Sri Lanka budget deficit trends showed a sharp improvement in October 2025 as stronger revenues halved the fiscal gap, even as the rupee continued to depreciate amid ongoing monetary and exchange rate policy challenges.
Sri Lanka budget deficit narrows amid revenue surge and rupee depreciation
Sri Lanka budget deficit performance improved markedly in the first ten months of 2025, with official data showing the fiscal shortfall narrowing by 57 percent to 455.8 billion rupees by the end of October. The sharp contraction from 1,060 billion rupees a year earlier reflects a combination of robust revenue growth and restrained current expenditure, a development considered rare in the country’s fiscal history.
Total government revenues rose 33.2 percent year-on-year to 4,336.2 billion rupees during the period. Tax revenue increased by a strong 34 percent to 4,033 billion rupees, supported by higher collections across major tax categories, while non-tax revenue grew 18.6 percent to 302 billion rupees. The expansion in revenue significantly outpaced growth in spending, allowing the government to post a current budget surplus.
Current expenditure amounted to 4,223 billion rupees up to October, remaining below total revenue and resulting in a current account surplus of 112.4 billion rupees. Sustained current account surpluses in the fiscal account are uncommon in Sri Lanka and indicate improved budgetary discipline during a period of tighter monetary conditions and subdued inflation.
Economists note that missing the central bank’s inflation floor of 5 percent and ceiling of 7 percent has helped contain expenditure growth. When inflation remains subdued, tax increases translate more directly into fiscal consolidation because spending remains easier to control. Under high inflation regimes, public expenditure tends to rise automatically, making fiscal targets difficult to achieve and deficits a moving target.
Despite the fiscal improvement, analysts caution that certain expenditure components remain largely uncontrollable. Chief among these are high nominal interest costs, which continue to absorb a significant share of government resources. Elevated interest rates, driven by currency depreciation and external shocks, have increased debt servicing costs and limited fiscal flexibility.
Sri Lanka’s fiscal challenges are closely linked to long-standing issues in monetary and exchange rate policy. Observers trace persistent budget instability back to the early 1980s, when currency depreciation intensified following policy shifts under the International Monetary Fund’s Second Amendment. Monetary instability and depreciation have since been cited as structural contributors to chronic fiscal deficits.
Debate over exchange rate policy has intensified as the rupee weakened further in 2025, depreciating to around 304 against the US dollar by October, from approximately 290 in November 2024. Analysts point out that much of the depreciation this year occurred through deliberate exchange rate policy actions, even as monetary conditions periodically turned deflationary.
Some economists argue that treating the exchange rate as purely market-determined undermines the core function of money. They stress that money must retain a stable value to serve as a reliable unit of account and store of wealth. Without a firm monetary anchor, exchange rate instability can erode confidence, disrupt cross-border transactions, and elevate interest costs.
Sri Lanka recorded current account surpluses in recent months despite the weakening currency, complicating traditional narratives that link depreciation solely to external deficits. Current account surpluses often indicate capital outflows rather than excessive domestic spending, suggesting that currency pressure can persist even when external balances improve.
While the narrowing Sri Lanka budget deficit has removed one commonly cited justification for currency instability, projections indicate that fiscal pressures will resurface later in the year. By October, capital expenditure reached 582 billion rupees, up from 531 billion rupees a year earlier, with full-year capital spending expected to exceed one trillion rupees as delayed payments and transfers are finalised.
The government recorded a primary surplus of 1,639 billion rupees during the first ten months, but interest costs totalled 2,084 billion rupees. Full-year interest expenses are estimated at around 2,650 billion rupees, a level expected to push the current budget back into deficit by year-end. High nominal interest rates continue to reflect deeper structural issues tied to monetary instability.
Sri Lanka is projected to end 2025 with an overall budget deficit of 1,248 billion rupees, an improvement from 1,707 billion rupees in 2024. Spending is expected to remain within approved limits, partly through the reallocation of 50 billion rupees to support Cyclone Ditwah-related expenditures.
Looking ahead, the 2026 budget projects a deficit of 1,757 billion rupees, with an additional 500 billion rupee supplementary allocation announced for cyclone recovery. While revenue-led consolidation has delivered near-term gains, economists warn that sustaining fiscal stability will depend on durable monetary anchors, lower interest costs, and consistent exchange rate policy.