Moody's Investors Service says that the policies of the government have stabilised Sri Lanka's (B1 stable) overall credit profile, although benefits from the post-civil war peace dividend have waned.
Moody's assessment was contained in its annual "Credit Analysis Sri Lanka" report.
In July, Moody's revised the outlook on the sovereign rating to stable, from positive. The action was prompted by: the stabilisation in Sri Lanka's external payments position following the sizable loss of foreign reserves in 2011, but without enough improvement to support a rating upgrade; and the pause in government debt consolidation.
The latest report is an update and does not constitute a rating action, says Moody's.
The report notes that while economic growth has slowed, to 6.4% in 2012 from an average of 8.1% in 2010 and 2011, the previous faster pace of growth was accompanied by an overheating of the economy. The slowdown is primarily a result of the implementation of adjustment reforms in early 2012.
Looking ahead, Moody's projects that growth will be 6% to 7% in 2013 and 2014. At this pace, inflation should remain in the single digit range, although the policies of the government will likely continue to have a growth bias.
Furthermore, although government debt has declined after the end of the nearly three-decade long civil war in 2009, debt reduction has stalled in the past two years and government bond yields widened in both nominal and real terms, as the fiscal payoffs from the peace dividend have dissipated. Moody's expects the government debt to GDP ratio to touch 80% in 2013 and 78% in 2014, broadly unchanged since 2011 and compared with 86% in 2009.
At the same time, Moody's notes that Sri Lanka has financed its current account deficit largely via debt, and while the government expects foreign direct investment inflows to pick up in 2013, such a situation will have little immediate effect on changing a debt-dependent external financing profile.
However, overall, Moody's says that Sri Lanka's economy has benefited from political stability in the aftermath of the civil war, and continued progress in reconciliation and integration of the Northeast region will boost the employment of the country's economic resources and lead to a higher long-term growth rate.