• Foreign funding should ideally be invested in tradeable goods to ensure returns to the country

The utilisation of foreign funding has been in focus this week, with President Ranil Wickremesinghe stating that he has “put an end” to the “unsustainable practice” of using loans to increase wages and reduce costs of food, among other expenses. However, the External Resources Department’s (ERD) 2023 Performance Report shows that a majority of foreign financing disbursements in 2023 have been used for budget support. 

Speaking in Parliament on Tuesday (2), Wickremesinghe said that it was crucial to invest foreign funds (loans and grants) “wisely, rather than using them for daily expenses or salary increases”.  

“This has been one of the primary mistakes our country has made since gaining independence. Loans were used to increase wages; create Government jobs; provide free food; reduce the costs of food, fuel, as well as electricity; and also to cover the losses of public enterprises. 

“Some political groups promise to continue this approach, pledging wage increases, tax reductions, and various concessions without addressing how they will fund these initiatives. They make numerous promises but fail to explain how they will generate the necessary revenue. Since assuming my responsibilities, I have put an end to this unsustainable practice, which has been perpetuated by many previous governments,” said Wickremesinghe. 

2023 breakdown 

The ERD’s 2023 report shows that the Government had obtained foreign financing worth $ 2,121 million, of which 84% ($ 1,774 million) had been committed towards budget support. Accordingly, $ 196 million had been committed towards humanitarian assistance, $ 60 million towards roads and bridges, $ 41 million towards health and social welfare, $ 23 million towards justice and governance, $ 16 million towards food, and $ 5 million towards power and energy. 

The remaining amount of funds had been committed towards education and training, fisheries, and the tourism and hotel industry. 

Meanwhile, the report states that total foreign financing disbursements had amounted to $ 2,568.7 million in 2023 – $ 2,510.3 million had been disbursed as loans and $ 58.4 million had been disbursed through grants.  

The majority of the disbursements recorded in 2023 had been from loan agreements signed with the Asian Development Bank (ADB), which amounted to almost 33% of the total disbursements, followed by the World Bank (29%) and the International Monetary Fund (IMF) (27%).

Accordingly, 67% of the total disbursements had been utilised for budget support while 5% had been used for trade. The remaining funds had been mainly used for health and social welfare (5%), roads and bridges (4%), and ground transport (4%). Disbursed foreign funds had also been utilised for water supply and sanitation, agriculture, irrigation, education, and training. 

Previous years 

In contrast to 2023, in 2016 only 11% of total foreign financing disbursements had been used for budget support, according to the ERD. The highest percentage – 40% – had been utilised for roads and bridges. The total foreign financing disbursements had been $ 1,353.6 million in that year. 

In 2020 as well, the largest percentage of total foreign financing disbursements – 26% – had been used for roads and bridges while the same amount had been used for balance of payments. The total foreign financing disbursements had been $ 1,911.7 million in 2020. 

A 2010 report from the ERD shows that utilisation of foreign financing for roads and transport had increased steadily from 2005 to 2009 but had dropped in 2010. In 2017 too, the highest amount of total foreign financing disbursements had been used for roads and bridges (49%), followed by water supply and sanitation, power and energy, and health and social welfare. 

Need to invest in tradeable sectors

Colombo University Department of Economics Senior Prof. Sirimal Abeyratne told The Sunday Morning that in the past two decades, Sri Lanka had borrowed from abroad but had invested in non-tradeable sectors – those that did not generate foreign exchange. 

“We have a problem repaying these loans. We are earning rupees and trying to convert this to dollars to pay the loans, whereas we haven’t earned much in terms of dollars. Ideally, foreign funding should be invested in tradeable sectors (those that generate output that can be traded across borders),” said Prof. Abeyratne. 

However, he noted that given the current economic issues, Sri Lanka had used foreign funding directly to cover the budget deficit and indirectly to cover public investment programmes. 

“However, we need to achieve significant progress in fiscal consolidation, meaning we should be able to generate adequate tax revenue so that our budget deficit will be manageable and with that, be able to shift the foreign borrowings to other productive uses.” 

He further said that the use of foreign borrowings without any evaluation of the rate of return had primarily been political decisions.

“During the British colonial period, when they borrowed, they had a direct payment method. For example, the railway system was built by borrowing 90% of funds from London capital markets. But within 30 years, the income that was generated from the railway itself was allocated to pay that debt and to complete the other railway lines in the country. Likewise, wherever possible, we should have that debt repayment planned as well.” 

Economist Rehana Thowfeek too noted that foreign loans were being used to bridge the budget deficit. 

“In addition to capital expenditure, this includes a lot of recurrent expenses such as wage increases and energy subsidies. We also use foreign currency that comes in as foreign loans to plug our trade deficit.”

She said that foreign loans should ideally be used in a way that would generate “some kind of return to the country,” pointing to white elephant projects such as the Mattala Rajapaksa International Airport which did not generate such returns.

Need for better prioritisation and sync 

Frontier Research Senior Macroeconomist Thilina Panduwawala said that in the past, an issue of prioritisation had persisted when utilising foreign funds. 

“Most of the foreign loans in the past were used for roads and transport such as building highways. This is an obvious issue – that most of the foreign funding went into one sector. We do need to improve our roads, but the issue is prioritisation. A large amount of funding went into expanding the expressway from Matara to Hambantota and extending the railway to Beliatta. These areas have low density traffic which doesn’t justify the repayment of these large loans,” said Panduwawala. 

Commenting on the more recent past, Panduwawala said that from 2020 to 2021, supporting construction activity had been seen as a straightforward approach to boosting GDP recovery from the pandemic shock.

“During the crisis, budget support was necessary because the revenue wasn’t fast enough to support the expenditures, especially in the latter half of 2022 and first half of 2023,” he added. 

According to him, while multilateral agencies such as the ADB have country partnership strategies and programmes with roadmaps for lending, changes in governments lead to the scrapping of some projects that are in the pipeline. 

On the other hand, most important bilateral lenders like China don’t have a roadmap and instead provide loans on a project-to-project basis, with the Government pitching projects to them, he said. 

“Moving forward, we should focus on proper allocation and prioritisation, with a better sync between the National Planning Department and the budgetary process for capital expenditures,” he recommended.