Great recession: Danger or opportunity for Sri Lanka?

Oct 12, 2009 (LBO) – It is worth discussing the assessment of a Nobel Laureate of the Great Recession and its implications for Sri Lanka. Michael Spence, who shared the 2001 Economics Nobel with Joseph Stiglitz and George Akerlof and chairs the Growth and Development Commission believes that the key problem is the one trillion dollar deficit in demand.

To fill the deficit, housing prices will have to return to peak bubble prices. This will not happen; therefore other solutions have to be found. If the deficit is not bridged, one trillion dollars worth of supply will have to be taken out. That means factories closing and jobs disappearing.

Can Asia in particular, and the global South in general, fill the demand deficit?

Mike Spence cannot be blamed for the following arguments except for a key element that I build upon.  That is his conclusion from work of the Growth Commission that the two major contributors to growth in developing countries have been integration to global value chains and increasing application of knowledge to economic activities.

Both can be illustrated with reference to the garment industry.  Both through rural garment factories of the Premadasa era and the foreign job opportunities of more recent times, the industry has moved thousands upon thousands of families out of poverty and made a major contribution to growth.  It has done so through participation in global value chains and increasing use of knowledge to increase value addition, especially in the aftermath of the end of quotas.  The latter is illustrated by the research and development that has positioned Sri Lanka as the lingerie capital of the world.

Demand will increase in the developing world only if there is growth.  Growth will occur only to the extent that we integrate more closely with diversified global value chains and increase the knowledge intensity of our services, manufacturing, and agriculture.  The value chains should not all lead to the United States, especially now that demand has contracted in that market.

What, other than sound economic management including low inflation and realistic exchange rates, can governments of the developing world do to facilitate the growth that is needed to dig the whole world out of the hole we’re now in?  Much.

First, they need to remove the barriers to the smooth functioning of value chains.  Ports and airports need to be improved, internal transportation links to ports and airports need to be transformed.  Suffice to say that Sri Lanka’s transport infrastructure is inferior to that of Bangladesh, according to the “Doing Business” survey of the World Bank Group.

ICTs are a key element of logistics.  Better use of advanced ICT solutions can contribute to greater integration into global value chains.  Primacy should be given to expediting shipments while ensuring security using ICTs, rather than using security as an excuse for rent seeking.

When it comes to greater applications of knowledge to services, manufacturing and agriculture, ICTs are obviously critical.   High leased line prices, both domestic and foreign, must be brought down.  While not at the bottom of the table, there is much room for improvement by Sri Lanka in relation to our neighbour, India, as can be seen from the table below.

High-quality, low-cost leased lines with a choice among suppliers is a necessary condition for the effective application of knowledge to services, manufacturing and agriculture and their better integration to global value chains.

Sri Lanka made considerable, but incomplete, progress is this regard with the end of the international exclusivity of Sri Lanka Telecom in 2002.  Prior to the 2002-04 reforms and the considerable efforts by multiple actors within the government to attract the marquee BPO, the HSBC regional service center on Parliament Road, the BPO [Business Process Outsourcing] industry was almost non-existent in Sri Lanka.

By 2007, the IT and IT enabled services sector (software and BPO) had become the fifth largest generator of export value in the country, according to an EDB sponsored survey conducted by PriceWaterhouseCoopers.  The software industry had created 17,400 jobs by 2007 while the BPO industry had created 5,200.  While the BPO industry is still smaller than the software industry, it had a much later start.

The more or less (less because of economic mismanagement) successful transition of the garment industry to the post-quota regime illustrates the successful application of knowledge in global manufacturing value chains.

Agriculture, the most traditional and least productive of the three main sectors, is the most challenging in terms of knowledge application and integration into global value chains.  Companies like CIC are now exporting bananas to the Middle East under tightly controlled and relatively knowledge-rich conditions.

In agriculture, the constraints are less knowledge-related and more regulatory.  For example, farmers are prohibited from growing anything else on paddy land and of course they cannot consolidate holdings because they lack full title.

So yes, there is much that governments can do to build on the main conclusions of the Growth and Development Commission regarding how people escaped poverty in the past decades.  And these actions can put money in the pockets of hitherto poor people.  That money will translate into demand for goods and services that can help fill the global demand deficit.  And thereby help the world dig itself out of the hole it now finds itself in.