In today's Finshots we take a look at Sri Lanka's current predicament and see how the country plans to get out of this quagmire

The Story

Sri Lanka is battling one of the worst economic crises since its independence. And if you haven’t been keeping up with the developments, this unfortunate set of circumstances could be attributed to 3 key things.

  1. The pandemic wrecked Sri Lanka’s tourist economy — a sector that contributes 10% to the country’s GDP.
  2. The government decided to go “100-per cent organic.” And in a bid to fully realize this vision, they banned fertilizers. Like all chemical fertilizers. This hit one of their biggest export commodity — Tea. And Sri Lanka hasn’t been the same since
  3. The cumulative effect has translated to lower foreign exchange earnings (Things like dollars and euros). And without enough reserves, the country has been struggling to pay for imports — fuel, food and other stuff.

So how does Sri Lanka get out of this predicament?

Well, most people will tell you that the natural order of things will be restored once the tourism industry fully rebounds. However, that’s easier said than done.

Right now, Sri Lanka is an unappealing tourist destination. Consider for instance - Inflation. In 2021, a kilogram of rice would have cost an average Sri Lankan somewhere between 100–150 Sri Lankan rupees. Today, it costs close to 500 Sri Lankan rupees. And it’s not just rice. A kilogram of milk powder retails at 1,945 Sri Lankan rupees today compared to 1,345 Sri Lankan rupees just a year ago. Many countries have also issued travel advisories warning their citizens of travelling to Sri Lanka. It’s bad. Like really bad.

And then there’s another angle — the war between Russia and Ukraine. According to an Al Jazeera report, about 25% of all tourists that visited Sri Lanka between January and Mid February happened to originate from Russia and Ukraine. However, with the war in full swing, that number has dropped precipitously. So the tourism sector will take a while to fully rebound.

And in the meantime, they need help. If they don’t get it, the economic crisis will push them into a sustained recession. That would be catastrophic — not just for Sri Lanka, but also for its trading partners — including India.

So right now the neighbouring countries are all chipping in. The first order of business is to stabilize the foreign exchange reserves. They need more dollars to ship in oil, food and other essential commodities. And India has already facilitated a $1 billion credit line to this end. They’re also putting together a $400 million currency swap agreement to further bolster reserves.

It’s like this — Sri Lanka will now be able to borrow in dollars to the tune of $400 million and repay in Sri Lankan rupees. This will help them secure their previous foreign exchange reserve. Even China and Bangladesh are chipping in with loans and similar currency swap agreements.

But this won’t be enough. Sri Lanka is already knee-deep in debt — about $51 billion all in all. So a simple intervention won’t do. They need a bailout. A bailout from the International Monetary Fund.

However, that will come with its own set of restrictions. Look at Greece for instance. When the country’s economic woes seemed insurmountable the IMF, alongside the European Central Bank facilitated billions of dollars in exchange for Financial prudence. The basic ask was — “Yes, we will help you through the crisis, but your politicians need to reduce their spending program, end subsidies and open up your borders for more trading partners.”

So if IMF steps in here, they will also likely impose similar conditions.

  1. They’ll probably ask the government to severely cut their spending program. No more splurging on social welfare schemes.
  2. They will also likely recommend privatising loss-making public sector companies
  3. More importantly, they’ll likely try to push a new banking act offering more powers to the country’s central bank. A move that will prioritize long term gain over short term benefits.

And if Sri Lanka complies with these diktats, perhaps they will initiate a bailout. That being said, however, these moves will likely be extremely unpopular in a country that’s already struggling to make ends meet.

So yeah, Sri Lanka’s problems aren’t going away anytime soon and I guess, we will just have to wait and see how things pan out.

Until then…

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