The micro, small and medium enterprise (MSME) sector in Sri Lankalong hailed as the backbone of the economy is now facing acute stress, with many firms on the verge of collapse amid constrained bank lending and inadequate government relief. While MSMEs contribute over half the nation’s gross domestic product and employ millions, their plight is now emerging as a critical fault‐line.
Speaking on behalf of the Ceylon Federation of MSMEs, President Mahendra Perera warned that the 2026 Budget fails to provide meaningful support to this vital constituency. He highlighted two major concerns: the absence of viable relief for businesses saddled with non-performing loans, and the impending reduction of the VAT registration threshold from Rs. 60 million to Rs. 36 million, effective April 2026 a move he says will squeeze small retailers and shift the burden onto struggling consumers.
Despite the government introducing new credit lines for MSMEs, Perera pointed out that businesses which have already suffered multi-year losses cannot access fresh financing because they are classified as NPLs (non-performing loans). “There is no mechanism for businesses that have been hit over the past five years to obtain new loans,” he told the Daily FT. Many firms remain liquidity-constrained, unable to service existing debt, let alone grow.
Official data underline how critical MSMEs are to Sri Lanka’s economy. The sector is estimated to generate over 52% of GDP and employ around 4.5 million people.
Yet, the support structure is breaking down. A survey commissioned by the government found that during 2019–22 more than one-in-five surveyed MSMEs had closed permanently or temporarily 20.2%.
While some relief measures were introduced such as circulars from the Central Bank of Sri Lanka (CBSL) advising banks to negotiate business revival plans with affected SMEs by 31 March 2025critics say they fall far short of the scale and specificity required.
The bank-execution issue looms large. Many MSMEs report that banks continue to move toward enforcing collateral calls and recovery actions rather than restructuring loans. Such pressure comes just when government-promoted budgeted credit facilities are being rolled out, yet these schemes do not reach enterprises already trapped in NPL status. The mismatch, Perera says, means that while new financing is nominally available, the firms that most need help are excluded.
Adding to the complexity is the value-added tax change. By lowering the registration threshold to Rs. 36 million, the government risks dragging more small retailers into the VAT net and increasing end-consumer VAT burdens potentially reducing demand for MSME-supplied goods and services just as cash‐flow is already under strain.
The MSME crisis also has broader macro implications. With MSMEs accounting for such a large part of output and employment, their distress risks dragging down investment, exports and broader growth momentum. The economy grew by around 4.5% in the first quarter of 2025, but analysts warn that structural damage and enterprise distress could undermine this recovery.
In the coming days, the Federation plans to press the government and engage with banks to advance a practical mechanism that will restore viable access to capital for genuinely affected MSMEs. Without such intervention, the sector may not only shrink but also leave a lasting void in Sri Lanka’s employment and growth engine.
The signs are clear: Sri Lanka’s MSMEs are running on fumes. They require targeted relief, inclusive credit restructuring and demand‐support policies not just new loan schemes that do not reach the hardest hit. Whether policy-makers step in now will determine whether the sector survives or becomes another casualty of the crisis.
