Why Sri Lanka Needs a Sustainable Fiscal Strategy
By the Frontpage Journal Business Desk
Sri Lanka’s economic narrative in 2024 was marked by an unmistakable shift in liquidity dynamics. After grappling with persistent deficits throughout 2023, the domestic money market moved to a notable surplus by the end of 2024. According to the Annual Economic Review 2024 published by the Central Bank of Sri Lanka, this transition was supported by net foreign exchange purchases amounting to approximately Rs. 858 billion, inflows from bilateral partners, and well-timed foreign currency swaps. These actions provided short-term
relief, boosted confidence, and signaled an improved macroeconomic outlook.
Yet behind the numbers lies a more complex challenge. Liquidity surplus is not recovery. While monetary interventions have stabilized short-term funding conditions, the sustainability of this recovery hinges on whether Sri Lanka can pivot to a disciplined fiscal framework. Without credible long-term reforms to reduce fiscal vulnerabilities, the same cycle of instability could repeat.
The government’s fiscal imbalance, characterized by persistent budget deficits, low revenue mobilization, and heavy reliance on domestic borrowing, remains one of the economy’s most critical weak points. Over the past decade, Sri Lanka has faced recurring twin deficits: a fiscal deficit financed through inflationary borrowing and a current account deficit that drains foreign reserves. Monetary easing, while useful in a crisis, cannot resolve structural fiscal weaknesses.
In this context, the Central Bank’s liquidity management, though effective, serves only as a temporary stabilizer. The real challenge is on the fiscal side of the equation. Despite short-term gains, public debt levels remain high, and interest payments continue to consume a significant share of government revenue. The country’s tax-to-GDP ratio remains one of the lowest in Asia, undermining the government’s ability to invest in growth-driving sectors such as health, education, and infrastructure.
To address these challenges, Sri Lanka must adopt a multi-year sustainable fiscal consolidation strategy. This does not simply mean austerity, it means smarter spending, broader tax coverage, and better revenue administration. Rebuilding fiscal space must go hand in hand with targeted social protection and investment in productivity.
A key priority is strengthening tax revenue through administrative modernization and progressive tax policy. Broader coverage of income, corporate, and value-added taxes will be necessary to ensure fairness and resilience. At the same time, expenditure rationalization must focus on curbing non-essential subsidies while preserving essential services and capital investment.
Equally important is restoring public trust in fiscal governance. Citizens and investors alike are more likely to support reform when government spending is seen as efficient, transparent, and development-oriented. In this regard, public financial management reform, including digitized procurement, fiscal reporting, and performance-based budgeting, can play a pivotal role.
International support will be critical. Debt restructuring, when paired with a credible fiscal roadmap, can ease short-term repayment pressures and open up fiscal breathing space. Sri Lanka’s engagement with the IMF, bilateral creditors, and multilateral institutions must be matched by domestic reforms that show long-term commitment to fiscal prudence.
Moreover, aligning fiscal and monetary policy objectives is essential to avoid sending conflicting signals to markets. A coordinated policy approach, where monetary easing supports investment and employment, and fiscal policy focuses on consolidation and growth-enhancing spending, can build investor confidence and reduce inflationary pressures.
The Central Bank’s decision to gradually scale back Open Market Operations and overnight reverse repo operations by the end of 2024 signals a cautious return to market-determined liquidity allocation. But this also places greater responsibility on the fiscal side of policy to sustain stability. In other words, the liquidity surplus must now be matched by structural fiscal surplus, or at least a credible path to achieving it.
The coming years must be about embedding resilience into the economic framework. Sri Lanka cannot afford to rely indefinitely on external inflows or liquidity injections. It needs a plan that addresses the root causes of fiscal imbalance while laying the foundation for sustained, inclusive growth.
The time for firefighting is over. The opportunity created by a more stable liquidity environment must be seized to build a fiscal architecture that is fair, growth-oriented, and capable of withstanding future shocks. Only then can Sri Lanka transition from liquidity relief to lasting recovery.
Source: Central Bank of Sri Lanka, Annual Economic Review 2024
