Sri Lanka requires an immediate “bailout” plan from the IMF after Prime Minister Ranil Wickremesinghe declared the island nation officially bankrupt on June 22, 2022, saying, “Our economy is fully collapsed.” These collapses are caused by a number of circumstances. This economic downturn didn’t happen overnight; rather, it was the result of years of failed policies. A hastily implemented program of development and rehabilitation celebrated the conclusion of the civil war in 2009.
Economic statistics of Sri Lankan economy
The Russia-Ukraine conflict has far-reaching global ramifications. Sri Lanka is no different. The economic crisis in Sri Lanka was exacerbated by the COVID-19 outbreak and the ongoing Russia-Ukraine war. The start of the COVID-19 pandemic, which triggered a global recession, exacerbated the situation, and by 2021, the country’s foreign debt had increased to 101 percent of its GDP, threatening an economic disaster. According to government data, China accounted for about 10% of Sri Lanka’s $35 billion foreign debt as of April 2021. Due to the Sri Lankan government’s failure to repay the financial capital loan to China, the strategically located Hambantota International Port (HIP) was given over to China Merchants Port Holdings (CM Port) on a 99-year lease with a payment of US$1.12 billion in 2019. Repayments to China are estimated to be in the range of $400-$500 million, according to the Sri Lankan Finance Ministry. Due to a severe paper shortage, Sri Lanka is experiencing its worst financial crisis since independence in 1948. Colombo owes $6.9 billion in debt service this year, and the country’s foreign currency reserves were around $2.3 billion at the end of February 2022.
India & China: The geopolitics
Following India’s offer of a $1 billion line of credit to purchase basic commodities such as food and medicine, China is nearing a deal with Lanka to provide a $1 billion line of credit to purchase basics. Sri Lanka has $4.5 billion in debt to repay this year, starting with a $500 million foreign sovereign bond that was due to maturity on January 18, 2022. Hambantota Port made an operational profit of $1.81 million in 2016, after generating $11.81 million in revenue and expending $10 million in direct and administrative expenses. CM Port committed roughly $1.12 billion on the port’s revitalization as part of a Public-Private Partnership.
According to the Financial Times, Sri Lanka is experiencing a rising financial difficulty as a result of Russia’s invasion of Ukraine, which has wreaked havoc on two of the country’s most significant tourist attractions, with analysts predicting a default. This year, almost 30% of tourists came from Russia, Ukraine, Poland, and Belarus, and the conflict threatens to stifle that flow. Official records reveal that Sri Lanka generated $3.6 billion in tourism in 2019 before the epidemic dropped it to less than a fifth two years later. Sri Lanka’s government spent 83 percent of its income on debt servicing in 2017, with a quarter of it going to overseas borrowings. From 2019 to 22, external debt repayments are estimated to more than triple, from $2.1 billion in 2017 to $3.3-$4.2 billion every year.
Think Tanks take on Lankan crisis
However, Verite Research, renowned economic think tank based in Colombo on its Feb 2022 reports had said, “The interest that must be paid on past debt has been the key driver of Sri Lanka’s debt rise from 2015 to 2019”. This pile up debt primarily due to irregularities in loan repayment. As explained by Prashant K. Chaudhary & Madhubrota Chatterji, “ Inflation has surged to 14 percent, according to the National Consumer Price Index, in December 2021, for the second month in a row after reaching a double-digit high in November 2021. This has resulted in exorbitantly high prices for everyday consumer products (national consumer price index of 11.2 percent), which many Sri Lankans cannot afford. In December, food costs increased by 6.3 percent, while non-food prices increased by 1.3 percent”.
There are two potential responses to the economic crisis in Sri Lanka: short-term fixes and long-term solutions.
The short-term solution for the Sri Lankan economy would be a bailout, as President Gotabaya Rajapaksa stated that his administration was in talks with the IMF over a rescue package. Experts have emphasized the importance of a bold fiscal consolidation based on high-quality revenue strategies. They recognized room for boosting income tax and VAT rates and reducing exemptions, as well as revenue management reform, given Sri Lanka’s low tax-to-GDP ratio.
Long term measures
Long-term solutions to Sri Lanka’s economic issue will include reorganizing the country’s broader economic, trade, and industrial policy, i.e. diversifying away from tourism and tea exports.
“For Sri Lanka to be competitive, it requires a tax and regulatory environment that positions it as a business-friendly nation.” Explained by Dr. Ganeshan Wignaraja, Senior Fellow of ISAS and Research Associate, ODI. He further explained that Sri Lanka’s ranking of 99th on the World Bank’s Doing Business Index is low by the standards of other upper-middle income economies in Asia, and that the country should ideally target being in the top 35 or 40 in the world by 2025, which requires a major effort in cutting red tape affecting business and digitizing all government services. Expressed worries regarding the future employability of local graduates in the Port City,” he had said. Despite the possibility of reversing the brain drain, there are critical challenges in the university system that must be addressed, including a talent mismatch. The President has acknowledged the issue and emphasized the need of moving toward a curriculum that is appropriate for the Port City (that includes STEM subjects, IT skills and foreign languages). The act of rage has been made illegal, but stronger enforcement is required.”
Similar to how our bodies require ongoing evaluation and care to improve, the economy is a living and dynamic system. The Sri Lankan economy must thus take both short-term and long-term action.