Government faces challenge says IMF

The International Monetary Fund has declared that Sri Lanka’s budget deficit targets for 2009 and 2010 are challenging, due to the slowdown in growth

But the international lender of last resort thinks they can still be achieved.

The analysis came as IMF mission Chief Brian Aitken flew into the country on a 10 day visit with the IMF team in order to head talks on the second review of the IMF loan.

"Achieving the government's target of reducing the underlying budget deficit ... to 7 percent of GDP in 2009, and further to 6 percent in 2010, will be challenging, but these fiscal targets remain within reach," the IMF said in a statement.

"We see a sign of turn around," Aitken told reporters in Colombo. "The budget reforms are the key goals in the next two years. Now that the crisis is basically not a threat, they can focus on tax reforms and expenditure reforms."

The IMF announced that it would loan Sri Lanka $2.6 billion in July, which has contributed greatly in increasing the confidence of foreign investors. Despite of this however, economic growth has not picked up as fast as expected.

"With economic activity well below Sri Lanka’s potential, inflation is expected to remain in single digits next year," said Aitken.

There is no risk of demand-driven inflation as the economic growth of 3.5 percent this year "is way below potential,” he said.

"So until we start seeing a more rapid pick up of credit growth there's no worry about inflation. We see plenty of room for growth before we see any signs of demand-driven inflationary pressures," Aitken said.

"The horse has started to take off but there's still slack in the reins so the cart has still not quite gotten under way."

The government has so far managed to abide by the policy conditions set out by the IMF, in order to receive the loan. Yet, they have been warned about borrowed foreign reserves and their budget deficit.

"We'd like to see more and more reserves generated by economic activity rather than borrowed funds," continued Aitken.

The third $330 million tranche of the loan will be decided in the first quarter of next year, based on Sri Lanka’s performance.