SRI LANKA: CENTRAL BANK GOVERNOR SAYS ECONOMY IS BETTER

UNCLAS SECTION 01 OF 02 COLOMBO 001056

SIPDIS

SENSITIVE, SIPDIS

STATE FOR SCA/INS AND EEB/IFD/ODF
STATE PASS USTR FOR ADINA ADLER
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MCC FOR S. GROFF, D. TETER, D. NASSIRY AND E. BURKE
TREASURY FOR LESLIE HULL

E.O 12958: N/A
TAGS: ECON EINV CE
SUBJECT: SRI LANKA: CENTRAL BANK GOVERNOR SAYS ECONOMY IS BETTER
THAN EVERYONE THINKS



1. (SBU) SUMMARY: In a recent presentation trumpeting the health of
the Sri Lankan economy, Central Bank governor Cabraal told heads of
missions and donor agencies that return to civil war was not ruining
growth or busting the government's budget. The governor predicted
that GDP growth would exceed last year's strong 7.4% showing, and
that inflation would come down to single digits by the end of the
year. The governor ran through a series of "perceptions/claims" and
realities -- the former, he said, perpetuated by terrorists,
political opponents, and an overly critical media and the latter
justified by actual statistics.


2. (SBU) COMMENT: While the nearly two-hour presentation was
generally accurate, its tone sounded more like marketing spin than
Central Bank commentary. Its forecasts assumed fundamentals would
continue to resemble the relatively healthy 2002-2006 statistics
produced by the ceasefire years. First quarter 2007 numbers don't
support these projections, and current negative business sentiment
suggests that this year and next could prove far weaker than the
government expects. It is this negative business sentiment that the
governor would like to turn around, but the business people are
reacting to government policies and market trends that are hurting
them, not to the governor's slide shows. While the governor is
correct that the economy is not on the verge of a crash, he should
listen more to his business community than to last year's
statistics. End summary and comment.

CENTRAL BANK TELLS DIPLOMATS AND PRESS
THE ECONOMY IS STRONGER THAN IT LOOKS
--------------


3. (SBU) Sri Lankan Central Bank Governor Nivard Cabraal invited
ambassadors and donor agency heads to a July 23 presentation
entitled "The Sri Lankan Economy: Perceptions/Claims vs. Realities."
The governor, his two deputies, one assistant governor, and Finance
Secretary PB Jayasundera each presented slides covering fiscal and

SIPDIS
monetary policy, debt management, banking and finance,
infrastructure investment, and donor assistance. The Central Bank
organized a similar presentation for the media later in the week.


4. (SBU) The one hour forty-five minute presentation was designed to
dispel impressions that the economy was suffering badly as a result
of renewed fighting against the ethnic separatist Liberation Tigers
of Tamil Eelam. After his colleagues described the full range of
economic fundamentals in considerable detail, Governor Cabraal
presented a wrap-up, which set "perceptions" and "claims" against
"realities." He attributed the negative perceptions and claims to
four factors: "Lack of awareness; deliberate misinformation and
negative publicity campaigns conducted by interested parties,
including terrorist groups and sympathizers; promotion of various
economic and political agendas; and organized efforts to cripple Sri
Lanka's economy and weaken the State's capacity and ability to take
counterterrorist measures."

CLAIMS AND REALITIES: TRUTH SOMEWHERE IN BETWEEN
-------------- ---


5. (SBU) The governor's overarching message was that Sri Lanka's
economic growth was resilient and sustainable, and that the economy
had in fact performed well in the face of a series of economic
shocks, including the 2004 tsunami, the worsening security
situation, high oil prices, and unfavorable weather. The following
are a sampling of the perceptions and realities the governor
outlined, with Embassy comments on each.

- Critics' claim: "The worsening security situation will erode
investor confidence and cripple the economy."
- Governor's reality: "Investor sentiment remains strong."
- Governor's evidence: Colombo Stock Exchange rose from 1400 to 2400
between 2004 and 2006; foreign direct investment increased from $181
million in 2002 to $480 million in 2006.
(Comment: The stock exchange was doing very well, but has fallen
16% since peaking at 3000 in February 2007. FDI figures are for
commitments only, some of which are likely to evaporate as a result
of the resumed fighting. A local business journal's monthly survey
of business confidence dipped to the lowest it has been since

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October 2004, with four-fifths of business people surveyed saying
they expect the economy to get worse in the coming twelve months.)

- Critics' claim: "Rising cost of living will hamper growth and
stability."
- Governor's reality: "GDP growth has been very strong despite
rising cost of living."
- Governor's evidence: GDP growth was 7.4% in 2006 and will reach
7.5% in 2007.
(Comment: GDP growth slowed to 6.1% in the first quarter of 2007 and
is unlikely to exceed that rate for the year.)

- Critics' claim: "Government debt is out of control and an
overwhelming portion of the deficit is being financed by the Central
Bank."
- Governor's reality: "Debt has declined significantly - 13
percentage points of GDP in three years."
- Governor's evidence: Public debt as a share of GDP declined from
around 106% in 2003 to 93% in 2006.
(Comment: 93% is far higher than the comparable figures for the
Philippines, about 60%, or Colombia, about 45%. A growing portion
of Sri Lanka's debt is at commercial rather than concessionary rates
and in foreign currencies, against which the rupee is declining, so
servicing the debt is actually getting more expensive.)

- Critics' claim: "Violence will lead to the economy collapsing and
defense expenses soaring."
- Governor's reality: "Security situation has not deteriorated
materially."
- Governor's evidence: A comparison chart showing 2006 military
spending as a percent of GDP for thirteen countries, showing Saudi
Arabia at 10%, Pakistan at 4.4%, Sri Lanka at 3.8%, and Indonesia at
3.0%.
(Comment: The Governor's chart cited the CIA World Factbook as its
source. But the Central Bank's own figure for 2006 military
spending as a percent of GDP is actually 4.0%, and the 2007 budget
figure is 4.3%. The actual figure for 2007 is likely to be even
higher, after supplemental budgets are included.)
MOORE