Fuel subsidies are not social protection

By Dhananath Fernando

Originally appeared on The Morning

This column previously warned that when prices lie, crises follow. Sri Lanka learnt that lesson the hard way in 2022. Yet today, we are once again moving towards the same dangerous path by moving away from cost-reflective fuel pricing.

The Government has now effectively admitted that fuel is being subsidised by around Rs. 100 per litre for diesel and around Rs. 20 per litre for petrol. Sri Lanka consumes roughly 180 million litres of diesel a month and a similar volume of petrol. Even if this subsidy applies only to fuel sold through the State-owned Ceylon Petroleum Corporation (CPC), the cost is staggering. The monthly subsidy bill could easily exceed Rs. 15 billion and amount to Rs. 150–200 billion annually.

To put that into perspective, Rs. 200 billion is equivalent to building nearly two expressway phases of Rambukkana to Galagedara or financing several major infrastructure projects. Instead, we are distributing that money through subsidised fuel largely to those who consume the most energy.

The reality is simple. The non-poor consume far more fuel than the poor. Around 70% of Sri Lanka’s fuel consumption comes from higher-income groups and commercial users who are relatively capable of absorbing price increases. In effect, the subsidy becomes a transfer of public money to people who can already afford to pay market prices.

The bigger issue

The President recently stated at a meeting that, according to CPC calculations, diesel prices should be around Rs. 720 per litre, while it is currently being sold at around Rs. 392. Even after accounting for the estimated Rs. 100 subsidy, there still appears to be a significant gap between the actual cost and the selling price.

The bigger issue, however, is not merely the subsidy itself but the pressure it creates across the entire economy. The President himself acknowledged that Sri Lanka’s monthly fuel import bill, which was previously around $ 200–300 million, was now expected to rise towards $ 500 million.

Artificially low prices encourage higher consumption, especially among those who can afford it. The likely Government strategy may be to hold prices down temporarily in the hope that global oil prices will eventually decline, allowing losses to be recovered later. Unfortunately, this is exactly the same mistake Sri Lanka made before the economic crisis.

Fuel and electricity were both sold below cost for prolonged periods based on political calculations rather than economic reality. Once subsidies are introduced, politics makes it extremely difficult to reverse them. Politicians facing elections and public pressure continue postponing necessary price adjustments, and temporary subsidies slowly become permanent fiscal burdens.

Severe consequences

The consequences do not stop there. Fuel and vehicle-related taxes remain among the Government’s largest sources of revenue. With vehicle imports already constrained, the resulting tax shortfall will eventually need to be filled either through new taxes, lower tax thresholds, or wider tax collection efforts.

It is far more transparent and economically rational to allow consumers to pay the true market price for fuel at the point of purchase rather than recovering the same money later through additional taxes on income, consumption, or businesses.

Sri Lanka’s agreement with the International Monetary Fund clearly emphasises the importance of cost-reflective pricing for fuel and electricity. Even if the Government argues that subsidies can be financed through alternative revenue streams, the signal sent to investors, businesses, and international lenders is deeply concerning. It suggests that Sri Lanka is beginning to drift away from the very stability framework that restored confidence after the crisis. The same concerns apply to delays in electricity tariff revisions.

There is also a dangerous monetary risk beneath the surface. Subsidising fuel for those who do not need support eventually creates pressure on the Government to seek financing elsewhere. Historically, that ‘elsewhere’ has often been the Central Bank.

Today, with greater Central Bank independence, direct monetary financing is no longer easily possible. But political pressure can quickly emerge to weaken those safeguards. Once people are convinced that printing money can keep fuel prices low and distribute more subsidies, the pressure to dilute hard-earned reforms becomes politically attractive. That is precisely how Sri Lanka entered the spiral that led to the 2022 collapse.

Without some level of demand contraction through market pricing, fuel consumption will continue increasing, placing greater pressure on the dollar market. Sri Lanka will then face two painful choices: allow the rupee to depreciate sharply or spend down scarce foreign reserves defending the currency.

Both options carry severe consequences. A weaker rupee pushes inflation and fuel prices even higher, creating a vicious cycle. Meanwhile, depleting reserves damages investor confidence, weakens creditworthiness, and raises concerns about debt sustainability.

None of this means high fuel or electricity prices are desirable. Prices should come down. But sustainable price reductions can only come through productivity improvements, competition, efficiency gains, and better management, not through unsustainable subsidies.

At the same time, rising energy prices do hurt the poorest households disproportionately. The solution, however, is not universal subsidies that benefit the wealthy most. The correct approach is targeted social protection. Sri Lanka must strengthen its social safety nets and increase direct cash transfers for the poorest families rather than subsidising fuel consumption for those who can comfortably afford market prices.

In simple terms, subsidies should protect the poor, not cheap fuel consumption for the rich.

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Tariff hikes on onions and potatoes: Farmers protected, poor forgotten

By Dhananath Fernando

Originally appeared on the Morning

Over the last few weeks, while the Government and Opposition sparred over political theatre, ‘crossing the Rubicon’ as they call it, a decision with far more impact on ordinary people went largely unnoticed. The import tariffs on big onions and potatoes were increased to Rs. 50 and Rs. 80 per kilo, respectively.

The Minister claims that earlier the Special Commodity Levy (SCL) was Rs. 10 for big onions and Rs. 60 for potatoes. The justification? Protecting farmers.

Yes, farmers matter. But protecting them at this cost by placing the full burden on consumers is unacceptable. Sri Lanka is still reeling from its economic crisis. According to a LIRNEasia survey, four million people fell into poverty during the crisis, raising the total to seven million.

World Bank data suggests nearly 25% of Sri Lankans now live below the poverty line. The Department of Census and Statistics (DCS) estimates that one needs around Rs. 17,000 per month just to stay above it. In this context, how do we justify a Rs. 80 and Rs. 50 tariff on two of the poorest man’s dry rations?

When ‘protection’ means higher prices

These tariffs are not unique to onions and potatoes. Similar duties apply to many day-to-day essentials. Take onions: the DCS notes that the retail price is about Rs. 140 per kilo. With the revised SCL, the price will likely hit Rs. 170–180. That means nearly one-third of the price is simply a tax disguised as ‘farmer protection.’

Potatoes tell the same story. At Rs. 300 a kilo, the extra Rs. 20 levy pushes the price to Rs. 310–320. Roughly a quarter of the price is tax. Supermarket shelves already show potatoes at Rs. 340 and onions between Rs. 190 and Rs. 230.

So should we not protect farmers? Of course we must. But let’s remember: farmers already receive fertiliser subsidies, seed subsidies, and other support. If further protection is needed, the better way is direct cash support linked to output. That way, the cost does not cascade to millions of poor consumers who have no escape. After all, the number of onion and potato farmers is tiny compared to the number of people who eat them.

A breeding ground for corruption

Tariffs that change overnight also open space for corruption. Anyone with inside information can import just before the revision and pocket huge windfalls after the levy kicks in. With commodities like onions and potatoes, which last more than a month in storage, the temptation is obvious.

We have been here before. Remember the sugar levy hike years ago? That saga exposed how easy it is to game the system with commodities that have long shelf lives. Garlic, rice, and other essentials are also caught in this cycle of discretionary tariff tinkering.

The vicious cycle

High food tariffs ripple through the entire economy. When essentials become expensive, workers from estate labourers to factory staff inevitably demand higher wages. Over time, these wage pressures erode competitiveness and trap the country in a vicious cycle of high costs and low productivity.

Even the International Monetary Fund’s (IMF) Governance Diagnostic has flagged this issue, urging Sri Lanka to remove discretionary powers over tariffs and taxes. Reforms to the Strategic Development Projects Act are meant to address exactly this kind of arbitrary policymaking.

Who really drowns in the Rubicon?

At a time when taxpayers are already stretched thin, paying some of the highest personal taxes in the region and facing steep border taxes on everything from food to vehicles, an SCL of Rs. 80 on potatoes and Rs. 50 on onions is simply unfair. If farmers are to be supported, it should be done directly, with incentives for productivity, not by inflating the grocery bill of every struggling household.

Politicians may talk about crossing the Rubicon. But for the poorest of the poor, the Rubicon is not crossed; it is drowned in. And they drown in it under the weight of a rising cost of living.

Why economic reality matters more than honesty

By Dhananath Fernando

Originally appeared on the Morning

At least once a week, we find ourselves blaming corruption and criticising how corrupt our current and former leaders are.

Blaming dishonesty and corruption often suggests that honesty alone could solve all our problems. Honesty, integrity, and transparency are universal values that we must all uphold. However, these values alone cannot guarantee success, especially if we lack an understanding of economics and how the world truly works.

The world operates on incentives. People naturally prioritise their self-interest, even when their actions seem altruistic. A common mistake is believing that policies based on good intentions will always lead to good outcomes.

However, in economics and public policy, success is measured by consequences, not intentions. A well-meaning policy, even when created by an honest person, can have disastrous outcomes. Good intentions alone are not an excuse for poor results in economics.

Take the example of the rice, coconut, and egg markets in Sri Lanka. In the case of rice, many believe that a mafia of rice millers hoarding stocks is the root cause of the problem. To address this, price controls were imposed with the honest intention of lowering prices. Instead, this led to shortages in the rice market and the creation of a black market.

When rice imports were allowed, the landing cost was around Rs. 130 per kilo. It was assumed that traders would add a profit margin if the imports were sold without price controls, so a tariff of Rs. 65 was imposed to limit their earnings.

This, however, resulted in consumers paying an additional Rs. 65 per kilo at a time when approximately 25% of the population lives below the poverty line. This demonstrates how well-intentioned policies can backfire when basic economic principles, like how price controls create shortages and tariffs burden the poor, are ignored.

A classic example of unintended consequences is the subsidy for kerosene. The subsidy was introduced to provide an affordable fuel source for poor households. At the refinery level, kerosene is a byproduct closely related to jet fuel.

The subsidy made kerosene so cheap that it created excessive demand, prompting industries to convert boilers and heat-generating systems to run on kerosene. Even tuk-tuks and long-distance buses began mixing kerosene with fuel to cut costs and boost performance. Once again, good intentions resulted in undesirable consequences.

The maize market provides a similar example. To encourage local maize farmers, a licensing system and high tariffs were introduced. This policy led to inflated maize prices, which significantly impacted the poultry industry since maize is a primary ingredient in animal feed.

As feed costs soared, chicken and egg prices increased, driving up the cost of bakery items. At a time when 25% of the population lives in poverty, the policy intended to protect maize farmers ended up raising food prices for everyone, disproportionately affecting the poor.

Even in the coconut market, the story is no different. Coconut imports are prohibited, forcing domestic production to meet all demands, including those for coconut oil and other byproducts. If imports of specific varieties were allowed, the prime coconuts could be reserved for export, potentially increasing export revenue.

While transparency, honesty, and integrity are essential values, they are not substitutes for sound economic principles. Economics operates on incentives and consequences. In public policy, we must focus on outcomes rather than intentions. That’s why, in economics, honesty alone is not enough – it must be accompanied by an understanding of how systems work.