. The SPDC took all decisions relating to permission for land acquisition and development. All proposals were reviewed within three months of receipt, correspondence was replied to within seven working days, and responses to complaints were given within 21 working days2. PDC used the free-trade zones and industrial estates for focused infrastructure development for successful global integration of the Penang economy.

sri Lankas Post-war hub ambitions: Can hambantOta Learn FrOm Penang?

By Anushka Wijesinha and Raveen Ekanayake

in this third article in the special series Post-war economy: 5 Years on published on talking economics, hambantotas hub ambitions come under the spotlight, and the authors argue that lessons can be learnt from malaysia in developing a smarter strategy to attract investment.

Over the course of five years since the end of the war, Sri Lanka has embarked on an ambitious physical infrastructure drive, with the aim of taking advantage of the countrys strategic geographical location. With its close proximity to major international shipping lanes and to the Indian subcontinent, Sri Lanka can be positioned as a leading trading hub in South Asia. The once backward agrarian region of Hambantota has been the leading beneficiary of this policy stance. November 2010 witnessed the commissioning of the first phase of the MagampuraMahinda Rajapaksa Port. Meanwhile, the countrys second international airport,constructed at Mattala,was commissioned in March 2013. These are key components of the governments post-war economic development vision of creating Five Hubs, articulated in the2010strategy documentMahinda Chintana: IdiriDekma.

Attracting Foreign Firms, and Keeping Them HappyFrom its inception, PDC undertook promotion missions to various countries, but they were not ad hoc visits abroad. The promotion campaigns were carefully designed in close collaboration with a foreign consultant who had worked with electronics firms in Singapore. These campaigns very effectively conveyed the message that the Penang peoples skills and adaptability could effectively complement the needs of high-tech industries.The PDC also understood the importance of catering to the needs of investors already located in Penang. After sales service was viewed just as, if not more, important than the initial promotional work. Delegations led by the PDC Chairman often called upon CEOs of the export hubs companies to maintain close relationships, to understand their concerns and address them, and to obtain inputs on a continuously evolving investment promotion campaign. Rather than organizing large, generic seminars and conferences, the PDC opted for a more targeted approach. Theywould conduct meetings with individual companies so that full attention could be paid to their specific needs and issues could be tackled in a more focused manner.

Its no surprise then, that within a span of five years of its establishment, eight of the worlds top electronics MNEs such as Intel, AMD, Sony, Motorola, Sanyo, Dell and NEC, were operating in the Penang hub, a clear indication of the strategys success.

Fostering SmE-mnE Links and Addressing Skills ShortagesThe PDC also played an important role in fostering links between the MNEs and the SME sector, which was key in ensuring good spillovers into the wider economy. Based on close ties with the local business community, Dr. Lim encouraged MNE affiliates to procure components locally and forge subcontracting relationships with local firms. The PDC also encouraged and provided institutional support to MNE affiliates to initiate vendor development programmes to strengthen backward input linkages with local suppliers. The agency was instrumental in developing the required human capital to facilitate the expansion of the industry. By the late 1980s, a skills shortage severely hampered the ability of the electronicsfirms located in Penang to expand. Given the close links it had forged with MNE affiliates, the PDC recognized this in a timely manner, tookthe lead role in setting up the Penang Skills Development Center - a successful public-private partnership model which involved MNEs in human capital development. PSDC has been instrumental in ensuring that Penangs workforce has kept pace with the evolving demands of the industry.

Key Success FactorsThis article does not advocate for a cookie-cutter approach country contexts and initial conditions differ, and must be considered. Rather, the article advocates taking a close look at why Penang succeeded and what transferable lessons can be extracted from it. Firstly, and most crucially, was the focused and strategically-developed investment promotion strategy.Secondly, the active involvement by the Chief Minister in the investment promotion processwhich sent a clear, consistent message to investors about development priorities and government commitment. Thirdly, post-investment care proved to be an attraction, and agency officials wereable to stay abreast of investor requirements and continually adapt their support to the changing investment climate. Finally, bringing the firms themselves on board to market the Hub globally.Because of the remarkably good relations, the PDC was able to convince the topforeign firms to join overseas investment promotion campaigns, where the foreigners themselves sold the virtues of being located in Penang. This was a unique and powerful signal to prospective investors.

next Steps for HambantotaOver four years since the hub strategy was articulated,

strong progress has been made on setting up the

infrastructure, but much of the foreign investments

have not been in to these hubs they have largely been

in tourism and mega property developments in the city

of Colombo. If Sri Lanka is to fully harness the power

of the mega infrastructure drive, it is clear that a more

systematic and strategic approach must be pursued. Sri

Lanka will have to seriously rethink which government

agency gives leadership to such an effort. The strategy

of having the Sri Lanka Ports Authority (SLPA) in charge

of attracting investment into the new zone around

the Hambantota port and airport is questionable.

Without the specialized skills in investment promotion,

understanding of investor needs, being attuned to

global FDI trends, and an awareness of the underlying

economic strengths and weaknesses of Hambantota as

a hub an agency tasked with mobilizing investment

into the zone is hardly qualified to do so. A new and

specialized unit could be set up the Magampura

Integrated Investment Agency - with expertise

drawn from the SLPA, Board of Investment, Ministry

of Finance, other relevant government officials and

independent expertswith overseas MNE business

development experience(Sri Lankans and foreign

nationals). Moreover, the focus needs to be not only

on how do we bring foreign investorsinto the zone?,

but also on how do we keep them there?. Post-

investment care, close consultation to understand

issues, and credible mechanisms to address investor

concerns, must be at the heart of the investment

promotion strategy.

What Sri Lanka needs to do now is, like in Penang,

design interventions to attract major foreign investors

to the special zone around the Hambantota port

and airport, and help them become meaningfully

embedded in the national economy.

This article draws on the comprehensive review of the

Penang case in Athukorala, P. (2012), Growing with Global Production Sharing: The Tale of Penang Export

Hub, Arndt-Corden Department of Economics, Working Paper No. 2011/13, Crawford School of Economics

and Government, ANU College of Asia and the Pacific,

Canberra.

(Endnotes)1 Broadly defined to include both electronics and electrical

goods2 Singh, Chet (2011), Institutions for Regional Development:

The PDC as I know It (1970-90), in Institute for Strategic and

International Studies (ISIS), Malaysia: Policies and Issues in Economic Development, Kuala Lumpur: ISIS, 597-622.

PoST-WAr EConomy: 5 Years On

Talking Economics

20 21

Looking BaCk, Looking ahead

Sri Lankas economy is in a very different place today than 5 years ago. What are the changes that you find most noteworthy?

Sri Lanka is struggling to fend off international animosity surrounding the wars end. To what extent has this affected the economy over the past 5 years and will affect the economy in the next few years?

There was a lot of optimism among the private sector, economists and others on the post-war dividend. Do you believe Sri Lanka has seen this dividend fully materialize?

SureSh Shah : Firstly that the entire country is open for business. Secondly, the significant change in the operating environment opens up greater opportunities to attract investment into the country. The country can also now pursue its full tourism potential. Overall, the corporate sector gained tremendously as a result of the more conducive business environment. Both top and bottom lines improved significantly in 2010 and 2011.

nimaL Sanderatne: Peace has enabled farming, fishing and other economic activities that are important for the livelihoods of people in the East and North to be restored. The increased output of goods and services in the war affected areas has contributed much to the initial thrust in growth after the war. The end of terrorism has had overall benefits on the economy. The increase in tourism and its backward linkages have made significant contributions towards increasing employment and raising incomes, besides improving the balance of payments. The higher annual economic growth average of over 7 percent is evidence of this overall economic growth. The rebuilding and reconstruction of the North and East and the vastly improved economic infrastructure especially roads, bridges, railways and fisheries harbours are positive developments. indrajit coomaraSwamY: The restoration of peace, coupled with the elimination of the war risk premium, has given a substantial boost to the development potential of the country. The growth framework has been strengthened through infrastructure development which has improved domestic and external connectivity, though there are concerns regarding costs and quality. Overall, Sri Lanka enjoys the most propitious set of circumstances for over 50 years. Unlike in the past, there are no major drags on the countrys economic prospects. The graduation to lower-middle-income country status and the consequent loss of access to concessional assistance has been a major development over the last 5 years. As a result, there has been a sharp increase in foreign commercial borrowing. The most disappointing aspect of the last 5 years has been the lack of structural reforms to move towards a FDI/export driven growth model. SuniL wijeSinha: 2009 was a difficult period since the full brunt of the recession in the West was felt mostly in 2009. Today exports are rising and are more competitive. They are more value added and at a higher technology level than the price merchandise of the past.

SureSh Shah : This affects us both in terms of attracting FDI and in fulfilling the potential of the tourism industry. Sri Lanka should be attracting close to 5% of GDP as FDI but today attracts approximately 1.5%. At least part of this gap can be attributable to the negative press the country gets overseas. If we dont attract the desired level of FDI it will certainly put pressure on our ability to build up the necessary stock of infrastructure, technology transfer, transfer of management skills, our ability to diversify our export product portfolio, etc. Similarly in tourism. Although we have seen very healthy growth in tourism arrivals, it could have been even better, had the country attracted positive press overseas.

nimaL Sanderatne: Uncertainty about international actions owing to UNHRC resolutions has deterred investment. An acceptance of the realities of international concerns on human rights and countervailing measures to address these and to ensure a better record on human rights are needed to improve the investment climate and improve the countrys export performance and tourism prospects. The inadequacy of FDI after the end of the war is partly due to the negative publicity the country is facing. Unless the country is able to restore international confidence on human rights, reduce religious violence that is escalating, ensure the rule of law and law and order, economic prospects are fragile. indrajit coomaraSwamY: The economic impact of the international animosity towards Sri Lanka has been manageable over the last five years.While the loss of GSP Plus led to a loss of employment and foreign exchange, the effects at the macroeconomic level have been relatively muted. But the lives of the individuals who lost employment and whose businesses were affected would have been disrupted. There has been very little FDI from Western countries.

Labour costs have been rising rapidly and subsidies are largely absent, forcing companies to be more productive. There are fewer demands for concessions and subsidies. Manufacturing and service industries are more focused on facing the competitive challenges and less focused on lamenting. We see many overseas business delegations visiting the country and showing interest in investing and trading. The main complaint today is the ease of doing business.

the corPorate Sector gained tremendouSLY

aS a reSuLt oF the more

conducive buSineSS

environment - Suresh Shah

PoST-WAr EConomy: 5 Years On

There are a number of reasons for this, including the effects of the Great Recession and the negative factors related to the domestic investment climate. It is difficult, therefore, to assess the impact of the international animosity on FDI flows to-date. Looking forward, the outcomes are difficult to predict. The most likely impact will be on investor confidence in the West, particularly if pressure from the US and Europe continues to be ratcheted up. SuniL wijeSinha: I dont believe that we have had any significant impact of this over the past five years. In fact it is noted that the overseas partners are more concerned about dealing with reliable partners, consistency of shipments, and quality of products. However any sanctions and further bad publicity may have an impact. Exporters may be affected if there are campaigns to boycott Sri Lanka products.

the inadequacY oF Fdi aFter the end oF the war

iS PartLY due to the negative

PubLicitY the countrY iS

Facing.- Nimal Sanderatne

SureSh Shah : Certainly the post war environment is much improved. As mentioned previously, the corporate sector top and bottom lines grew significantly in 2010 & 2011 immediately after the war. Has the dividend fully materialized? No. But it would also be unfair to expect it to fully materialize in 5 years. After all, we are playing catch up for almost 30 lost years. I think what we should aim for is the right trends in