Conflict Alerts

Conflict Alerts # 491, 23 March 2022

The worsening economic crisis in Sri Lanka
The worsening economic crisis in Sri Lanka

In the news
On 17 March, President Gotabaya Rajapaksa addressing the nation, on the current economic crisis claimed: “This crisis was not created by me. When those who contributed to the creation of this crisis are criticizing the government in front of the people today, I am attempting to immediately resolve this crisis and provide relief to the people... The root cause of current issues is our foreign exchange crisis.”

Issues at large
First, a brief note on the current economic crisis. Sri Lanka’s economy was hit hard by the Covid-19 pandemic. It is currently facing the most severe economic and energy crisis recorded in recent history due to the ongoing foreign exchange shortage. The prices of essential commodities have sky-rocketed as inflation hit 15 per cent year-on-year in February 2022, while people queue up for hours outside fuel stations and undergo regular power outages for as long as seven hours daily.

The tourism industry, one of the highest foreign exchange earners, decreased by 70.8 per cent in March 2020 as travel restrictions came into effect. This meant that the country, already struggling due to unsustainable public debt, experienced the rapid dwindling of its forex reserves which fell dangerously low as  USD 1.5 billion in November 2021. The forex shortage resulted in the country being unable to pay for the import of essential commodities which in turn drove up the prices of many day-to-day necessities from food to fuel to pharmaceuticals. The rising cost of living has pushed close to 600,000 Sri Lankans below the poverty line.

Second, the energy crisis. The forex shortage has also triggered an energy crisis as the country is unable to pay for the import of fuel. The fuel shortage in the country has driven the prices of petrol and diesel up to unmanageable levels, and people are forced to queue up outside fuel stations daily. Moreover, the state electricity provider Ceylon Electricity Board (CEB) was prompted to impose daily load shedding as the fuel shortage impacts thermal power plants.

Third, the debt crisis. The country has to repay close to USD 7 billion in loan instalments and sovereign bonds in 2022, resulting in a budget deficit of USD 11.9 billion. However, this has not prevented Sri Lanka from going further into debt as the country is desperately attempting to shore up its foreign reserves. In December 2021, Sri Lanka raised the reserves via a USD 400 million currency swap with the Reserve Bank of India and another USD 3.1 billion swap agreement with China. Similarly, in March, the country acquired another USD 1 billion credit line from India for fuel and pharma imports and is seeking another USD 2.5 billion loan from China. Sri Lanka has already been negatively impacted by its unsustainable debt habits as international rating agencies downgraded the country’s sovereign rating last year citing the risk of debt default – which is a likely possibility unless the country restructures the existing debt.

Fourth, the misgovernance. The erroneous economic policies followed by the Rajapaksa administration are largely responsible for the current crisis. This includes measures such as tax cuts implemented in 2019 as part of the Rajapaksa election campaign which continued to incur budget deficits due to loss of revenue close to $550 billion, Central Bank’s money printing, and the refusal to devalue the rupee, introducing price controls for essentials which in turn resulted in the public having to face artificial shortages created by a burgeoning black market, and ultimately failing to seek an IMF bailout at an earlier stage. While the President had expressed willingness to work with the IMF, the initial assessment report from the IMF calls for drastic austerity measures from Sri Lanka in return. Perhaps as a prelude to subscribing to an IMF programme the government devalued the rupee in mid-March, reducing the buying power of the rupee by nearly 30%, further contributing to the rising cost of living and inflation rates.

Fifth, the external crisis. The island nation feels repercussions of external issues such as the Ukrainian war as the price of oil imports continues to rise globally. The situation is further is exacerbated by the fact that 30 per cent of Sri Lanka’s incoming tourists this year were from Russia, Ukraine, Poland, and Belarus – which had come to a grinding halt since the beginning of the war.

Sixth, the protests. The economic crisis has prompted widespread dissent – both political and non-partisan. Sajith Premadasa led Samagi Jana Balawegaya (SJB) took to the streets on 15th March, protesting the unbearable living conditions that the average citizen is being subjected to and demanding that Rajapaksa led the government to be ousted immediately. However, unlike previous expressions of dissent by the general public, the most recent protest was not mostly politically motivated but was instead a demonstration of the hardships of overwhelmed masses. This is further indicated by the wave of non-partisan people’s protests taking place each night where people line up the streets in silence, holding placards and lit candles. These protests are organized via social media and attract both the young and elderly from the suburbs of Colombo.

In perspective
First, the current economic crisis in Sri Lanka is the result of several factors, namely the impact of the Covid-19 pandemic, debt mismanagement, and the lack of foresight in terms of economic policies implemented. 

Second, if the government is to avert the possibility of default and the risk of falling into further debt, the only recourse available to Sri Lanka at present is turning to IMF to restructure debt. However, this would result in the population being subjected to strict austerity measures imposed by the IMF that would aggravate their economic suffering. 

Third, Sri Lanka’s economic recovery would be an arduous and slow process that might take several years, even if there was a change in the administration. Therefore, while Sri Lanka has displayed resilience in the past, it is likely that the situation will get worse before it gets better. 

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