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Cablegate: Central Bank Governor Confident On Economic Growth

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PP RUEHBI RUEHCI
DE RUEHLM #0967/01 2940625
ZNR UUUUU ZZH
P 210625Z OCT 09 ZDK
FM AMEMBASSY COLOMBO
TO RUEHC/SECSTATE WASHDC PRIORITY 0646
INFO RUEHKA/AMEMBASSY DHAKA PRIORITY 1956
RUEHIL/AMEMBASSY ISLAMABAD PRIORITY 8992
RUEHKT/AMEMBASSY KATHMANDU PRIORITY 7230
RUEHNE/AMEMBASSY NEW DELHI PRIORITY 3375
RUEHCG/AMCONSUL CHENNAI PRIORITY 9553
RUEHKP/AMCONSUL KARACHI PRIORITY 2543
RUEHCI/AMCONSUL KOLKATA PRIORITY 0433
RUEHBI/AMCONSUL MUMBAI PRIORITY 6853
RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
RUCPDOC/DEPT OF COMMERCE WASHDC PRIORITY

UNCLAS SECTION 01 OF 02 COLOMBO 000967

SENSITIVE
SIPDIS

DEPARTMENT PASS TO EEB JENNIFER PETERSON
DEPARTMENT PASS TO TREASURY FOR MALACHY NUGENT/ATTICUS
WELLER AND MARY BRENNAN
DEPARTMENT PASS TO USTR FOR MICHAEL DELANEY AND VICTORIA
KADER

E.O. 12958: N/A
TAGS: CE ECON EFIN ETRD KTEX PGOV
SUBJECT: CENTRAL BANK GOVERNOR CONFIDENT ON ECONOMIC GROWTH
AND RECONSTRUCTION; DEFENSE BUDGET IS SRI LANKA'S BUSINESS

REF: COLOMBO 944

COLOMBO 00000967 001.3 OF 002


1. (SBU) Summary. In his introductory meeting with
Ambassador Butenis, Sri Lankan Central Bank Governor Ajith
Nivard Cabraal described the Sri Lankan economy as strong.
Cabraal expects Sri Lanka to make large strides in the
reconstruction of the conflict areas in the North and East.
Cabraal parried questions about the economic impact of Sri
Lanka's strained political relationship with the West by
returning to his theme about the strength of the Sri Lankan
economy. Cabraal expressed confidence that Sri Lanka would
generally meet the IMF targets to reduce GSL budget deficits,
although he allowed that the IMF realizes that the GSL may go
over the targets for reconstruction spending. Cabraal denied
any connection between the IMF and defense spending,
maintaining that the IMF only sought to reduce government
deficits, and it was up to the GSL how to spend the money.
Finally, the GSL is prepared with an assistance package for
the private sector if the European Union withdraws GSP Plus
trade preference benefits. End Summary.

A Strong Economy Allows Sri Lanka to Meet IMF Targets

2. (U) The Sri Lankan economy has weathered the global
downturn well, according to the Central Bank Governor.
Cabraal thought that Sri Lankans had regained their economic
confidence, highlighted by a booming stock market (see
reftel). He rattled off the familiar positive economic
statistics: the Central Bank has raised its growth estimates
from 2.4 percent to 3.5 percent for 2009 and expects 6
percent growth in 2010; inflation has fallen from 26 percent
to 1 percent; interest rates have dropped from 23 percent to
9 percent; and foreign exchange reserves have grown from 2 to
5 months of import cover.

3. (SBU) Cabraal asserted that Sri Lanka is on line to
meet its IMF targets. He noted that the IMF program lends
confidence to the Sri Lankan economy, and it is still
important for the GSL to stick to the IMF program to maintain
investor confidence. Cabraal stated that the GSL has greatly
benefited from falling interest rates, which have
substantially reduced the GSL's debt payments. (Note. Sri
Lanka's debt service constituted 21 percent of its government
budget in 2008, so interest rate savings are substantial.
End Note.) The IMF budget targets will not constrain GSL
spending for reconstruction of the North and East, he
maintained. The IMF recognized that national reconstruction
costs are a priority and that the deficit targets could be
adjusted. New IMF representative Koshy Mathai essentially
confirmed this view. The IMF recognizes that Sri Lanka is at
an historic moment, and as long as the reconstruction
spending is reasonable the IMF could make some allowances on
its deficit targets.

Reconstruction of the North and East

4. (SBU) According to Cabraal, there has been great
progress rebuilding the Eastern part of the country liberated
from the LTTE several years ago, and the GSL will apply the
same model to the North. The GSL has emphasized road
construction, and the government is looking for donor
assistance to help rehabilitate more roads. The East,
traditionally a breadbasket of Sri Lanka, has begun
cultivation of crops. The GSL also has a microcredit lending
program that has made 1,900 loans to families. The next step
is to rebuild more police stations, schools, and hospitals.
Cabraal believes that the North has great potential to
contribute to overall growth. For example, in 1982, before
the conflict began, the North exported 50,000 metric tons of
fish, but in 2007 Northern fishermen exported a mere 7,000
metric tons of fish.

GSL Will Decide Its Defense Budget; Not the IMF

5. (SBU) Ambassador Butenis questioned why the GSL had

COLOMBO 00000967 002.5 OF 002


increased its defense spending by 15 percent in a
supplementary budget request and asked if this would be an
issue with the IMF. Cabraal argued that it was up to the GSL
to determine its own internal spending targets, and the IMF
was only concerned with the overall government deficit
numbers. Therefore, if the government spends more on the
military, as long as the GSL cuts spending elsewhere or
raises revenue sufficiently to reduce the overall budget
deficit, the IMF should be satisfied. IMF Representative
Mathai would not put the issue quite so baldly, since the IMF
does pay attention to the composition of the budget.
However, Mathai stressed that the IMF would respect a
sovereign government's spending priorities. Mathai thought
that Sri Lanka would need to show some defense savings in the
2010 budget to meet the IMF government budget deficit target
of 6 percent of GDP, but Mathai noted that the GSL military
is performing many non-military roles in the North, including
reconstruction and police work.

Impact of Political Tensions on the Economy

6. (SBU) On several occasions Ambassador Butenis noted
that political tension over the end of the war and the closed
IDP camps could impact the economy. Cabraal sidestepped
these concerns by returning to his overall picture of a
strong Sri Lankan economy, and he never directly addressed
the potential for economic costs due to political tensions.

GSL Plan to Cope with the Possible Loss of GSP Benefits

7. (SBU) After the Cabraal meeting, the European
Commission recommended to the European Union revoke Sri
Lanka,s GSP Plus benefits on human rights grounds, which
would result in an estimated USD150 million trade loss for
Sri Lanka. The EU process is lengthy, and even if the EU
finally decides to revoke GSP Plus benefits, this will not
occur until mid 2010. Cabraal anticipated this issue, and
claimed that the GSL was ready with a 'Plan B' if Sri Lanka
lost GSP Plus. The GSL would provide subsidies to exporters
for up to one year, and Cabraal also expected that the
exporters would benefit from interest rate reductions and
lower electricity prices (because several coal plants are due
to come on line). In the end, he believed that the exporters
could adjust to the loss of GSP Plus.

8. (SBU) Comment. Governor Cabraal is an excellent
salesman who skillfully made the case that Sri Lanka's
economy is in good shape and does not need further
assistance. Although the GSL likes to portray itself as
fine without GSP Plus and maintains that Sri Lanka can ride
out any donor ire about its military spending, we continue to
emphasize that the political tensions have economic
consequences, hope that this message is getting through to
GSL leadership. The GSL has been very concerned about the
potential loss of GSP Plus benefits, and it must know that it
needs substantial donor assistance to rebuild the North and
East. End Comment.
BUTENIS

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