What Sri Lanka Must Do to Become the Hub of the Indian Ocean

As the world’s economic centre of gravity shifts to the east, Sri Lanka is at the crossroads of the emerging world, sitting astride trade routes that connect the east and the west, Asia and Africa, and China and India.

Colombo port. Credit: Asian Development Bank/Flickr CC BY-NC-ND 2.0

BY DANIEL ALPHONSUS ON 30/09/2016

Leveraging Sri Lanka’s thrice-blessed position at the centre of the Indian Ocean, astride the main east-west sea route and at the gateway to South Asia – in other words becoming an Indian Ocean hub – has become something of a mantra for Sri Lanka’s chattering classes. This author is no exception.

Considering Sri Lanka’s post-independence failure to capitalise on this tripartite bounty, this is a long overdue step in the right direction. But identifying opportunities is easy. What inevitably follows – implementation – is harder. After all, at some point, agreements need to be signed, laws passed, organisations shaken-up and concrete poured. To borrow from the lexicon of the Ceylon chamber of commerce, these Indian Ocean hub ambitions have given it focus: what is left is to act and deliver.

A number of significant plans are already underway, but a comprehensive vision or coherent plan remains elusive. So here’s a stab at what a guiding strategy for such plan might look like.

The road to the hub lies through the gate

The Indian Ocean still does not have a nodal point for the transfer of goods and services, people and ideas. But as much as many on the island may dislike this truth, the success or failure of Sri Lanka’s hub plans is inextricably predicated on becoming the gateway to India. The reason is simple: India is by far the pre-eminent economic power in the Indian Ocean region. India accounts for approximately a third of Indian Ocean GDP, 60% of its population and is its engine of growth and is growing at 7.6% per year compared to the Indian Ocean average of 4.2%. India is also the fastest growing major market in the world, with GDP expanding at more than 7%. Therefore, just as the success of Hong Kong and Singapore depended on their being the primary gateways to China, Malaysia and Indonesia, if Sri Lanka wants to become the Indian Ocean’s hub then it must first become the gateway to India.

A further reason Sri Lanka’s hub plans depend on being a gateway is because India is the only major economy where Sri Lanka has a natural comparative advantage for providing hub services. Pakistan and Indonesia are already deeply integrated into Dubai and Singapore respectively. India’s most dynamic and reform-minded states being a stone’s through away is an added incentive – the five South Indian states account for a quarter of India’s national income and 8% of the entire Indian Ocean’s GDP. Moreover, India’s bureaucracy and lumbering pace of reform means that the small Sri Lanka can be nimble enough to compete with hub services like aviation, financial services, regional headquarters and energy – as it is already doing with its ports. The Colombo port alone transfers nearly half of India’s foreign transhipment. Once Sri Lanka is firmly positioned as the gateway to India, it will then be able to develop a cluster base of hub services. This will create the necessary scale and comparative advantage to establish itself as a hub for other Indian Ocean states and capture hub services market share from Dubai and Singapore.

Sri Lanka: the gateway to India

For the last century, the Gateway of India, built in Bombay in 1924, has been India’s symbolic point of engagement with the world. As we approach 2024, Sri Lanka has the last chance of becoming the 21st century’s de facto gateway to India.

In terms of regulation, signing the Economic and Technology Agreement, which will offer Sri Lanka deeper and faster access to the Indian market, is a sine qua non. But being an effective gateway does not just mean being the node through which the world engages with India, but also being the node through which India engages with the world. As a result, Sri Lanka will also have to aggressively pursue similar agreements with other key markets, including China and ASEAN. Applying the principle to the aviation sector, effectively becoming part of the ASEAN single aviation market by signing a Sri Lanka-ASEAN bilateral air services agreement based on the same conditions as the ASEAN single aviation market could strengthen Sri Lanka’s position as an aviation interface between South India and ASEAN. This bold step would also have significant positive spillovers for tourism, a critical driver of post-war growth.

But domestic regulatory reforms are needed too. First, hub services need to be opened up to competition and foreign investment. For example, the 49% bar for foreign ownership of logistics companies, which is preventing Sri Lanka from attracting world class logistics companies, their clients, technology and technical know-how, needs to go. Competitionneeds to be introduced in the aviation and energy sectors: ground-handling, terminal operation, catering and refuelling need to be opened for competition and public-private partnerships. Second, barriers at the border need to be overhauled: regulatory changes need to be taken up to make compliance with government regulation faster and simpler. But process re-engineering alone will not be enough. Sri Lankan policymakers will have to remember, as William Bernstein illustrates in A Splendid Exchange, that historically the success or failure of hubs depends on their commitment to freedom of movement and the rule of law: in particular the speed and sanctity with which contracts can be enforced and compliance with government regulation achieved. As such, significant regulatory changes will be needed to make movement of goods, services and people easier and faster; undergirded by a simple, fair and speedy justice system.

Munster’s map of the Indian Ocean with sri Lanka – Taprobana – prominently in the centre

Hanuman’s bridge: linking the hub to its hinterland

With the the rapidly expanding Colombo harbour, Port City, and revamping of the oil storage tanks at Trincomalee, Sri Lanka’s hub infrastructure is not in terrible shape. However, there are two major lacuna that need to be addressed.

The first is the long overdue second runway at Sri Lanka’s only operating international airport. As a hub-airport, at peak hours, Colombo’s sole runway is already at capacity. Also, in contrast to the port, which can handle the largest cargo vessels, the Bandaranaike Airport cannot handle A380 aircrafts. The feasibility studies for a second runway have long been complete; the challenge is to have the tenacity to address vested interests that could attempt to stall the project. For example, the Katunayake Air Force base, Sri Lanka’s largest air force base, will require relocation to Trincomalee or Hambantota.

The second and far more important piece of kit is one that will secure road and rail access to the Indian logistics system and supply chains. This requires the much discussed but little studied bridge across the shallow waters of the Palk Straits. Studies have tended to focus on the project’s engineering feasibility or approached the issue from a transportation angle. Two economic feasibility studies have been conducted by the Asian Development Bank (ADB) and Sri Lanka’s Board of Investment respectively. But they are not available in the public domain. The only public source known to the author that analyses the bridge’s economic potential is a groundbreaking paper written sixteen years ago in South Asian Survey.

The authors of the paper make the case that capacity limitations in Indian ports, combined with inefficient operations and Sri Lanka’s superior position adjacent to the main east-west shipping route, generates the opportunity for Sri Lanka to further entrench her position as India’s maritime gateway. Although Indian ports, particularly those in the south, no longer suffer from the capacity constraints they experienced nearly two decades ago, the paper’s fundamental intuition appears to remain sound.

Establishing a land-link between Sri Lanka and India could significantly increase the competitiveness of the Colombo port. First, it will reduce the time, cost and administration caused by the repeated loading and unloading of containers that is unavoidable in transhipment. Instead of containers unloading in Colombo, loading and reloading onto lorries for storage at a dry port reloading unto feeder vessels and unloading again at an Indian port, a land link will enable containers unloaded in Colombo to reach South Indian factories and consumers directly by road or rail. Considering Colombo’s efficiency, this will place Colombo at advantage vis-a-vis upcoming competitors like Colachel and Vizhinjam on the Coromandel and Malabar coasts respectively. It could also help capture long-haul market share from the Madras and Bangalore airports. After all Cochin, Tuticorin and Madurai are all closer to Colombo than they are to Madras or Bangalore. Not to mention an undoubtedly significant jump in Indian tourist arrivals who will now be able to experience the Ramayana Trail via an undoubtedly cheaper Ramanaya Train.

Second, although not strictly a hub service in the narrow sense of the word, such a land-link will enable Sri Lanka to kick-start integration into global-value chains by integrating into Indian supply chains. With just-in-time production being the norm, road and rail connectivity will be vital in securing contracts and in keeping costs at a minimum. In fact, it is not only economists who have understood the potential of economic integration with the powerhouse states of South India. For example, the late Lakshman Kadirgamar repeatedly emphasised the importance of “developing ties with the Southern Indian states of Tamil Nadu, Kerala, Karnataka and Andhra Pradesh.”

Third, although the feasibility of this idea post-Hambantota and the new Colombo breakwater need to be evaluated, it could also enable the development of the long unused Trincomalee harbour, described by a young midshipmen at the time, Horatio Nelson, as the “finest natural harbour in the world”. While raw port capacity in Colombo can still expand, expensive land and traffic increases Colombo’s costs. By contrast, land is readily available in sparsely populated Trincomalee. Madurai, the closest transport node to Dhanushkodi, is also 100 km closer to Trincomalee than Colombo. India targeted port development could also propel Trincomalee to become the gateway and hub port for the increasingly important Bay of Bengal, an essential element of any Indian Ocean hub ambitions. Making Trincomalee a container shipping centre will also catalyse plans to make it an energy hub and industrial zone.

Finally, such a bridge could be a unique opportunity for accessing capital. India has an interest in improving its logistical ability to trade and integrating Sri Lanka into its economy and sphere of influence, while China has an interest in making it easier to export its goods and services into India and securing contracts for its construction sector, which is experiencing over-capacity. As a result, the bridge and related infrastructure could be funded by a consortium headed by both the Japan and US-led ADB and the China-led Asian Infrastructure Investment Bank (AIIB) – especially because Sri Lanka maintains excellent relations with all the concerned states. Indirectly involving China via the AIIB may not perfectly palatable to New Delhi, but it would go a long way in defusing the Sri Lankan population’s concerns relating to the bridge. Considering the bridge’s importance to India, that is a price worth paying.

As competition is rapidly intensifying in the region, concrete steps need to be taken with haste. The need for action is all the more pressing because Sri Lanka is experiencing at historical geo-economic sweet spot. With the emergence of the China-Europe freight rail, localised manufacturing spurred by 3D printing and increased use of renewable energy, Sri Lanka’s geo-economic and geo-strategic relevance will wane. To borrow a term favoured by Chinese, this a period of strategic opportunity and Sri Lanka needs to leverage this locational advantage while it lasts.

Since there is a clear prima facie case that such a bridge could constitute a breakthrough for Sri Lanka’s development and hub ambitions, there is an urgent need for the government to take the next step and commission studies on the economic, strategic and technical opportunities and risks of the bridge. The Institute of Policy Studies, Lakshman Kadirgamar Institute and University of Moratuwa respectively come to mind as potential contractors; although open-bidding for research contracts could generate better value for taxpayers. As improving logistics systems, facilitating trade and plugging into value chains is as much in India’s interest as it is in Sri Lanka’s, perhaps the think-tanks could collaborate with Indian counterparts in conducting some aspects of the research. In the fashion of these terribly practical times, consulting the fiendishly practical Singaporeans, who manage their causeway to Malaysia with some panache, could address the fears of those worrying about border-control. Other examples of bridge management could be the Channel Tunnel and Øresund Bridge between Denmark and Sweden. On specific importance in overcoming domestic concerns relating to the bridge is ensuring that any agreements relating to border control address the asymmetrical size and capabilities of Sri Lanka and India. One could also hire contractors that have global experience in border control services to minimise any possible border control issues.

Further, in light of the precious time Sri Lanka has lost over the past four decades, the government should also consider reviving and containerising the Thalaimannar-Dhanushkodi ferry service as a matter of immediate priority. Although serving a bridge-like function, ferry services are much cheaper and faster to implement – granting an opportunity to test the bridge’s economic and security viability too.

To conclude, from the perspective of the longue durée, this is the right time to begin serious work on making Sri Lanka a hub – in fact we’re a couple of decades late to the party. As the world’s economic centre of gravity shifts to the east, Sri Lanka is at the crossroads of the emerging world, sitting astride trade routes that connect the east and the west, Asia and Africa, and China and India. If it wants to make the transition from first world to second, Sri Lanka has no choice but to return to the days when it was an open maritime nation – when its ports were open to the world and the ancient capitals of Anuradhapura and Polonnaruwa were polyglot, multinational metropoles where Buddhist and Hindu, Roman and Chinese, Arab and Malay all traded and transacted at the Sri Lanka’s Indian Ocean emporium.

The recipe for renaissance is just the same today. To become a hub again, Sri Lanka needs the freest, fastest and furthest-reaching possible movement of goods, services, capital, people and ideas. This freedom, especially in a closed and highly-regulated region, will rapidly make Sri Lanka an entrepôt that can compete with Singapore and Dubai. But as it looks out to the seas, Sri Lanka must first reconnect with its hinterland. Then the Indian Ocean will be its oyster.

Daniel Alphonsus worked at Sri Lanka’s foreign ministry and at Verité Research, a think-tank. The views expressed in the article are solely his own.