Sri Lanka has recorded an overall budget surplus of nearly Rs. 197 billion during the first five months of 2026, marking a significant turnaround from the deficit recorded during the corresponding period last year, according to Advocata Institute CEO Dhananath Fernando.

Explaining the latest fiscal data, Fernando stressed that the figure represents an overall budget surplus and should not be confused with the primary balance, which excludes interest payments on government debt.

“From January to May, revenue was higher than expenditure. We have recorded a budget surplus of approximately Rs. 197 billion,” Fernando said.

He noted that during the first five months of 2025, Sri Lanka had recorded a budget deficit of approximately Rs. 236 billion, making this year’s performance a significant reversal.

Fernando attributed much of the improvement to stronger government revenue collection, particularly tax revenue.

According to the figures cited by him, government revenue and grants increased by around 13.6% to approximately Rs. 2.54 trillion during the first five months of the year.

Tax revenue increased by around 23.9% compared with the corresponding period last year, while non-tax revenue also recorded a substantial percentage increase, although it represents a considerably smaller component of overall government revenue.

The Government’s primary balance has also strengthened significantly, Fernando said, noting that the primary surplus during the first five months of 2026 was around 50% higher than during the corresponding period of 2025.

Fernando said the stronger fiscal position provides the Treasury with greater flexibility and could reduce the need to borrow for certain expenditure and debt repayments.

However, he cautioned against assuming that the performance during the first five months would necessarily continue throughout 2026.

“There are another seven months to go,” he said, pointing out that interest and debt-servicing payments can vary considerably from month to month and could affect the overall fiscal balance later in the year.

Government expenditure has also increased, according to Fernando. Recurrent expenditure rose by around 5.5% to approximately Rs. 2.11 trillion, while capital expenditure and net lending increased significantly.

He said Sri Lanka’s improved revenue position has largely been supported by stronger tax collection and greater tax compliance, but warned that fiscal consolidation should not depend solely on imposing a heavier tax burden on the public.

Fernando argued that reducing unnecessary government expenditure should accompany efforts to increase revenue, noting that a budget deficit can be narrowed both by increasing income and controlling spending.

He also said the availability of additional fiscal space could allow the Government to increase capital expenditure on infrastructure and other development projects or provide a buffer against unexpected economic, geopolitical or natural-disaster-related shocks.

However, Fernando stressed that the additional funds available to the Treasury ultimately come largely from taxpayers and should therefore be spent in a manner that provides broader benefits to the public.

Describing the fiscal turnaround through a football analogy following the recent World Cup final, Fernando said the Treasury had also “scored a superb goal”, but cautioned that Sri Lanka’s fiscal performance must be assessed over the full year before firm conclusions are drawn. (Newswire)

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Deputy Minister of State Enterprises, Chathuranga Abeysinghe, has accused think tank Advocata Institute of publishing what he claimed was a politically motivated and misleading analysis on the performance of Sri Lanka’s state-owned enterprises (SOEs).

Responding to Advocata’s recent claims that state enterprises continue to make losses, Abeysinghe alleged that the organisation’s data was fed by the political talk show “Bai Thaksalawa” rather than verified economic sources.

“The so-called analysis claiming losses for 2025 is based on data fragments taken from biased political commentary, not real figures,” the Deputy Minister said in a Facebook post.

He argued that the “era of mismanagement in state enterprises ended in September 2024,” adding that many SOEs are now showing strong financial and social performance. “In 2023, state enterprises collectively recorded a profit of Rs. 427 billion, and in 2024, that figure rose to Rs. 538 billion. These are verifiable numbers,” he noted.

Abeysinghe noted that state ownership is not inherently inefficient, pointing to countries such as China, Vietnam, South Korea, Singapore, and India, which “strategically use state enterprises for national development.” He explained that 52 of Sri Lanka’s SOEs are designated as “strategic enterprises,” playing vital roles in maintaining essential goods and services.

“The purpose of a state enterprise is not to maximise profit but to maximise economic and social returns while improving inefficient markets,” he said.
Abeysinghe added that the government is currently drafting new legislation to strengthen the governance of SOEs, minimise political interference, and appoint qualified directors based on merit.

He dismissed claims that SriLankan Airlines or other SOEs are draining the Treasury, saying such statements are “baseless.” “SriLankan Airlines received Rs. 20 billion from its own earnings, not from taxpayers’ money,” he said.

The deputy minister further warned that widespread privatisation would transfer national profits to a few private owners and erode public competition. “If we sell everything, the profits, Rs. 538 billion last year alone, will go to private investors, not the people,” he said.

“Our policy is to reform and strengthen state enterprises so they no longer burden the Treasury, while continuing to provide social and economic benefits to the people,” Abeysinghe said.

Advocata CEO responds to criticism, cites official data

Meanwhile Advocata CEO Dhananath Fernando has responded to the criticism by Deputy Minister Abeysinghe, defending the think tank’s analysis on state-owned enterprises (SOEs) and urging the public to “read the actual data, not rhetoric.”

In a detailed statement, Fernando dismissed allegations that Advocata’s analysis was politically motivated, pointing instead to the government’s own official figures.
“I invite everyone to read page 35 of the Ministry of Finance report,” he said. “It clearly states that the 52 main state-owned enterprises recorded a total profit of Rs. 280.7 billion during the first six months of 2024, compared to Rs. 227.8 billion during the same period in 2025, a decline of Rs. 52 billion.”

Fernando further explained that much of the reported profit for 2024 came from state banks and funds that rely on citizens’ savings. “If you add up the profits of the Bank of Ceylon, People’s Bank, National Savings Bank, and the Employees’ Provident Fund, institutions listed as numbers 1, 2, 3, and 7 in the report, the combined profit is Rs. 153.25 billion,” he said.

“That means out of the Rs. 227 billion total profit recorded by 52 SOEs in the first half of 2025, Rs. 153 billion- or two-thirds- comes directly from the money of ordinary citizens: their deposits and retirement funds,” Fernando explained.

Citing further data from pages 33 and 34 of the same Finance Ministry report, he added: “These banks have lent Rs. 606 billion to state enterprises without any collateral. When you realise that 67% of the profits come from your own money, you understand how misleading these numbers can be.”

Fernando noted that his intention was not to criticise or embarrass the Deputy Minister but to promote transparency and data-driven discussion. “This note is only meant to present the correct information to the public. I have no intention of causing any personal discomfort or harm to the Deputy Minister’s reputation,” he said. (Newswire)

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Advocata Institute released its latest report titled “Market Competitiveness of the Tea Industry of Sri Lanka” on Thursday (Dec 28). The report is authored by Sudaraka Ariyaratne, Research Consultant at Advocata Institute.

The report begins with an introductory chapter that details the historical evolution of the island’s tea industry. The report finds that the present standing of the industry in the context of the international market is not too grim, but argues that issues related to the labour market, capital investment, value addition, and quality control limit the industry’s competitiveness in the global stage. The rest of the report takes the form of four discussion papers, each on the four areas of concern listed above, that present an economic theory-based lens to approach these issues, and discuss potential solutions.

The attendance-based minimum wage model is partly responsible for the high costs of production of Sri Lanka’s RPCs, and their low productivity, helping make Ceylon tea uncompetitive in the international market. In contrast, the smallholder sector, with its market-based wage model, stands out as a more efficient counterpart. Despite being billed as a guarantor of a living wage, the minimum wage model imposes a ceiling on the earnings of estate workers, and also helps preserve the traditional power structures of tea plantations, in which estate workers sit at the bottom. Discussion Paper 1 establishes an economic framework to analyse the minimum wage model, and explores the strategies that RPCs could pursue, with the help of policymakers and other stakeholders of interest, to enhance the industry’s competitiveness under the minimum wage model. The paper also evaluates alternative wage models proposed by stakeholders, that take a more market-based approach to employment within the industry.

Long-term capital investments, such as replanting and infilling, are an essential element of sustained land productivity in the tea industry of Sri Lanka; however, neither RPCs, nor smallholders, seem incentivised to undertake investments of this form. Discussion Paper 2 establishes an economic framework, based on the Growth Diagnostic Framework by Hausmann, Rodrik, and Velasco (2005), to discern the causes of low levels of long-term capital investments in Sri Lanka’s tea estates. The paper finds that to varying degrees, the low rate of returns, uncertainties about the appropriability of returns, and low savings prevent RPCs and smallholders from embarking on long-term capital investments into tea lands. The paper explores the different routes the industry may take, with the help of policymakers and other relevant parties, to overcome these binding constraints to long-term investments, to facilitate the long-term sustenance of the industry.

Sri Lanka has the highest level of domestic value addition among black tea producing countries, but little is known about the economics of value addition. Discussion Paper 3 explores what it means to add value to made tea, what explains the present levels of value addition in the Sri Lankan tea industry, and how profits from value addition are distributed along the value chain. Additionally, the paper establishes an economic framework, based on Porter’s competitive advantage theory, to approach value addition from a strategic point of view, with the aim of optimising returns to the local industry. Based on this framework, the paper explores different strategies the industry may pursue, either in the mass market or in the specialty market, to increase the international competitiveness of Ceylon tea, and enhance the returns to the domestic stakeholders.

Quality is an important determinant of the premium that Ceylon tea fetches in the international market. In the absence of symmetric information between the buyers and sellers of Ceylon tea, high quality sellers receive lower prices than they deserve, which both drives them out of the market, and lowers the overall price and quality of Ceylon tea. Discussion Paper 4 establishes an economic framework, based on George Akerlof’s theory of adverse selection and the theoretical foundations of economics of trust, to understand how asymmetric information on quality negatively impacts the market for Ceylon tea. The paper also explores several strategies, both regulatory and incentive-based, that policymakers and industry stakeholders may pursue to eliminate asymmetric information from the market for Ceylon tea, in order to enhance the premiums that the industry receives.

The report is set to be presented to President Ranil Wickremesinghe, Ministers Mahinda Amaraweera and Jivan Thondaman, and relevant stakeholders of the tea industry in the coming days.

The report on Market Competitiveness of the Tea Industry of Sri Lanka can be accessed on www.advocata.org

Advocata is an independent policy think tank based in Colombo, Sri Lanka. We conduct research, provide commentary and hold events to promote sound policy ideas compatible with a free society in Sri Lanka. Visit advocata.org for more information.

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Sri Lanka urgently needs to intensify revenue collection for macroeconomic stability and more inclusive and sustainable growth. The recent economic crisis was partly triggered by the systematic erosion of the tax base. Sri Lanka’s tax to GDP fell to 7.3% of GDP one of the lowest in the world. One of the main pillars of the IMF’s stabilization program is to raise this ratio to 14% by 2026.There is empirical evidence to suggest that countries move to a higher growth path once tax revenue reaches around 15% of GDP.   More quality spending on education and health is required to build better human capital, while increasing poverty requires stronger safety nets. All this requires more revenue to be collected.

Failure to reach the revenue target for 2023 delayed the release of the second tranche under the IMF’s Extended Fund Facility. Budget 2024, expects to raise tax revenue as a percentage of GDP to 12.1% from the estimated collection of 9.2% in 2023. In nominal terms, this is a 47% increase in tax revenue to LKR 3.9 trillion. Of this, more than one-third is expected from Value Added Tax (LKR 1.4 trillion). While Budget 2024 outlined several administrative measures to strengthen tax revenue collection, the main increase is proposed from changes to the Value Added Tax (VAT). From January 2024, the VAT rate will increase to 18% from 15%, the tax free threshold will be reduced to LKR 60 million from the current LKR 80 million and 87 out of 137 items will be removed from the exemption list.

VAT is adopted by more than 160 countries, accounting for over 30% of their total tax collection. As a share of GDP,  it accounts for around 4% in low-income developing countries and more than 7% in advanced economies.  In Sri Lanka, VAT revenue as a percentage of GDP peaked at around 6% in 2004 but has since declined to 2% in 2022. Ad hoc policy changes and weak tax administration have eroded the tax base and reduced revenue collected from the VAT. 

A close examination of the performance of VAT in Sri Lanka since its adoption in August 2002 highlights the challenges in implementing VAT in Sri Lanka.

Trends in VAT Revenue in Sri Lanka

Analyzing the  trends in VAT revenue collection over the last two decades shows the impact policy changes have had on revenue collection. In 2013, 2016, 2017 and 2018 there was a significant  increase in VAT revenue collection. It is not coincidental that these years saw several policy measures introduced to increase VAT revenue.  

• In 2013 – VAT was introduced for wholesale and retail trade exceeding a threshold of LKR 2 bn.
• In 2016 , 2017 – VAT rate increased to 15%; the threshold reduced to LKR 12 mn, threshold on wholesale and retail trade reduced to LKR 50 mn, exemptions removed on goods and services such as cigarettes, liquor, lightweight electric and electronic goods and telecommunication equipment.
• In 2022 – VAT rate increased to 15% threshold reduced to LKR 80 mn and VAT exemptions were removed on condominium residential apartments.

Source : MOF and Central Bank Annual Reports

Conversely, years like 2009, 2015 and 2020 experienced notable declines in VAT revenue, reflecting policy changes such as reductions in standard VAT rates, increases in registration thresholds and the introduction of exemptions for various goods and services. 

• In 2009 – VAT rate reduced to 12% from 15%  and threshold increased to LKR 2.5 mn  From LKR 1.8 mn. 
• In 2015 – VAT rate reduced to 11% from 12%, and threshold increased to LKR 15 mn from LKR 12 mn.
• In 2020 – VAT rate reduced to 8% from 15% and threshold increased to LKR 300 mn from LKR 12 mn and exemptions on VAT extended to information technology and enabling services, supply of residential accommodation by way of sale of condominium housing units by any person, and supply of services being the supply, lease or rent of residential accommodation.

Measuring Performance of VAT 

The gap between the standard VAT rate and the effective VAT rate  is a crude measure of the VAT performance of a country. A large gap between the standard VAT rate and the effective VAT rate can be observed in Sri Lanka. In 2022, while the standard rate was 15%, the effective rate was only 1.6% (see Figure 2). The significant gap between the standard VAT rate and the effective VAT rate indicates that the VAT system is not collecting the revenue it theoretically has the potential to collect. The gap between the standard rate and the effective rate could be due to base erosion arising from a large number of exemptions, a high threshold, and a large number of transactions occurring in the informal economy. This gap could further increase when the tax administration fails to collect VAT revenue efficiently and effectively. 

Source: CBSL Annual Reports and Advocata Calculation

Table 1: Overview of the VAT structure over the years

Source: CBSL Annual Reports and IRD Performance Reports

Issues in the VAT

• Frequent changes to the VAT rate and threshold

The VAT rate in Sri Lanka has been changed eight times since the adoption of VAT in 2002. This is far in excess of other countries. For example New Zealand, one of the pioneers of VAT, has only changed the VAT rate twice since its adoption in 1986. The Philippines has only changed its standard rate once since its adoption in 1988, while Bangladesh has maintained the same rate since the adoption of VAT in 1991.

More recently, from June 01, 2022, the VAT rate was increased to 12% from 8% and subsequently raised again to 15% from September 01, 2022, indicating that policy changes in Sri Lanka are frequent and ad hoc and lack proper analysis.

Over the years, various rates have been applied to different categories of goods and services, including lower rates, luxury rates, standard rates, etc. Even though the rates were unified in 2004, it has been subjected to several ad hoc changes. These adjustments, often unforeseen, add complexity to the VAT system.

When considering a rate increase to raise revenue, it is essential to evaluate both the efficiency of VAT rates in revenue generation and the potential consequences involved. Increasing the VAT rate beyond an optimal level can adversely affect the purchasing power of individuals and consumption patterns. As VAT is a consumption tax, higher rates translate to increased prices for goods and services. This, in turn, reduces the disposable income of consumers, diminishing their purchasing power. Businesses may also experience reduced demand, affecting production and economic growth. 

• A large number of exemptions

Since the implementation of VAT in 2002, a large number of goods and services have been exempted from VAT due to lobbying by interested parties. These exemptions have been granted without clear economic rationale, resulting in a narrowing of the VAT base. The original VAT Act provided a list of exemptions covering a few selected areas such as unprocessed agricultural products, education and healthcare. But over the years, more items were added to the list of exemptions, systematically eroding the VAT base. 

Granting exemptions to selected industries or sectors such as Information technology can disproportionately favor certain market segments and lead to picking winners. Moreover, VAT exemptions have also been granted under the Strategic Development Projects Act, No. 14 of 2008 (SDP Act), Board of Investments as well as under Colombo Port City Economic Commission Act, No. 11 of 2021. Under the SDP Act, the supply of goods and services for projects identified as strategically important as well as projects that the Minister of Finance identifies considering its economic benefit to the country are exempted from VAT. Such vague criteria for extending exemptions distort markets and create perverse incentives. Exemptions also lead to cascading where exempted goods and economic activities that use these goods and services as inputs are subject to a tax on tax.

A good VAT system is characterized by few exemptions. For instance in New Zealand, only 4 areas such as financial services, sales of donated goods by nonprofit organizations, certain real estate transactions and the supply of precious metals are exempted from VAT/GST. It’s essential for authorities to carefully consider the rationale behind exemptions, keeping them to a minimum to protect low-income individuals and maintain a fair and balanced tax system.

Therefore the planned reductions in VAT exemptions should not be a temporary strategy to achieve short term revenue targets that would be abolished once the economy stabilizes. Rather, keeping exemptions to a minimum should be the long term strategy adopted to ensure VAT is a stable source of revenue for the country.

• Changes to VAT threshold

The VAT threshold in Sri Lanka is one of the highest in Asia resulting in a large portion of the Sri Lankan economy being exempt from VAT. The threshold has been revised six times since the VAT was introduced in 2002. In 2019, the VAT threshold was raised by 2400% from LKR 12 million to LKR 300 million. This  reduced the number of persons registered for VAT from 28,914 in 2019 to 8,152 in 2020 (Table 1). This adds to the compliance problem as it is difficult to keep up with the new changes.

Even with the government’s intention to decrease the VAT threshold from LKR 80 mn to LKR 60 mn with effect from 2024, it will continue to remain high compared to other countries, resulting in a significant portion of the economy being exempt from VAT. There needs to be a clear rationale for determining  the VAT Threshold. The threshold can be determined on the basis of collection costs and the revenue foregone. Exempting small businesses from VAT would be justified as the cost incurred by the tax administration may be greater than the revenue gained.

Figure 3:  Comparison of VAT Threshold across Selected Countries (USD)

Source : Deloitte, PWC, BIDA
Note: Average 2022 USD rate was used for comparison purposes. 

• Weak Tax Administration

Complex filing and payment procedures, coupled with multiple registration requirements and weak audit programs, discourage compliance among potential VAT payers. A streamlined and efficient VAT administration system is crucial for improving tax compliance. At the same time, use of computer generated invoices by the businesses should be encouraged to support VAT collection. The budget speech 2024 highlights the importance of the registered persons using Point of Sales (POS) machines that automate invoicing and sales recording as a measure to improve tax administration. 

Moreover, the frequent amendments to the Value Added Tax Act since its adoption in 2002 (16 amendments in total) pose a major obstacle, affecting revenue estimates and making it challenging for both administrators and taxpayers to adapt to continuous changes. Policy Inconsistency and frequent changes to tax rates, the threshold and exemptions has made compliance harder for businesses as well as made administering the tax more challenging. 

• VAT on Financial Services

Since 2003, financial services have been included into the VAT system. Most countries exclude financial services from VAT due to the sensitivity of the financial sector to costs, the important role financial services play in the economy and the difficulty in calculating value addition attributable to different types of financial services in a VAT system. In Sri Lanka, VAT is applied on the additive method of net profit plus wages, where deduction is not allowed for input taxes paid. Financial institutions tend to pass on the VAT to their borrowers leading to a higher cost of credit.

Fairness of Tax Distribution – Optimizing Tax 

Despite VAT being a significant source of income, its regressivity is a major concern. An analysis of tax incidence showed that the lower income brackets allocate a higher proportion of their expenditure to essential items, such as food, while the higher income category spend more of their income on durable goods, housing and transportation. Therefore, this regressive nature of VAT can be eliminated by granting exemptions on essential items while abolishing exemptions granted on items like fuel, housing etc that disproportionately benefit the rich.

Despite the potential of VAT, revenue collection continues  to fall short of expectations. Ad hoc changes to the VAT regime suggest a short-term revenue focus rather than viewing VAT as a stable, long-term revenue source. The way forward would be to determine VAT rates, thresholds and exemptions based on scientific analysis and clear economic rationale. Applying VAT to most goods and services is ideal, while a well-defined threshold can effectively exempt small traders from the VAT making it less regressive.

Roshan Perera is a Senior Research Fellow at Advocata Institute. She can be contacted via roshananne@gmail.com. Thashikala Mendis is a Data Analyst at Advocata Institute. She can be contacted via thashikala@advocata.org. Janani Wanigaratne is a Research Consultant at Advocata Institute. She can be contacted via janani.advocata@gmail.com. 

The opinions expressed are the author’s own views. They may not necessarily reflect the views of the Advocata Institute or anyone affiliated with the institute.

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Independent policy think tank, the Advocata Institute has raised concerns about the policy by Sri Lankan authorities to enforce minimum room rates for hotels in Colombo starting from October 1st, 2023. 

The gazetted rates are USD 100 for 5-star hotels, USD 75 for 4-star hotels, USD 50 for 3-star hotels, USD 35 for 2-star hotels, and USD 20 for 1-star hotels. 

Issuing a statement, the Advocata Institute said it had examined the policy and its impacts on the hotel sector in its latest policy brief available at https://www.advocata.org/. While authorities argue this is to counter underpricing, Advocata Institute believes it could harm the tourism sector, burdening hotels already facing challenges from the global pandemic. The policy is seen as a threat to competitiveness and unnecessary government intervention, potentially leading to customer dissatisfaction and loss of clients compared to neighbouring countries. Past attempts to enforce price controls were met with limited success, and the Advocata Institute argues that minimum rates restrict flexibility, hinder healthy competition, and disregard the diverse nature of accommodations. The foundation for these rates, based on star classifications, is criticized for overlooking qualitative aspects. 

Advocata is an independent policy think tank based in Colombo, Sri Lanka. We conduct research, provide commentary and hold events to promote sound policy ideas compatible with a free society in Sri Lanka. Visit advocata.org for more information. (NewsWire)

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By Pravena Yogendra

Most HoReCa channels in Sri Lanka sell a packet of chicken rice and curry at a higher price than a comparative packet of fish rice and curry. The price of a portion of chicken rice and curry is ~30% more than that of a portion of fish rice and curry. This differential has remained over time, as this existed in the pre-crisis environment as well, albeit at low prices. 

Is this because of a difference in production costs or due to undue policy intervention by the government? 

Sri Lanka has a long history of implementing price controls dating back to the 1970s. In recent years, the government has implemented price controls on various essential goods, including food, fuel, and pharmaceuticals. While the resulting lower prices may have been popular among consumers, they have had significant unintended consequences on the economy. 

Such price controls create distortions in the marketplace by interfering with the pricing mechanism, thereby preventing resources from being allocated efficiently. The government’s current effort to control the retail price of chicken is a case in point.  

Chicken and eggs are the most affordable and culturally accepted meat source in Sri Lanka. The domestic poultry industry produces 240,000 MT of chicken per year, with current per capita consumption standing at 10.8 kg. 

The recent economic events, such as the forex shortage and the ban on chemical fertilizers, led to a series of events that artificially inflated chicken prices, making them expensive for regular consumption. As a result, the state felt the need to intervene by controlling the price of broiler chicken.  

However, these price controls have only been imposed on the organized/ formal market. Industry specialists classify the domestic chicken market into the formal/ organized market, which accounts for 60% of the market, and the informal/ wet market, accounting for the remaining 40%. Branded broiler chicken producers cater to the organized market, and small and medium-scale poultry farmers cater to the wet market.

The formal market comprises highly productive tax-paying private-sector poultry operators whose products are on par with international quality, health, and safety standards, presenting an excellent opportunity to expand into export markets. This is proven by the fact that these poultry operators supply to sectors that insist on high-quality standards, such as multinational hotels and restaurants operating domestically and abroad.

However, the pricing restrictions imposed on these more productive players have created a situation where the producers cannot pass on their increased production costs to consumers, resulting in them facing compressed profit margins. The short-term implication would be a lower placement of chicks, resulting in a contraction in production, leading to shortages in the market. The medium to long-term significance would be a decline in investments channeled into capacity expansion, which also reduces innovation and technological progress.  

It is also important to note that since the wet market players form the larger part of the industry, they are the price setters; and the branded players must follow suit to maintain demand for their products. Wet market chicken prices are mainly determined by the price and availability of other protein substitutes. 

Taxation significantly impacts the retail price of chicken while the burden on fish is lower. Fish is VAT exempt. The major source of costs is labour and entrepreneurship with inputs such as fuel (kerosene) having low tax incidence. In comparison, chicken is subject to VAT, with most producers lying above the VAT threshold of LKR 80Mn. The major cost is the cost of feed which is subject to VAT. It is estimated that both direct and indirect taxes account for 19.6% of the retail price of chicken. The tax treatment between the two alternatives significantly impacts relative prices, disadvantaging chicken over fish. This non-equitable VAT treatment of the two substitutes is expected to be further exacerbated in January 2024 as VAT rates are set to increase by 3% to 18%. 

Although the state is focusing on controlling the final retail price of chicken, the real issue lies in inflated input costs. Poultry producer’s input costs have escalated due to the depreciation of the rupee, higher staff costs, and higher admin costs. However, manufacturers’ main point of contention has been the feed cost.

Maize is the largest component of poultry feed, accounting for ~60% of weight and 45% of feed cost. Although nutritionists discovered that rice can be used as a 1 for 1 substitute for maize, its utilization for purposes other than human consumption remains highly regulated, resulting in minimal availability.

Domestic maize prices are currently at abnormally high levels as maize production is still reeling from the after-effects of the fertilizer crisis.

Sri Lanka’s annual maize requirement is ~500,000 MT, of which ~300,000 MT are produced domestically. Roughly ~210,000 MT are cultivated during the primary Maha season and another ~90,000 MT during the secondary Yala season. The yield on maize cultivation by smallholders is currently 1.5 tons per acre. However, industry experts believe that a yield of 2.5 tons per acre can be achieved if correct farming practices are deployed. A kg of maize currently retails at ~LKR 160. Pre-crisis, it used to retail at LKR 45.

Industry practitioners believe that several efforts can be undertaken to improve the productivity of domestic maize cultivation, thereby bringing costs down. A higher yield can be achieved if proper agricultural land is utilized. Currently, maize farming is conducted on encroached forest land. Due to red tape, the 17,000 hectares allocated by the Mahaweli scheme for agriculture remain largely unutilized.

Farmers can also yield more if maize fields are irrigated instead of rainfed. Experts also believe that the right farming practices are not undertaken as proper soil analysis and spraying are not performed.

Currently, maize can be imported from Pakistan at USD 250-260 per tonne, which works out to LKR 110 per kg, including a special commodity levy of LKR 25. The SCL is a contentious tax and was even highlighted in the recently issued IMF technical assistance report, citing corruption. 

The SCL is a seasonal, quantity tax imposed on certain essential commodities as a composite tax in lieu of other prevailing levies such as customs duty, VAT, EDB, CESS, Excise duty, PAL, and NBT. The SCL has come under fire as it is subjective and arbitrary, imposed at the discretion of the finance minister, creating uncertainty among industry stakeholders.

In the case of maize, seeds imported for the purpose of animal feed production have been subjected to SCL during lean production periods, to facilitate imports. When the SCL is not in effect, a general duty of 20%, CESS of 30%, VAT of 15%, and SSCL of 2.5% are imposed at the border. 

Therefore, not only does the SCL drive up the cost of chicken, but it also creates uncertainty due to the unpredictability and subjective nature of the tax.

Maize continues to remain a controlled import that can only be imported by license holders. Licenses to import maize are issued by the import controller based on recommendations issued by the agricultural minister, who issues said recommendations based on his view of the industry’s maize requirement. 

Sri Lanka’s organized players are second to none in the poultry breeding process- they have adopted international quality standards regarding feed conversion ratio, mortality rates, farm productivity, etc., putting them on par with foreign players. In addition to being highly efficient, the industry also contains sufficient productive capacity to be self-sufficient, thereby rendering the case for importation redundant.

The industry also maintains biosecurity standards and adheres to industry and farming best practice to ensure healthy, safe, and high-quality output that match the quality and certifications required by export markets.  

The government should step back from intervening in the market for both maize and broiler and allow the magic of the hidden hand to do the heavy lifting. Not only will this lead to more stable prices, but competition will drive further innovation and productivity improvements, leading to more production and lower prices.

Description 

Pravena Yogendra is attached to JB Securities Pvt Ltd and is a contributor to Advocata Institute 

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Independent Sri Lankan policy think tank, Advocata says the recent electricity tariff revision by the Public Utilities Commission of Sri Lanka (PUCSL) is discriminatory.

Issuing a statement, Advocata said electricity tariff design must meet two main objectives: firstly, raising the money needed to pay for the costs of provision, and secondly, sending the right economic signals to each customer to favour the optimal socio-economic use of electricity. 

The Policy think tank further said to achieve the above objectives the principles that must be followed when designing tariffs are; 

1. Economic sustainability or revenue sufficiency, 
2. Equity or non-discrimination among users, 
3. Economic efficiency in resource allocation, and
4. Transparency, simplicity, and stability of the methodology.

A well-defined and appropriate tariff structure must balance the financial sustainability of the sector on the one hand and the well-being of various segments of society on the other. The CEB’s tariff revisions seem to be mainly focused on the aspect of revenue sufficiency, ignoring the other aspects.  As electricity is a commodity, there should be no difference in the prices charged to different users, except when reflecting any differences in the cost of providing services to different classes of users.

A differential tariff implies that some categories are subsidised leading to the question of who pays these subsidies. The current structure is such that households consume an excess of 60 Kwh, and general-purpose bulk supply users subsidise the industrial, hotel and charitable sectors.

Households that consume over 90 Kwh and general purpose bulk customers are charged a tariff that is double that of industries and hotels. With regards to hotels, in effect, domestic consumers subsidise foreign tourists. However, the differential tariff between general bulk supply and industrial/hotel users is meaningless. For example, a hall that hosts weddings and celebrations would be treated as a general bulk customer and be charged double the tariff that a hotel would be charged, even though both host similar events. A restaurant in a shopping mall would be charged as a general customer, but the same restaurant located within a hotel would enjoy a tariff half of that which a hotel incurs. While this differential existed under the previous tariff, it is made worse under the new structure; hotels faced a 10% increase in tariff while general users faced a 20% increase, it said. 

Advocata pointed out that if the idea behind a lower tariff for hotels is to make the sector more competitive, then the solution is to address the causes of uncompetitiveness directly. One area is construction costs which raises the level of investment and the cost of maintenance. Protectionism for the domestic construction materials industry raises the costs of steel bars and rods, sanitary ware, aluminium extrusions, granite, electrical fittings, and carpets resulting in high overall construction costs. The effective protection granted on these items can exceed 200%; the savings in finance costs from a lower capital outlay would probably exceed the savings from a lower electricity tariff.

Economic value creation can take place in many different ways in an economy and the service sector is no less important than other sectors. The cross-subsidisation between customers violates the equity or non-discrimination principle of a good tariff discourages use by the overcharged and promotes overconsumption by the subsidised. 

Advocata said, for example, the higher domestic tariff may serve as a disincentive for remote work. Remote or flexible work arrangements can reduce transport costs, congestion, and energy use and for some, enable a better work/life balance. The government should be facilitating flexible work but the higher rates applicable to some domestic consumers may be a disincentive.

Economic activity is increasingly complex and a value chain can involve many different sectors. For example, the tea industry involves agriculture, processing in factories, transport, warehousing, blending, financing, marketing and exports. Moreover, products are now more knowledge-intensive, so a greater part of the value addition arises in non-production-oriented components of the value chain. With differential tariffs, parts of the same value chain may pay different prices for use of the same commodity.

Further, a lower tariff to “industry” penalises new economy enterprises while promoting highly energy-intensive users. This distorts resource allocation by encouraging excessive energy consumption, and artificially promoting capital-intensive industries where the country may not have a clear comparative advantage. A subsidised tariff also blunts the incentive to economise.

The cost of supplying electricity fluctuates throughout the day, depending on the power generation mix, cost of fuels used, transmission costs and energy losses but as electricity storage is not economically viable, it has to be consumed whenever it is produced. Households with rooftop solar thus enjoy a subsidy. Domestic solar generation takes place in the daytime when the cost of generation is low but the import of electricity to the house takes place at night when the cost of generation is high. Offsetting units generated against units imported results in a subsidy because of the difference in costs between the two. Time of use metres should be mandated for all domestic users on net metering with the import/export being accounted for on the respective time of use tariff. Indeed all users who consume above 60 Kwh should move to the time of use tariff, it said.

Advocata further noted that should the government decide to subsidise the capital or operating costs to serve certain customer classes, it should do so directly from the budget and while a lifeline tariff for the poor is justified the high domestic users pay a tariff 7.4x that of the lowest. Not all households are the same size and an extended family living in a single house may face a much higher tariff although their income level may not differ greatly from the average.

Stating that the PUCSL should review tariffs to prevent the distortions highlighted above, Advocata said instead of cross-subsidies, the regulator should be working to reduce the overall cost of the provision of electricity through better procurement and greater efficiency. 

Treating all costs as a pass-through in computing the tariff is a mistake. The PUCSL needs to set efficiency targets to set fair and reasonable tariffs. The CEB should be incentivised to control its costs by specifying and enforcing performance requirements. Benchmarking CEB performance against regional and international peers to assess relative efficiency is necessary, as is consulting stakeholders on achievable efficiency targets, it added. (NewsWire)

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Sri Lanka ranks 116 out of 165 jurisdictions included in the Economic Freedom of the World: 2023 Annual Report, released by Advocata Institute in conjunction with Canada’s Fraser Institute. 

The current ranking represents a decline in the economic freedom of the country which ranked 104th during 2020. 

The report measures the economic freedom of individuals—their ability to make their own economic decisions—by analyzing the policies and institutions of 165 jurisdictions. The policies examined include regulation, freedom to trade internationally, size of government, legal system and property rights, and sound monetary policy. The 2023 report is based on data from 2021, the last year with available comparable statistics across jurisdictions.

Sri Lanka’s decline in score was driven by 4 out of the 5 sub indicators of economic freedom registering declines in their respective individual scores. These indicators are the size of government, access to sound money, freedom to trade internationally, and the regulation of credit, labour, and business. The only indicators that registered an improvement in its score is the indicator of legal system and property rights. 

“The report captured a stark warning: Sri Lanka’s economic freedom declined prior to the economic crisis of 2022, a testament to the vulnerability of nations with limited economic freedom in the face of economic turmoil. If the country is to recover, Sri Lanka must prioritize economic growth within the framework of maximising economic freedom for its citizens to trade, work, and transact freely in a stable monetary and fiscal environment” said Dhananath Fernando, Chief Executive Officer at the Advocata Institute. 

The number one spot is now occupied by Singapore, followed by Hong Kong, Switzerland, New Zealand, the United States, Ireland, Denmark, Australia, the United Kingdom, and Canada. Other notable countries include Japan (20th), Germany (23th), France (47th) and Russia (104th).

Venezuela once again ranks last. Some countries such as North Korea and Cuba can’t be ranked due to lack of data.

The Fraser Institute produces the annual Economic Freedom of the World report in cooperation with the Economic Freedom Network, a group of independent research and educational institutes in nearly 100 countries and territories. It’s the world’s premier measure of economic freedom.

The report was prepared by Professor James Gwartney of Florida State University and Professors Robert A. Lawson and Ryan Murphy of Southern Methodist University.

According to research in top peer-reviewed academic journals, people living in countries with high levels of economic freedom enjoy greater prosperity, more political and civil liberties, and longer lives.

For example, countries in the top quartile of economic freedom had an average per-capita GDP of US$48,569, compared to US$6,324 for bottom quartile countries. Poverty rates are lower. In the top quartile, less than one per cent of the population experienced extreme  poverty (US$1.90 a day) compared to 32 per cent in the lowest quartile. Finally, life expectancy is 81.1 years in the top quartile of countries compared to 65 years in the bottom quartile. 

“Where people are free to pursue their own opportunities and make their own choices, they lead more prosperous, happier and healthier lives,” Fred McMahon, Dr. Michael A. Walker Research Chair in Economic Freedom with the Fraser Institute said.

See the full report at www.fraserinstitute.org/economic-freedom. 

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