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The overall balance of the balance of payments recorded a lower deficit of US dollars 22.3 million during the third quarter of 2004, compared with the deficits of US dollars 40.2 million in the first quarter, and US dollars 183.0 million in the second quarter.

This brought the overall balance for the first nine months of the year to a deficit of US dollars 245 million compared to a surplus of US dollars 485 million during the corresponding period in 2003.

The deficit is largely attributed to the higher expenditure on imports mainly on petroleum products and other intermediate goods and investment goods, and slowing down in foreign financial inflows under program loans to the government, a press release from the Central Bank said.

There are however, positive indications that the balance of payments will improve significantly by the end of the year.

Export earnings which expanded at a substantially higher rate (36 per cent) in October, is expected to maintain the growth momentum while a deceleration in imports is expected due to the contractionary impact of the measures implemented and the decline in petroleum prices in international markets.

Tourist arrivals and worker remittances have continued to grow at faster rates since the second quarter 2004. Meanwhile, foreign financial inflows to both the government and private sectors have increased significantly.

The government has already received a program loan disbursement of US dollars 100 million from Japan, while another US dollars 35 million loan disbursement from ADB is expected in December. Private sector capital inflows augmented significantly with the international bond issue of the Sri Lanka Telecom.

On account of these developments, the deficit in the overall balance of payments has already improved to about US dollars 165 million and official reserves which declined to US dollars 1,929 million by end October 2004, has improved to about US dollars 2,130 million by December 16, 2004.

The balance of payments position is expected to improve further with the continued high growth in exports, the utilisation of bilateral credit facilities from India and Iran for oil imports and the realisation of even higher program and project loan inflows from other donors during 2005.

Continuing global economic recovery helped Sri Lanka's exports to sustain the growth momentum with exports earnings growing by 7.9 per cent to US dollars 1,537 million in the third quarter of 2004 over the corresponding quarter in 2003.

Meanwhile, imports grew by 19.1 per cent (US dollars 318 million) to US dollars 1,982 million in the third quarter of 2004 from US dollars 1,664 million in the same period last year.

During the third quarter, imports of investment goods increased by 13.8 per cent and intermediate goods by 26 per cent and these two categories accounted for 92 per cent of the expansion in imports.

The main contributory factor for the increase in expenditure on intermediate goods was the sharp rise in oil prices in international markets.

The increase in import prices far exceeded the rise in the export prices of Sri Lankan exports and hence the terms of trade deteriorated by about 7.2 per cent in the third quarter. The trade balance expanded by US dollars 205 million to US dollars 445 million.

However, if petroleum prices had remained unchanged the trade balance would have increased only by US dollars 131 million to US dollars 371 million from US dollars 239.4 million in the third quarter of 2003.

The export earnings in the first nine months of 2004 increased by 9.0 per cent to US dollars 4,143 million from US dollars 3,802 million in the corresponding period in 2003.

Foreign Exchange Market and Exchange Market Developments, January-November 2004

The domestic foreign exchange market, which experienced relatively high volatility during early part of 2004 stabilized in the middle of the year and rupee/dollar rate reached Rs.104.91 per US dollar towards the end November.

Lower than expected foreign inflows and higher expenditure on import largely due to higher oil prices and relatively heavy demand for the investment and intermediate goods and the seasonal demand for imports during March/April caused some instability in the foreign exchange market and exerted pressure on the exchange rate. The Central Bank intervened in the market to contain excessive volatility in the forex market.

The rupee depreciated by 7.8 per cent to Rs.104.91 per US dollar by end November 2004, in comparison to the appreciation of rupee against the US dollar by 0.24 per cent during the corresponding period in 2003.

The exchange rate has been relatively stable during the second half and recorded a depreciation of only 2.3 per cent since end June 2004.

The rupee weakened against almost all other major currencies during the period from January to November 2004, such as the pound sterling (13.1 per cent), the Japanese yen (11 per cent), the euro (12.5 per cent) and the Indian rupee (9.5 per cent), in comparison to the depreciation of 6.3 per cent, 7.3 per cent, 11.8 per cent and 3.9 per cent, respectively, during the same period in 2003.

Reflecting these currency movements, the rupee depreciated against the SDR by 10.8 per cent at end November 2004. The Nominal Effective Exchange Rate (NEER) (based on 24-currency basket) depreciated by 10.4 per cent during the first eleven months of 2004.

The somewhat higher depreciation of nominal rate has caused the Real Effective Exchange Rate (REER) (based on 24-currency basket) to depreciate by 3.6 per cent, indicating an improvement in the external sector competitiveness.

Outlook for the Year

Preliminary data for October and November indicate that imports are slowing down while exports are growing faster than earlier expected signalling a narrowing down of the trade deficit in the fourth quarter.

Meanwhile, better than expected increase in tourist arrivals, especially of high spending tourists, and large number of containers handled by Port Authority during October and November indicate that services account surplus will increase significantly in the fourth quarter.

Recent data indicate that worker remittances are also growing at a faster rate during the fourth quarter.

Consequently, the current account deficit is expected narrow down significantly in the fourth quarter. With the successful US dollar 100 million International Bond issue by the Sri Lanka Telecom in November and the higher receipts of loan inflows to the government from Asian Development Bank, Japan and other donors, the financial account is expected to improve substantially.

Reflecting these developments the overall BOP will record a surplus in the fourth quarter and accordingly the overall deficit for 2004 is projected to be relatively small.

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