Dwindling reserves, mounting debt payments: Can Sri Lanka meet its debt obligations?

  • Cut down non-essential imports to avoid debt trap: Governor

  • SL always repaid on time: Cabraal

  • Country requires significant reforms: Harsha

  • Loans are plasters to heavily bleeding wounds: Eran

By Yakuta Dawood


In the face of deteriorating reserves, a large pile of external debt, and deprived forex earning sources, economists and international agencies have been raising concerns and issuing warnings on Sri Lanka’s economic downturn. With all these, the country’s debt and foreign reserves have become the topics of the town, yet again.

Fitch Ratings, issuing a statement on 14 June, highlighted that the Covid-19 pandemic has exacerbated mounting external debt woes, while on the other hand, Sri Lanka’s “CCC” credit rating reportedly poses challenges in foreign currency sovereign repayment over the medium term amidst lower foreign exchange reserves. Fitch stated that this accelerates sustainability risk of the country.

Fitch also highlighted a devastating truth, which is that a total of about $ 29 billion in foreign currency debt obligations are due for Sri Lanka between now and 2026, against foreign exchange reserves of $ 4.5 billion as of end-April 2021.

“We project foreign exchange reserves to remain at about $ 4.5 billion by end-2021 before declining to $ 3.9 billion by end-2022. Under our baseline, the current account deficit is likely to widen to 2.8% in 2021 and narrow to 2.1% of GDP in 2022. Our forecasts assume remittances will remain resilient in 2021-2022 and tourism is likely to recover only from 2022,” Fitch stated, indicating that there is a substantial risk posed to the sovereign debt repayment ability of Sri Lanka by the year 2026.

Upon this statement, The Sunday Morning Business decided to take a look at Sri Lanka’s reserve position and whether it will be able to repay $ 29 billion by the year 2026, without defaulting on any payment.

Speaking to us, Central Bank of Sri Lanka (CBSL) Governor Prof. W.D. Lakshman stated that now is the time to bring down the foreign-to-domestic ratio of total public debt in order to gradually take the country out of the debt trap, which is possible with some austerity in terms of cutting down on non-essential consumer imports and improving efficiency in the systematic effort of all forms of foreign currency inflows.

“We are confident that not only International Sovereign Bond (ISB) payments, but all other external as well as domestic debt obligations would be met punctually without any delay,” he emphasised.


SL not in danger?

Meanwhile, State Minister of Money, Capital Market, and State Enterprise Reforms Ajith Nivard Cabraal, speaking to The Sunday Morning Business, said that Sri Lanka has not defaulted one cent at any time.

“I want to make it clear to everyone that Sri Lanka will honour its debts. This was the only area where there were some discussions in agencies as well as international forums, at which time we hear regularly from different investment groups regarding certain regulations that they have, but we have always responded to those by making payments exactly on time,” Cabraal said.

He said that the country had the largest-ever facility where Sri Lanka had obtained $ 2.6 billion one time, which the country received and repaid as well. However, he said that at that time, it was necessary because the country had certain reasons based on which we went for the International Monetary Fund (IMF) at that time.

“Now, those reasons are not there anymore. We need to now find ways to increase the foreign exchange inflows into the country, and that is the way we can do this in a very sustainable manner,” Cabraal added.

We also spoke to senior economist and former CBSL Deputy Governor Dr. W.A. Wijewardena, who affirmed that Sri Lanka will definitely be able to repay the debt by the year 2026, as the amount is divided annually with a fixed rate of repayment.

“The annual rate is about $ 4.8 billion to repay the debt obligation. If the CBSL, along with other authorities, maintains the payment procedures, we could repay by 2026. However, strong mechanisms should be adhered to, such as getting foreign inflow into the country, minimising unwanted expenditure, etc. for Sri Lanka to repay the debt,” Dr. Wijewardena emphasised.

A senior official at CBSL, who wished to remain anonymous, shared with us that it is not correct to assume that Sri Lanka won’t be able to repay the debt by just adding the numbers upto five years while comparing with the foreign reserves CBSL has at hand.

“People who say this often forget that there are inflows into the country and five years is a lot down the line. Even though there is a drop in inflows to the government right now, the revival of the tourism industry, improving economic trade and activity, borrowing of money, increase in FDI (foreign direct investment) inflow from Port City, etc. are the solutions for repaying the debt on time. This is how the government has been managing and will do in the future,” the senior official said.

When inquired what the challenges will be in repaying the $ 29 billion by 2026, the senior official stated that it is definitely challenging for Sri Lanka as well as other countries due to the global pandemic, which makes it difficult to predict the future as well.

“We do not know for how long the Covid-19 pandemic will prevail and when the world will come back to normalcy. Right now, the Government is aware of this issue and has come up with strategic ideas such as the Port City that will create a non-debt inflow into the country, where it would be able to repay debt obligations on time,” the senior official further explained.

Meanwhile, speaking to The Sunday Morning Business, Ceylon Chamber of Commerce (CCC) Chief Economist Shiran Fernando spoke about Sri Lanka’s $ 29 billion debt repayment in the context of the next five-and-a-half years and the breakdown each year (which is on average $ 4-4.5 billion) for which we expect the repayments to be met successfully.

When inquired what measures could be taken from an economic point of view, Fernando expressed that Sri Lanka should focus in the next five-and-a-half years on improving reserves position, which could be done by improving the export position (both merchandise and services) and FDI inflow into the country.

“Once the near-term pandemic concerns ease globally and the resumption of tourism takes place, this will also continue to play a vital role in improving foreign exchange. Improving the fiscal position will also assist, whilst also maintaining a positive economic growth trajectory will help in easing our rating concerns,” Fernando explained.


Major challenge ahead

Also speaking to us on the matter, senior economist and Samagi Jana Balawegaya (SJB) MP Dr. Harsha de Silva stated that Sri Lanka is going to have a huge challenge to meet this payment, given the new economic model of import substitution and the industrialisation model which is going to limit the ability to integrate with the world, thereby slowing the growth of the export industry.

“Repaying the debt is not a cash flow or liquidity problem, meaning it cannot be resolved by just taking a loan. The country needs significant reform in its trade policy, tax policy, welfare policy, etc. and unless the Government is willing to undertake these reforms, the economy is not going to be operating for the population ahead of us,” Dr. de Silva noted.

He mentioned that within the last 12 months, the foreign and domestic debt has increased to more than Rs. 2 trillion in comparison to Rs. 5.5 trillion in five years prior to which, meaning Sri Lanka is getting further and further into the debt hole without really addressing the problem.

“These are the few issues the Government will have to concentrate on. We will be able to pay the debt, but it will be a huge challenge they will have to succeed. Therefore, they need to do the reforms that are necessary and relook at the economic model to solve the challenge because the current model will certainly not succeed,” Dr. de Silva added.

SJB MP Eran Wickramaratne too stated that at the moment, the foreign reserves of Sri Lanka is in a very precarious position that is significantly going down, where it could be even $ 2 billion by 2021.

Explaining further, Wickramaratne said that when they handed over the office to the current Government, the foreign reserves were above $ 7 billion, which has rapidly deteriorated within less than two years, adding that the budget deficit too has grown from 5.5% when they were in office to above 14% right now, hence showing that the Government has not created confidence for investors to come into the country or to even obtain debt from other organisations or countries.

“Unless there is a reversal of government policy, it’s going to be extremely difficult. Therefore, for the short to medium terms, the Government has to be committed to a programme of fiscal consolidation to bring the budget deficit down by cutting unnecessary costs and eliminating corruption, while also having a planned programme to increase government revenue,” Wickramaratne said.

He said that once there is a programme for macroeconomic stability, the Government should demonstrate to upload the rule of law in the country than dealing in a repressive way, which will result in international communities partnering with Sri Lanka for investments, retaining the Generalised Scheme of Preferences Plus (GSP+), and expanding into the global market.

Giving a concluding remark, Wickramaratne said that by getting loans from other international countries and organisations, the Government is trying to put plaster in a heavily bleeding wound, adding that, therefore, short-term measures such as swaps, printing money, and arbitrary import bans won’t help the situation in the long run.


Govternment measures

Meanwhile, speaking at a webinar held recently, CBSL Governor Prof. Laksman said there are several measures planned to repay the debt obligations on time. Firstly, the Government is focusing on the export industries – namely, rubber, coconut, garments, gem and jewellery, and IT/BPO (information technology/business process outsourcing) – to increase foreign reserves. Accordingly, measures were taken to appoint ministers and state ministers for each export industry to look into the shortfalls of those respective export industries.

He said that a progress review and follow-up in each identified export sector will be carried out, following an overall export development programme under the National Task Force to strengthen foreign exchange.

Secondly, the Government will move forward with the restriction on the importation of non-essential goods to alter the trade deficit, which could come down by around $ 2 billion. The current account is expected to strengthen further with policy measures of import substitution and export promotion, he said.

Thirdly, the Government is expecting a gradual increase in tourist earnings which would strengthen the current account improvements further. He said that progress made in the vaccination against Covid-19 would stand as a favourable factor in this proposed expansion of tourist earnings.

Furthermore, Prof. Laksman said the Government also hopes to continue to strengthen its current account throughout the year, plans to absorb 10% of workers’ remittance inflows from licensed commercial banks (LCBs) as a measure to strengthen foreign reserves, increase foreign exchange earnings of Sri Lanka by exporting port and airport-related activities, and also increase inflows of FDI and other foreign investments on the Balance of Payment.

In conclusion, Prof. Lakshman said the Government has honoured all its liability, and in spite of the continued adverse speculation by many of an impending doomsday, “the CBSL wishes to reiterate that Sri Lanka will engage with all investments and development partners and implement the envisaged measures to ensure continuous service of the country’s external debt service obligations to build up reserves through no-debt-creating inflows”.

Responding to “critics” of Sri Lanka’s debt situation, Prof. Lakshman said: “Try to gain policy-relevant insights from reading history and not simply through the application of models developed on macroeconomic theory built upon unrealistic assumptions.”

The CBSL Governor promised all foreign stakeholders that all of Sri Lanka remains committed to meet its debt obligations as it has done impeccably in the past, and assured that it has the ability to do so in the future.

Meanwhile, releasing a statement last week, the CBSL Governor stated that at present, their focus is managing Sri Lanka’s debt service obligations. In this regard, the country’s gross official reserves remain at $ 4 billion, without considering the standby swap agreement of approximately $ 1.5 billion with the People’s Bank of China.

He added that inflows expected to the Central Bank include the swap facility of $ 250 million from the Bangladesh Bank which is expected in July 2021, the SAARCFinance swap facility of $ 400 million from the Reserve Bank of India which is expected in August 2021, and the special swap facility of $ 1,000 million being negotiated with the Indian counterpart. These are in addition to the receipt of around $ 800 million under the IMF SDR allocation expected in August 2021, and Central Bank purchases of export proceeds and worker remittances from the market, which would help the Central Bank to build official reserves through non-debt inflows of around $ 700 million annually in the period ahead.