Truth and Myth About the Open Economy

There is both truth and myth in popular discussion about the performance of the open economy over the period 1978-2003. To examine what the facts may reveal we chose six basic variables:

GDP Growth Rate: Gross Domestic Product is the total value of the nation's annual output. If the GDP growth rate is relatively high the economy is performing well. But note that the country can have a high growth rate coupled with persistent poverty because the fruits of growth can accrue to a small section of the population.

Investment Rate: This is the amount that we invest annually expressed as a percentage of our GDP. Higher the rate the better for economic growth.

Poverty Rate: The percentage of people who live under the official poverty line.

Unemployment Rate: The number of people unemployed as a percentage of the labour force.

Government Expenditure on Health and Education: These are shown as percentages of GDP.

Foreign Debt Burden: This is also shown as a percentage of GDP.

Note on the reliability and comparability of data: All the figures are from official sources. These are among the best available. But we caution you about the strict comparability over time of some of the data. For example, the definitions of the concepts are not always identical in the different poverty surveys and unemployment surveys. But the numbers do tell us in broad terms the direction of change that we are interested in over the last twenty five years.

The graphs also mark the years in office of the different governments.

Graph 1 - GDP Growth Rate and Investment Rate 1950 - 2003

Source: Central bank of Sri Lanka, "Special Statistical Appendix", Annual Report 2003

"Under the open economy Sri Lanka's GDP growth was higher than in the pre 1978 period." True. In the 27 years from 1951 to 1977 the average growth rate was around 3.7% (right axis). In the 26 years from 1978 to 2003 the rate was about 4.8%.

"Under the open economy the country has invested more." True: the bar graph clearly shows that investment reached a higher level of 22% to 25% after 1977 when compared with 15% before that. This explains the higher GDP growth rate after 1977.

Graph 2 - Poverty level in Sri Lanka 1969-70 to 1996-97

Source: Centre for Poverty Analysis (CEPA), Poverty Issues in Sri Lanka, Colombo Sri Lanka, 2003, p50

"Under the open economy Sri Lanka's poverty level has steadily risen." False: as Graph 2 shows after an apparent increase in the poverty rate from 23% in 1978 to 50% in 1980/81, the rate has gradually declined to about 31% in the mid 1990s.

Graph 3 - Rate of Unemployment 1963-2003

Source: Central bank of Sri Lanka, "Special Statistical Appendix", Annual Report 2003

"Under the open economy the rate of unemployment has declined." True: when compared to the situation that prevailed in the 1970s. Note that the decline in the poverty rate appears to be associated with the decline in the rate of unemployment.

Graph 4 - Government Expenditure on Education and Health
as a % of GDP 1950-2003

Source: Central bank of Sri Lanka, "Special Statistical Appendix", Annual Report 2003

"Government spending on health and education has declined under the open economy." True, if the figures are expressed as a percentage of GDP and compared with those prevailed in the 1960s and early 1970s. In absolute terms also per capita government real (i.e. adjusted for inflation) spending on both education and health declined in the 1980s and the early 1990s (not shown in the grah). But the amounts increased in the late 1990s.

Graph 5 - Foreign Debt as a % of GDP

Source: Central bank of Sri Lanka, "Special Statistical Appendix", Annual Report 2003

"Our foreign debt burden has inexorably risen during the open economy." False: The percentage has actually come down from about 1990. Our foreign debt as a percentage of GDP began to rise from about 1964 when the country started getting aid on a large scale. Note that the absolute amount of debt (not shown in the graph) has kept rising over the last 40 years.

 Graphics by Vasantha Premeratne

Open Economy, Globalization and World Order

The open economy opens Sri Lanka's economy to the wider world. This is not new to our country. Sri Lanka has had trade with the outside world from ancient times. When the British came here they opened it up more than ever before with tea and rubber plantations. But the open economy of the 21st century is qualitatively different to the open economy of the 19th century. This brief essay is an attempt to evaluate how Sri Lanka's open economy has faired in the context of globalization in the last three decades.
Globalization is a broad process that includes economics, politics, culture, technology, and related areas of human endeavour. Purely from an economic perspective globalization includes a country being engaged with the rest of world in trade, loans, foreign aid, private investment, technology, and of course the international movement of workers. Our country's open economy has all these features.

Economic globalization is the triumph of capitalism. For example, in 1976 total world exports were $944 billion. By 1990 it had more than trebled to $2,452 billion. By 2002 it had reached $6,454 billion or almost seven times the 1976 figure. Sri Lanka's own export figures for the three years were $ 527 million (0.06% of world exports), $1,912 million (0.08%), and $4,699 million (0.07%) respectively. These figure suggest that we have more or less kept up with the global trade growth in the last 25 years.

Sweating for the global market

In 2002 global foreign direct investment was $653 billion. In recent years China has taken the largest share of this with around $50 billion or more per year. Successive Sri Lankan governments have tried to attract FDI but with mixed results. For example, in 2002 our share was $250 million or about 0.04% of world FDI. In absolute terms the $250m compares well with the $40m we got in 1990. But as a share of the world total it is very little.

Everybody knows that Sri Lanka earns a large sum of money by exporting cheap labour to the Middle East and elsewhere. Nobody knows for sure how many Sri Lankans work abroad. In 2003 208,000 registered with the government on departure to work abroad. The actual number working abroad and sending money to the country would be several hundred thousand more than that. But we have fairly accurate figures of the enormous contribution they make to our economy. In 2003 they sent nearly $1,500m to this country. This is more than double the $634m that we earned from tea. It even exceeded the $1,000m we earned net of imported inputs from garment exports. Nearly 40% of our country's national savings that we use for investment come from the savings that our expatriate workers remit. I quote these figures to make the point that globalization has more or less kept our economy afloat.

For countries such as Sri Lanka the litmus test of success in development is poverty reduction. Poverty is multi-dimensional but we will limit this comment to income poverty. Sri Lanka's poverty data is patchy at best. Using the available official poverty line as a very crude measure what we can say is that in the early 1970s in the pre open economy era probably around half the population lived below the official poverty line. Official figures suggest that this was cut in half between 1973 and 1978/79 but was back to 50% by about 1981 under the first phase (1978-83) of the open economy. Thereafter it appears to have slowly dropped to around one-third of the population by the late 1990's. These are not necessarily numbers compiled on the same basis. Thus comparisons may be misleading. Subject to that caveat note the following. First, that poverty was at its lowest during the closed economy of the mid 1970s. But this was also the time when food was in short supply, bread was rationed, the poorest in urban areas rummaged thrash bins for food, and unemployment reached a record 25%. In 1981 when poverty reportedly increased the economy was booming, and news jobs were being created in record numbers. But this was also the time when inflation reached unprecedented levels eroding the living standards of the fixed income earners. In the next fifteen to twenty years Sri Lanka's economy got increasingly globalized and the poverty rate appears to have declined but slowly. As you can see these numbers are not a stellar recommendation for globalization and the open economy as a strategy to reduce poverty. But neither do they support the exaggerated claim that globalization and the open economy brought nothing but poverty and misery to the multitude of Sri Lankans.

What about the broader international scene? China is the favourite example of those who advocate globalization as the way to go for poverty reduction. Two World Bank economists recently published an article claiming that in the last twenty years in China the "number of poor people defined as those living on less than $1 a day - declined by more than 400 million."

But the critics of globalization can easily come up with other evidence to challenge the pro-globalization position. For example, the number of people living in the world earning between $1 and $2 that means still quite poor - actually rose between the early 1980s and 2001. Tens of millions of Chinese factory workers sweat for long hours six days a week for a wage of about three dollars a day. Sri Lankan garment workers who work somewhat fewer hours get even less per month. Sub-Saharan Africa with a few exceptions such as South Africa and Botswana has actually seen per capita incomes fall since the 1970s. While a lot of internal factors were at play to produce this result globalization certainly has not been of much benefit to Sub-Saharan Africa.

But what alternatives are available to poor countries such as Sri Lanka? There is no convincing evidence to suggest that we can opt out of the global system and hope to prosper. Those that have tried North Korea, Albania before 1990, and Burma to some degree even today have miserably failed to improve the living standards of their respective populations.

Some critics of globalization dream of grand models of global systems where the "multitude" magically works for a free and prosperous world. This, in my view, is simply not realistic. The poor young women who work in our garment factories or work as housemaids in the Middle East do so for the simple practical necessity of money. The alternative that they face is poverty in the village.

True, open economies under globalization have plenty of problems ranging from low wages and sex trafficking to dumping of toxic waste in poor countries and these must be fixed. But nobody has yet come up with a workable alternative system to the open globalizing economy that we have. Until such time that a credible alternative is offered the only practical option we have is to devise strategies to improve the system.

Pallekelle Adds Tens of Millions of Rupees to the Kandy Economy

The Pallekelle Industrial Estate that is a key element of the more positive side of the "Open Economy" in Kandy directly adds at least Rs 30m to Rs 35m each month to the local economy. The indirect contribution is very much more. The facility is home to twenty manufacturers that directly provide a total of 5,700 jobs. Very roughly they take home about Rs 30m or more each month. It is estimated that around 8,000 more jobs have been created indirectly that further boosts the economy of Kandy.

For a long time critics have pointed out that Sri Lanka's manufacturing industry has largely been the virtual monopoly of the Western Province. Prime Minister Dudley Senanayake's effort in the mid 1960s to bring manufacturing to Kandy by constructing an industrial estate in Kundasale ended in total failure. When the garment industry took off in the late 1970s, a few factories were opened in Kandy. The next addition to Kandy industry came from President R. Premadasa's Two-hundred Garment Factory Scheme in the early 1990s. But it is the Pallekelle BOI Industrial Estate established under President D B Wijetunga's initiative that has given Kandy the most conspicuous profile in relatively large scale manufacturing industry.

All twenty companies in Pallekelle enjoy BOI privileges. Thirteen produce for export and the other seven for the local market. Computer components, electrical equipment components, apparel, biscuits, and ayurvedic products are among the product lines manufactured at Pallekelle. The total gross annual turnover is estimated to be around Rs 7,500m. Celetronix that produces computer components is the largest factory in Pallekelle. It employs 2,700 workers and produces in three shifts round the clock.

The more positive face of the Open Economy in Pallekelle

Investors get more tax concessions from investing outside Colombo and that is one main reason for coming to Kandy. Some also prefer the calmer atmosphere in Pallekelle and the more cooperative and trainable workers that they say that Kandy provides.

It is well known that the Sri Lankan apparel exporters are facing a somewhat uncertain future from next month when we lose our US and EU market quotas. According to Pallekelle sources the apparel makers located there have secure buyers and are confident of remaining in business. Factory managers are more worried about the disruption to electricity supplies and the lack of good public transport for workers who come from nearby villages. The former disrupts smooth production and can also be harmful to quality, and the latter compels factory owners to provide transport raising the cost of production and making Pallekelle that much less attractive to potential investors.

Developing Local Industry:
Challenges for the State and Private Sector

 Nanda Bandaranayake

Some Sri Lankan industries, apparel is the most notable example, thrive under the open economy catering to the global market. But there are a large number of small and medium manufacturing industries that rely heavily on the local market. They face intense competition from cheap imports. In the open economy state protection for such industry is a controversial issue. The main question that we at the trades chambers face, and the government as the ultimate policy-making authority must face, is how to nurture this sector into a viable and competitive segment of the economy. My own view based partly on long experience as an industrialist in the SME sector, and partly on the insights I have gained by being associated with trades chambers for the last two decades, is that a very clear policy based on private-state partnership alone would help achieve that goal.

To produce products of high quality capable of competing with imports we need to upgrade technology. The investor has to bear the main risk in this. But the state can help with a policy that gives a helping hand such as provision of low interest loans. In my view the issue that the state alone can address is the cost of inputs, especially electricity. Sri Lanka's energy prices are now among the highest in Asia. We cannot expect our industries to compete unless energy prices are reduced.

Nurturing small industry

Sri Lankan industry also suffers from the disadvantage of relatively low productivity. This has to be solved by the state and private sector together. The state must upgrade education and skills development. Private industry must assist the state with on-the-job training programs and other such methods.

Across the board protection erecting high tariffs and quantitative import restrictions are no longer viable options for Sri Lanka to develop industry. What is required is a thoughtful long-term strategy that allows Sri Lankan industry to benefit from the open and global economy.

 The writer is the Chairman of the Chamber of Commerce and Industry, Central Economic Region