The Plight of Sri Lanka: How Does a Country Go Broke?
April 25, 2022 | Watsala Shakya
Imagine a country where millions of students are unable to give exams because their country is broke to buy paper for answer sheet. Hospitals have halted surgery because the country can no longer buy medical equipment and medicine. Doctors are now operating patients under mobile phone lights due to the outrageous power cuts in the country that exceeds over 13 hours a day and are becoming more frequent. It’s hard to imagine an entire country going broke, and unable to purchase even the most essentials commodities required for subsistence. This is the reality of the once Paradise Island, Sri Lanka.
What Triggered the Financial Crisis?
The island nation borrowed more than it could repay.
Sri Lanka borrowed excessively more than what it earns, as a result the nation’s foreign reserves dropped to $1.9 billion, with a debt of $8.6 billion to be paid this year. One might wonder how a nation with an exceptionally high social indicators could face such catastrophes. Among the nations of SAARC, Sri- Lanka’s social indicators had always been promising. Sri Lanka is pivotal strategically in the Indian Ocean. It connects the east from the west and is important for trade. Its ports could be important for international trade between economic giants. The world saw Sri Lanka as a promising island nation with potentials of being a port as influential as Shanghai, Mumbai and Osaka, after the country gained independence in 1948. However, in order to develop the ports, the country was short on cash. In addition to this, whatever fund the country had was focused on national security during its civil war (1983-2009). By the time the war ceased, Sri- Lanka had lost all its reputation and promising features that once intrigued foreign investors to develop its ports.
Hopes of Becoming a Trade Hub:
Sri- Lanka never lost hope. The country hope to build an influential port that would soon become a trade hub. The dream project of Hambantota Port hence came to existence. Investors and analysts around the world warned the island nation about how the project was not sustainable and had high probability of failing. But then China stepped in. It invested in the Hambantota Port project.
Development Based on Debt:
Unfortunately, what the investors and analysts feared became reality. The project commercially failed, and Sri- Lanka drowned in debt from China. Since, Sri- Lanka was unable to repay the debt, China bought the project from Sri- Lanka at a discounted rate. Hence, Sri- Lanka was forced to lease the port to China for 99 years. China came out of this project with profit, interest and strengthened its international position. However, Sri- Lanka got the shorter end of the stick from the development projects it started. The nation had funded 70% of all its development funds from Chinese funds. All the development projects were funded from debt without any solid strategies of repayment.
Covid-19:
Sri Lanka’s economy primarily depends on tourism and agricultural export, of the agro-product the nation export falls garments, rubber, tea and coconuts. But when Covid hit, international travel ceased globally. All tourism based Sri–Lankan industries had to halt their operations during the pandemic which stretched on for about 2 years.
The government had just raised VAT from 8% to 15% in December of 2019, with prediction that the following year would see a boom in consumption due to increase in shopping, especially tourist’s shopping. However, lady luck was not Sri- Lanka’s side. Of all the tourists that visited the Paradise Island yearly, 16% were Russians. With the onset of the Russia Ukraine war, the tourism in Sri- Lanka couldn’t recover. The Russia Ukraine War also triggered an onset of price hike on petroleum product, value of gold and other semi-valuable metals, shipping costs around the globe due to which almost every commodity around the globe has been inflated substantially. As a result imports became more expensive. Costs skyrocketed, but the revenue of Sri Lanka had not met up. The Sri Lankan government had also lowered its tax rates as the Rajapaksa government had promised to do so during the election campaign in 2019. All of these factors concocted a financial crisis in the Paradise Island.
Today, Sri Lanka’s net export is valued at negative $10 billion. Sri Lanka’s FOREX Reserve (Foreign Exchange Reserve) was unable to buy even the most basic necessities such as medicine, fuel, paper among others.
Restricted Agriculture
Despite agriculture being one of the primary source of income in the country, Sri Lankan farmers did not diversify the crop it cultivated. The agricultural products were mainly focused on export, rather than national consumption. When the Russia Ukraine war commenced, the wheat and sunflower oil supplied to the country halted, as the world’s largest exporter of wheat- Russia no longer exported wheat, due to this as supply of such commodities fell, the demand of it still roared, as a result the prices hiked internationally. This worked in disfavor of the already dwindling FOREX reserves of Sri Lanka.
The Rajapaksa government had banned all chemical fertilizers in 2021 amid the pandemic. As a result, the country faces a rapid decline in cultivation, agro-production and crops. By the time the government reversed its decision, it was already too late. The farmers had already faced a misfortunate harvest, and had hence suffered. Along with this, the entire economy suffered.
What Will Happen to Sri Lanka?
The debt of Sri Lanka was estimated to be valued around $4 billion by February of 2022. At the same time, the nation’s reserves were valued to be at $2.31 billion. Analysts predict that the island nation will probably receive a 17th IMF loan to turn the crisis. However, the conditions of the loan will probably come with fresh conditions. In a review done by IMF on the island nation’s economy released in March, found that the public debt had reached unsustainable levels with no solid ways nor strategy to repay massive debts.
This will be followed by a deflationary fiscal policy in attempts to revive the economy and mitigate the plight of the Sri Lankan People. The country urgently requires to restructure its debt to restore its economy.
Currently, the country’s rupee has come to the world worst performing currency. Sri Lanka has devalued the currency and is valued at NRS 0.36 as of April while the numbers still decline. By making the currency’s value that low was with hopes of making its exports more attractive to the international market. However, the national production is still very low and production has fallen due to power cuts and shortage of commodities. Due to this, Sri Lanka is currently unable to export goods and services, which makes the devaluation of currency work against the favor of the island nation.
Nations are intervening in attempts to help Sri Lanka. The interim government of Rajapaksa has sought help from mega economies and neighbors – China and India. India is especially aiding Sri Lanka on Fuel by signing a $500 million credit line for diesel shipment. India has also signed a $1 billion credit line for importing essential commodities such as, food and medicine.
On the other hand, China has agreed to offer the “urgent help” required. Despite analysts around the world accusing China pushing Sri Lanka into a debt trap by pushing Sri Lanka into engaging in unsustainable and unpromising developmental project that ultimately lead to failures, the mega nation is offering a $1 billion credit facility and another $1 billion loan. This offering was made after China had provided the Central Bank of Sri Lanka a $1.5 billion swap and a $1.3 billion syndicated loan to the Rajapaksa government.
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