Sri Lankan debt crisis

Ever wondered what it’s like to have your exams cancelled because there aren’t enough papers to print your question papers? Or to see your family’s monthly expenses shoot up 3 times? These are the situations faced by the citizens of our neighbouring country Sri Lanka. Sri Lankans are facing high inflation, huge dip in tourism which once contributed almost 10-12% of its GDP, acute shortage of electricity and numerous other problems. But how did a country whose GDP grew by 9.2% in 2012 come down to 3.57% in just a decade and end up in this mess?

Sri Lanka’s debt crisis can be boiled down to three important reasons:

  • Policy mismanagement by country’s leaders
  • Excessive debts
  • Politics

The current debt crisis was years in making. In 2019, the Asian Development Bank described the Sri Lankan economy as ‘a tale of two deficits’. The country had trade and a budget deficit. Currently Sri Lanka’s debt to GDP ratio stands at a staggering 111%. In simple terms, the country spends more than it earns and imports more than it exports. In such a situation, a rational decision would be to narrow the country’s budget deficit by improving its earnings by increasing taxes, increasing exports, finding avenues to reduce government spending etc. Instead, the Sri Lankan leaders widened this deficit by taking on more debts. During the 2019 presidential election, Gotabaya Rajapaksa promised deeper tax cuts if elected to power. Rajapaksa won the election and then a series of tax cuts were introduced. This saw the government’s revenue decline and the government took more loans in order to manage the budget deficit. Following this move, global ratings agencies downgraded Sri Lanka’s credit rating to near default levels. This made the global investors apprehensive of the country’s economy and fled the country. Soon it became difficult for Sri Lanka to access the global markets.

Another policy debacle made by Rajapaksa was suddenly banning the import of chemical fertilisers which is crucial for farming. Rajapaksa justified this move by stating that it was done to promote organic farming which is good for health. While organic farm products indeed are good for health, it can cause severe food shortage in the short term. This move saw its rice output, a staple food for its citizens, plunge to 50% and the country had to import rice for the first time. But when critics dug deeper, they found out that this move could’ve been undertaken in order to manage the country’s depleting foreign currency reserve. The country’s foreign currency reserve nosedived from $10 billion in 2018 to $1.94 billion in 2022. The country has also banned the imports of luxury goods in order to save its foreign currency. Until 2019, tourism was a huge source of foreign currency revenue. But the easter bombings of 2019 which killed 260 people made the country a less attractive destination for tourists. The pandemic made this situation worse as in 2020, the country welcomed just 173,000 tourists, down from 2.3 million in 2018.

Graph showing decline in forex reserves.

As previously discussed, Sri Lankan leaders have relied heavily on external debts to make up for their budgetary deficits. The country took huge loans in order to fund costly infrastructure projects as it hoped that after completion these projects would generate huge revenues. Thus a series of infrastructure projects like highways, ports followed. But most of it didn’t generate the economic value which the government had anticipated. The country’s external debt rose from $11.3 billion in 2005 to $56.3 billion in 2020. The country was thus debt trapped. China accounts for almost 10% of its external debts. Sri Lanka had to hand over an almost 70% stake in the Hambantota Port along with a 99 year lease to a Chinese company called China Merchants Group Limited as it was built using Chinese loans which the country was unable to repay. This move sparked an outrage in the country and global critics termed this move as China’s debt trap diplomacy.

All of this led to an economic disaster. Sri Lankans are getting power supply for only four hours everyday, inflation has shot up to 18.8%, food prices have soared by 30.2%, the country has insufficient supply of fuel. The country has to make $8.6 billion in debt payments this year while it only has $1.94 billion in foreign reserves. Out of this, $1 billion has to be repaid in the month of July. The government of India has till date given out $2.4 billion in credit lines which includes $500 million of diesel shipments, $400 million currency swap, $1 billion line of credit for procuring medicines and other essentials. The Rajapaksas are expected to travel to Washington D.C to ask help from the IMF. They have also reached out to China and have asked for restructuring of its debts. The entire cabinet of Sri Lanka has resigned from their posts. The citizens are also demanding the resignation of Gotabaya and Mahinda Rajapaksa, the President and Prime Minister of the country. While they haven’t resigned yet, the opposition is trying to move a motion for their impeachment. The Rajapaksa brothers are finding it difficult to gather help from the minorities, monks etc. whose support is crucial for them to remain in power.

This entire saga teaches us that when a few politicians have the control of an entire country for a long period can prove disastrous. The voters should think twice before electing any politician promising freebies as at the end of the day, those freebies are financed by taxpayers money. If the leaders of a country financed its budgetary requirements by taking on huge debts, the future generations will have to face the repercussions. Thus, use the power democracy has bestowed upon you and choose your leaders carefully!

By Nikhilendra Mithanthaya

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