Dual Deficits and Global Pressures Put Sri Lanka’s Economic Revival at Risk

• CNL Reporter
• June 2, 2025
• Business News, News
• Sri Lanka’s Economic
• 0 Comments

NEWS OF THE DAY

The economic revival of Sri Lanka is tenuous as the country is about to have a balance of payments (BoP) crisis, and as-yet unresolved tariffs issue with the United States, and rising geopolitical alignments based on escalating ties with China.

Even after achieving short-term financial stability after a sovereign debt crisis in 2022, Sri Lanka’s path towards sustainable growth continues to be hampered by structural obstacles and tight fiscal space

“There are only four methods that can fix the economy, one is to have a high income, second is to limit the expenditure, third is to maintain the budget deficit by managing the income and expenditure and fourth is to have an influx of foreign exchange income and minimise the outflow,”.vetran economist and former minister Bandula Gunawardana told the Sunday Times.

Sri Lanka is unlikely to fully bridge its projected Rs. 2 trillion budget deficit or resolve its balance of payments (BoP) crisis in 2025 due to major fiscal and monetary constraints, he predicted.

As per Q1 2025 data, the government recorded a Rs. 498.28 billion deficit, with total revenue at Rs. 1,064.66 billion and expenditure at Rs. 1,562.94 billion.

Borrowing is restricted by the Public Finance Management Act, and monetary financing is banned under the Central Bank Act (2023).

On the BoP front, foreign reserves remain fragile (USD 3–4 billion), and Sri Lanka continues to face external debt repayments, high import costs, and limited capital inflows. While remittances and tourism are recovering, they are not sufficient to close the external financing gap.

Despite these challenges, partial stability can be realized through continued IMF support, increased tax collections, grants, and structural reforms such as privatization of SOEs and export diversification.

The government must also complete external debt restructuring to ease pressure on reserves and restore investor confidence, he emphasised.

Sri Lanka cannot fully overcome its budget and BoP crises in 2025, but with strong reform implementation, fiscal discipline, and external support, the country can achieve gradual stabilisation and lay the groundwork for sustainable recovery by 2026–2028, he opined. .

Sri Lanka is also faced with critical fiscal constraints as it grapples to achive revenue targets outlined in the 2025 Budget while dealing with its ongoing current account deficit in the Balance of Payments (BoP), economic analysts added.

The government has to collect Rs 4.2 trillion in total revenue this year, of which Rs 3.9 trillion would be raised through taxes – an increase of 46 percent over last year. Dr. Gunawardana warns that weak tax compliance, delay in the refund of VAT, and widespread application of tax exemptions could threaten such estimates

The IMF emphasised that boosting tax compliance and reinstating an efficient VAT refund mechanism are essential to avoiding further tax hikes and preventing fiscal leakages.

The Fund also warned that new tax exemptions should be avoided to reduce corruption risks and preserve funding for social safety nets.

At the same time, Sri Lanka’s BoP current account remains in deficit, reflecting a wider imbalance between imports and exports. As of 2024, the country recorded a US$ 1.2 billion current account shortfall, fueled by high import bills and modest foreign exchange inflows.

“The country’s dual deficits – the State Budget’s current account deficit and the BoP current account deficit – were central to the 2022 economic crisis,” Dr Gunawardana said. adding that addressing both fronts is critical to long-term recovery.”

Failure to meet previous IMF performance benchmarks has delayed financial support and damaged investor confidence, further complicating the economic recovery path.

The government’s four-pronged strategy is for stabilizing the economy includes: enhancing revenue collection, curtailing recurrent and capital spending, increasing foreign exchange inflows, and reducing unnecessary outflows.

Finance Ministry officials are also reviewing public sector efficiency and import restrictions to manage pressure on the rupee and foreign reserves.

As Sri Lanka navigates a fragile post-crisis recovery, fiscal discipline, transparency, and effective implementation of reforms will be key to building economic resilience and regaining international credibility.