Fitch Ratings has sounded a cautionary note on Sri Lanka’s fiscal trajectory, highlighting that while the 2026 Budget reflects improvements in deficit management, high public debt and long-term repayment obligations remain key challenges. The ratings agency stressed that sustained revenue growth and disciplined fiscal management will be critical for the government to meet its medium-term targets and maintain macroeconomic stability.
The 2026 Budget, presented on November 7, sets the fiscal deficit at 5.1% of GDP, slightly higher than the 4.5% expected in 2025. Although this represents a modest setback, it still marks an improvement from earlier projections.
Fitch pointed out that Sri Lanka’s stronger-than-expected fiscal performance in 2025 reflected in a revised IMF deficit estimate of 5.4% versus the initial 6.7%—provides some buffer against emerging risks. The government expects the primary balance, which excludes interest payments, to remain in surplus at 2.5% of GDP, above the 2.3% target under the IMF programme, reinforcing policy credibility in Fitch’s assessment.
Revenue mobilization remains central to Fitch’s outlook. While the budget forecasts a slight decline in revenue-to-GDP ratio to 15.4% in 2026 from 15.9% in 2025, Fitch cautioned that any failure to maintain tax growth in line with GDP could erode the country’s credit profile.
External trade taxes are expected to fall by 1.2% after a one-time surge in vehicle imports, while goods and services tax collections are projected to rise 3.5% and income tax by 8%. Fitch described these projections as “conservative,” noting that nominal GDP growth is likely to exceed 7% due to improved VAT registration thresholds and strengthened tax auditing.
Fitch also flagged structural risks in Sri Lanka’s fiscal approach. Underspending in 2025, with public investment at just 3.2% of GDP compared to the 4% target, may limit long-term growth potential. The 2026 Budget includes measures to stimulate investment, including Colombo Airport expansion, LKR 342 billion for road development, tax incentives for digital infrastructure, and public-private partnership legislation for infrastructure projects.
Despite these measures, Fitch emphasized that high public debt remains a critical challenge. Gross government debt is projected to decline only marginally, from 100.5% of GDP in 2024 to around 96% by 2027 well above the 74% median for similar ‘CCC’ rated countries.
Post-2027, debt repayment obligations are expected to rise after the IMF programme concludes, underscoring Fitch’s warning that sustained fiscal discipline, robust revenue collection, and effective debt management are essential to prevent future fiscal stress.
