Global Economy

The global economy has faced significant challenges over the last four years, owing to the COVID-19 pandemic, geopolitical conflicts, and extreme weather events that have strained output and fuelled inflation. Despite these challenges, the global economy has demonstrated resilience, with a projected growth of 3.2% for 2024 and 3.3% for 2025. After years of elevated inflation, headline inflation is expected to decline to 4.2% by 2025 and 3.5% in 2026, driven by easing supply chain disruptions and monetary tightening. Notably, this progress has been achieved without triggering a global recession. In advanced economies, disinflation has also avoided adverse effects on employment, owing to faster-than-expected declines in energy prices and labour market support from increased immigration.

The growth rates for key global markets and overall global economy in 2023-24 are outlined below:

Source: IMF World Economic Outlook, January 2025

Inflation in services remains above pre-COVID-19 levels in many countries, and several emerging markets face rising inflation driven by higher food prices, geopolitical conflicts, and climate change impacts. Global growth prospects are also clouded by potential risks, including financial market volatility, commodity price spikes, and ongoing geopolitical tensions. Challenges in China’s real estate sector, given its significant role in global trade, pose further uncertainty. Rising trade protectionism, particularly under the policies of the newly elected US President, threatens to disrupt supply chains and reduce market efficiency.

The shift to lower interest rates necessitates three critical policy adjustments. First, cutting policy rates in many advanced and emerging economies will help alleviate unemployment in developed nations and ease food price pressures in developing ones. Second, tightening fiscal policy is essential to stabilise debt levels and build fiscal buffers, requiring a concerted effort to narrow the gap between revenues and public expenditures (excluding debt servicing). Third, structural reforms must focus on bolstering growth and productivity. This involves addressing pressing challenges, such as ageing populations in some countries, creating opportunities for burgeoning youth populations in others, tackling climate change, and safeguarding vulnerable communities.

Looking ahead, there is cautious optimism for the global economy. The OECD forecasts global growth of 3.3% in 2025, with inflation in OECD countries expected to ease from 5.4% in 2024 to 3.8% in 2025. However, regional growth prospects vary. For instance, China’s growth contrasts sharply with Japan’s dismal performance.

In the short term, although growth prospects in the USA may pick up, there are downside risks in many countries, due to policy uncertainties. Intensive protectionist policies, increasing trade tensions, and the possibility of escalation to trade wars could be harbingers of lower investment, constraints on trade flows, and disrupted supply chains.

Sri Lankan economy

Economic growth

DFCC Bank capitalised on the economic turnaround in 2024, making it a stronger year for the Bank. The Sri Lankan economy is estimated to have grown by 5% in 2024, and is forecasted to grow at a similar rate in 2025. Key contributors for the economic recovery in 2024 included tourism, the recovery of the construction sector and the resilience of food and beverage manufacturing. During the first half of 2024, cement consumption and industrial electricity sales saw significant increases, signalling growth in construction and industry. This was further reflected in a rise in the Index of Industrial Production.

Sector-specific growth rates in the second quarter of 2024 were 10.9% for industry, 1.7% for agriculture, and 2.5% for services. Export earnings and import expenditures also rose year-on-year during 2024 by 10.0% and 29.3%, respectively, with contributions from both industrial and agricultural products. The Central Bank projects annual GDP growth for 2024 and 2025 at 5.0%, surpassing the IMF’s baseline forecast of 2.0% for 2024 and 2.7% for 2025. However, the ADB forecasts a 2.6% and 2.8% growth for 2024 and 2025 respectively.

* Estimated figure

Balance of payments

Sri Lanka’s trade deficit widened to USD 6.07 Bn in 2024 from USD 4.9 Bn in 2023 as import growth grew faster than export earnings. Merchandise exports rose by 7.2% to USD 12.8 Bn, driven by petroleum products, textiles and garments, tea, and coconut-related products, while gems, diamonds, and machinery exports declined. Merchandise imports grew by 12.1% to USD 18.8 Bn, with significant increases in machinery, textiles, chemicals, and consumer goods, despite a decline in fuel imports. Relaxation of imports also helped drive the increase. Total exports reached USD 16.17 Bn in 2024.

The rise in the merchandise deficit was partially offset by robust earnings from tourism and remittances. Tourism earnings soared by 52% to USD 3.2 Bn in 2024, the highest since 2019. The target for 2025 is USD 5 Bn. Foreign remittances reached a record USD 6.6 Bn, an increase of 10.1% over 2023.

Inflation

2024 ended with four consecutive months of negative inflation, as measured by the Colombo Consumer Price Index (CCPI). Although inflation was relatively high in the first two months due to agricultural disruptions and new tax measures, it stayed within low to negative single digits throughout the rest of the period. By year end, inflation had declined to -1.7%. Key factors contributing to this reduction included lower utility and transport prices, moderating global commodity prices, currency appreciation, improved supply conditions, and subdued demand. As the Governor of the Central Bank highlighted, there has been no undue expansion of the money supply during the year.

Inflation is expected to remain within the Central Bank’s target rate of 5% during 2025.

Foreign reserves

Sri Lanka’s foreign currency reserves were maintained at USD 6.1 Bn as at December 2024. The Central Bank purchased a record USD 2.3 Bn from the market during the year, supported by inflows from multilateral institutions such as the World Bank, IMF, and the Asian Development Bank (ADB). Substantial reductions in the fiscal deficit over the past two years have positioned Sri Lanka closer to achieving a primary fiscal surplus.

Financing State Sector

A cost-reflective pricing mechanism was implemented in the state sector, significantly reducing the financial burden on the Treasury. The Central Bank is working to end the practice of the banking sector financing loss-making state-owned enterprises (SOEs). While SOEs are given time to adapt, the pricing mechanism is expected to lower their financial losses. In the future, SOEs will be encouraged to secure funding from the broader banking sector, reducing reliance on state banks to cover deficits.

External financing

Under Sri Lanka’s External Fund Facility Agreement with the IMF, a staff-level agreement was reached in November 2024 for the third review, unlocking an additional USD 333 Mn in financing, totalling the full disbursed quantum under the agreement to USD 1.33 Bn. The new government’s commitment to the agreement ensures its continuity, subject to approval by IMF management and the Executive Board.