Sri Lanka's Anti-Corruption Reforms: A Double-Edged Sword for Investor Confidence and Market Resilience

Emerging markets have long been a battleground for the tension between political instability and anti-corruption initiatives. Sri Lanka, a nation grappling with both, offers a compelling case study. Over the past two years, the island nation has rolled out a series of anti-corruption measures, including the 2023 Anti-Corruption Act and the National Anti-Corruption Action Plan (NACAP) 2025–2029. Yet, the interplay between these reforms and investor sentiment remains complex, revealing both cautious optimism and lingering skepticism.

The Anti-Corruption Framework: Ambition vs. Execution

Sri Lanka's legislative and strategic efforts are ambitious. The 2023 Anti-Corruption Act, aligned with UN Convention Against Corruption (UNCAC) standards, and the NACAP's four pillars—preventive measures, institutional strengthening, education, and policy reform—signal a commitment to systemic change. The establishment of an Internal Affairs Unit (IAU) within government institutions and a focus on inter-agency cooperation are notable. However, as Transparency International Sri Lanka's 2025 report underscores, enforcement remains weak. Structural issues, such as the dual role of the Attorney General and the absence of a public beneficial ownership registry, continue to erode trust.

The NACAP's emphasis on a “Whole-of-Government and Whole-of-Society” approach is laudable, but its success hinges on institutional independence and public participation—areas where Sri Lanka still lags. For instance, the Right to Information (RTI) Act's proactive disclosure requirements are frequently ignored, and political interference in judicial appointments undermines the rule of law. These gaps highlight a critical truth: even the most well-designed frameworks are ineffective without consistent enforcement.

Investor Confidence: A Fragile Recovery

The impact of these reforms on investor confidence is mixed. While the 2023 Anti-Corruption Act was a condition for the IMF's Extended Fund Facility (EFF) program, FDI inflows in 2023 totaled a modest $730 million, far below regional peers. The Colombo Port City Special Economic Zone (SEZ), a flagship project managed by the China Harbor Engineering Company (CHEC), has drawn attention, but broader sectors like renewable energy and manufacturing remain underdeveloped.

The U.S. International Development Finance Corporation's (DFC) $553 million investment in the Colombo West International Terminal (CWIT) project is a bright spot, signaling conditional confidence. However, U.S. firms operating under the Foreign Corrupt Practices Act (FCPA) report persistent challenges, including opaque procurement processes and cronyism. These issues deter large-scale investments, as companies fear reputational risks and legal liabilities.

The stock market reflects similar caution. By 2025, market capitalization is projected at $15.49 billion, but a compound annual growth rate (CAGR) of -2.06% through 2026 suggests stagnation. Foreign inflows into equities in 2023 were a mere $9.2 million, underscoring the reluctance of global investors to bet on Sri Lanka's recovery.

Credit Rating Upgrades: A Silver Lining

Despite these challenges, Sri Lanka's credit rating has improved significantly. By March 2025, the country's rating was upgraded by at least three notches, driven by IMF-backed reforms, debt restructuring, and fiscal discipline. Domestic borrowing costs dropped from 30% in 2023 to 8% in 2025, while the sovereign risk spread fell from 70% to 5%. These metrics indicate progress in stabilizing the economy, but they also highlight the fragility of the recovery.

The inclusion of Sri Lanka's debt in international bond indices has made its instruments more attractive, yet the 2024 presidential election introduces political uncertainty. Policy reversals or inconsistent enforcement of anti-corruption laws could quickly erode these gains.

Investment Advice: Navigating the Risks

For investors, Sri Lanka presents a paradox: a nation with strategic assets (e.g., the Colombo Port City SEZ) and a recovering economy, yet plagued by governance risks. Here's how to approach this market:

1. Sector-Specific Opportunities: Focus on projects with clear international oversight, such as the CWIT or SEZ initiatives. These are less exposed to corruption and offer tangible infrastructure returns.
2. Long-Term Patience: Structural reforms take time. Investors should avoid short-term bets and instead monitor progress on the NACAP's implementation, particularly in institutional strengthening and transparency.
3. Diversification: Pair Sri Lanka investments with other emerging markets where governance risks are lower. This mitigates exposure to political instability.
4. ESG Alignment: Prioritize companies adopting environmental, social, and governance (ESG) practices. The rise of sustainable investing in Sri Lanka could drive long-term value.

Conclusion: A Path Forward

Sri Lanka's anti-corruption measures are a step in the right direction, but their impact on investor confidence and market resilience remains constrained by enforcement gaps and political uncertainty. While the credit rating upgrade and IMF support provide a foundation for recovery, sustained progress will require stronger institutional independence, public accountability, and consistent policy execution. For now, investors should proceed with caution, balancing optimism with a critical eye on governance developments.

In the end, Sri Lanka's story is a reminder that in emerging markets, the line between reform and stagnation is often razor-thin. Those who navigate it wisely may find opportunities in the island's strategic assets, but only if they are prepared to weather the turbulence.