Sri Lanka Economic Crisis: Is Sri Lanka Heading Towards Bankruptcy?

Harshit Verma Harshit Verma
Jan 12, 2022 15 min read
Sri Lanka Economic Crisis: Is Sri Lanka Heading Towards Bankruptcy?

Economics has always been an important thing for a country. You may not like the subject in your school but it is something that is super real in nature. It is basically the allocation of resources to achieve the most optimum efficiency. As the number of people grows in a country, so does the responsibility and the load to be more active and unbiased in every sphere of allocation of resources. Good allocation of resources is important because resources are finite.

If not managed well, the whole economy can just crash. However big or small the economy is. This is what we are reminded of every now and then. This unusual year brought up the news of a country getting economically unstable. The country is Sri Lanka and it is in some very serious economic condition. The people of Sri Lanka are facing extreme situations on their economic behalf. This article is on that topic only. Read this article to know about what is happening in Sri Lanka and what the world is saying about it, how the country plans to get out of this tight phase and much more. Here we go,

A Little Brief About the Sri Lanka Economic Crisis
The Current Situation in Sri Lanka Due to the Crisis
Is Sri Lanka Heading Towards Bankruptcy?
Reasons Behind the Economic Crisis in Sri Lanka
Sri Lankan Government Response to Crisis
India’s Relations with Sri Lanka and the Assistance
FAQ

A Little Brief About the Sri Lanka Economic Crisis

Recently the news broke out about Sri Lanka that the country to the south of India is facing a financial crisis and there are fears of bankruptcy. News resources reported that Sri Lanka is in a super tight place right now and it might have extreme economical conditions in the near future.

The news came when the Sri Lankan government announced a 1.2 billion USD economic relief package for a cure. The economic package is a certainty proof from the government that is optimistic about their future. They want to communicate that the country will not default on its international debt.

The Current Situation in Sri Lanka Due to the Crisis

Sri Lanka’s external reserves were dropped severely in November of 2021. The fall marked the external reserves to 1.6 billion dollars. This fall triggered alarm in most of the domains and quarters of the country. Concerned people warned about this in the government. Economists and Think tank's warned that this fall in foreign reserves will mean a sovereign default in the future.

American credit rating organisation ‘Fitch’, after the event in Sri Lanka downgraded the nation’s rating to CC. A CC rating is the lowest rating just before the defaulter tag. It is to be noted that Sri Lanka had a piling pile of feigning debt over the last few years. However, the island has never defaulted on any of the foreign debts until now.

Fitch Ratings of Sri Lanka
Fitch Ratings of Sri Lanka

This downtrend in the year 2020 is seen as the record breaker for Sri Lanka. The current situation is seen as a super meltdown and has impacted the whole island. Living costs are rising impeccably, food shortages are forecasted up this year and Sri Lanka is seen as that it will default on the debt that it has accumulated.

Having said about the economic crisis and the depleting foreign reserves, there are many issues that Sri Lanka is facing right now. Inflation is seen at an all-time high in the country and the basic living conditions are getting costlier. Food prices are skyrocketing and its treasuries are shrinking.

The economic crisis that the country is facing right now is inhumane and the hole is too deep to get out from. The country appears to be staring at a human crisis that will hurt not only the growth rate in the pandemic era but the basic sustainability index of the country.

According to World Bank estimates, 5 lakh people in Sri Lanka have fallen below the poverty line since the pandemic struck, which it described as a “huge setback equivalent to five years’ worth of progress”.

The World Bank has estimated that about 5 lakh people have fallen below the poverty line and this trend started during the Covid 19 pandemic. This setback was so deepening that it took away Sri Lanka’s five years worth of growth to itself. This is a huge shock for the economy of Sri Lanka and the people who make up the economy.

In further reports, it is said that the country’s economy has contracted by 1.5 per cent, just by the end of the third quarter of 2021. With the new year 2022, it is not going to be easy for Sri Lanka to sustain itself as there are real concerns about the country going bankrupt.

The government, however, said Tuesday the country will not default on its international debt as it announced a USD 1.2 billion economic relief package.
Finance Minister Basil Rajapaksa said Sri Lanka would duly pay the international sovereign bond of USD 500 million due in a fortnight, a PTI report said.

Sri Lanka, which is an Island to the south of India is a great tourist spot. It is estimated that tourism revenue makes up about 10 per cent of the island’s GDP (Gross domestic product). This was the usual rate in the island country.

With the onset of the Covid 19 pandemic, this rate was badly hit and the tourism sector came to a sudden halt. This had really a cascading effect on the earnings of the nation. However, every other major tourist destination faced this issue but the effect was real. Magnified on Sri Lanka as the tourism here makes up a good chunk of the GDP.

While the halting of tourists was a good attack on the economy, there were some other reasons as well. The other ascertained reasons for the fall would include, Heavy Expenditures. The president of Sri Lanka, Gotabaya Rajapaksa did some hefty expenditures during the year.

Gotabaya Rajapaksa - President of Sri Lanka
Gotabaya Rajapaksa - President of Sri Lanka

His government tried to cut taxes from people that impacted government revenues. More and more spending led to less and depleting foreign reserves and thus the reserves hit a rock bottom. The country is very high on loans and grants and has China as a major debt partner. The Guardian recently reported that Sri Lanka has massive debt repayments to China alone.

Sri Lankan rupee (Currency of the island) crashed too. Which is basically termed as ‘Inflation’. Inflation reached an uncontrolled point in Sri Lanka. Leading to a spike in food prices which was the reason for worry for the common citizens of the country. Reacting to the rise in inflation, President Rajapaksa announced an economic emergency in august 2021, just a couple of months before the foreign reserves crash. This emergency was implemented to control the situation and contain it. The effect was to lessen the hoarding of items by people in their homes, which could lead to more severe shortages.

Four months went by and as the inflation rose more, basic goods became unaffordable for the general public. Not just that, it has been reported that even well off or socially rich people are having trouble affording basic needs and wants. These many months, the citizens of Sri Lanka faced a tough time to make both ends meet.

The government had appointed a former army general as commissioner of essential services, giving him the power to seize food stocks hoarded by traders and retailers, and ensure essential items were sold at prices set by the government, but little was done on the ground to lift people out of their misery, the Guardian report said.

What Sri Lanka is facing right now is inhuman and horrendous. The economic conditions there have seen very tight phases but this phase is the most horrific. Adding to that, this is when the whole world is facing a global pandemic which could lead to any ruins. This has broader the possibilities of Sri Lanka going bankrupt. Let us see what the numbers and opinions about the country say.


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Is Sri Lanka Heading Towards Bankruptcy?

This is not a certain statement but the probability of this country going bankrupt has never been this high. It has been reported that the country is super deep in debts and owes tremendous amounts to other counters. Here we are presenting a few stats that prove the misery of Sri Lanka.

Sri Lanka owes an amount that is more than 5 billion dollars to China. This is probably the biggest amount of debt that the country has ever taken. The country is paying the China debt in instalments.

Not only that, but Sri Lanka is also a debtor to Beijing for 1 billion dollars which it took to overcome the previous acute crisis. Along with the major countries and regions that Sri Lanka owes money to, it is reported that there are many private and government entities that it owes money to. This situation of enormous debts and depreciating foreign reserves can be a ‘Checkmate’ situation for the republic of the nation.

"We have high debt from three countries — China, Japan and India. The total outstanding for this year would be USD 6.9 billion," FM Rajapaksa, the younger brother of President Rajapaksa and Prime Minister Mahinda Rajapaksa, was quoted as saying in the PTI report.

The finance minister of Sri Lanka openly announced the amount they owe to countries. He said that Sri Lanka owes a sum total of about 7 billion dollars to countries like China, Japan and even the neighbour, India.

Sri Lanka’s huge foreign debt burden is one of the main reasons for its economic crisis. As of November, foreign currency reserves available with the country were just $1.58 billion, down from $7.5 billion when Rajapaksa became the president in 2019, the report said.
National debt of Sri Lanka
National debt of Sri Lanka

Amid the falling environment, the opposition party in Sri Lanka also took a dig. An opposition member of parliament, Harsha de Silva (who is also an economist) told parliament that foreign reserves would be in the negative if the rate of decline continues. Moreover, the Sri Lankan newspaper ‘Daily mirror’ quoted “The nation will go totally bankrupt”.

Opposition MP Harsha de Silva, who is also an economist, told Parliament in December that the country’s foreign currency reserves would be minus $437m by January, and the total foreign debt services would be $4.8 billion between February and October 2022. “The nation will be totally bankrupt,” Sri Lankan newspaper Daily Mirror quoted him as saying.
De Silva said he was not trying to scare anyone but it was a reality that “all imports will come to a halt, the entire IT system will be shut down including the google map as we will not be able to pay for it”.

The government has however always made an optimistic approach and has insisted that it can meet the obligations.

Minister Ramesh Pathirana has said they would try to settle past oil debts with Iran by paying them with tea. Sri Lanka plans to send $5m worth of tea every month to Iran to save “much needed currency”, The Guardian reported.

Ministers are worried about what the future may look like and all they want is to minimise the damage.

Central Bank Governor Ajith Nivard Cabraal has also said that Sri Lanka would be able to pay off its debts “seamlessly”.
Former central bank deputy governor WA Wijewardena, however, told The Guardian that there were high chances that the country would default on repayments, and that would have catastrophic economic consequences.
“When the economic crisis deepens beyond redemption, it is inevitable that the country will have a financial crisis too. Both will reduce food security by lowering production and failing to import due to foreign exchange scarcities. At that point, it will be a humanitarian crisis,” he warned.

The chances of Sri Lanka defaulting on loans and debts have never been high. However, when we dug up information about the finance department in the government and what the finance minister has to say about this, we found that they have a plan.

The plan is a new and strong relief package that will try to rebalance the economic imbalance. The debt can be looked at as a secondary objective but for now, the thing that they would like to focus on is the foundation of the economy. The employees, pensioners and differently-abled soldiers are the first-hand people who will get the benefits.

The finance minister, meanwhile, said Tuesday they have a plan in place. He said the new $1.2 billion (229 billion Sri Lankan rupees) economic relief package includes payment of a special monthly allowance of Rs 5,000 to 1.5 million government employees, pensioners and differently-abled soldiers from January 2022.

This is by far the response of the Sri Lankan government to the crisis that the nation is facing. Let us now look at some of the major factors on why and how the economy at Sri Lanka sunk this much, the first one is the tourism setback.

Reasons Behind the Economic Crisis in Sri Lanka

Tourism in Sri Lanka and turmoil

The impact of the pandemic was huge on Sri Lanka. Covid 19 has stopped any sort of travel and tourism in the country for a long time now. According to the reports of the world travel and tourism council, nearly 2 lakh people have lost jobs in the travel industry since the pandemic began and globalised.

The loss of foreign revenue is huge too. According to the Hindu report last year, forex reserves have dropped from 7.5 billion dollars to 2.8 billion dollars which is a steep decline and is obviously not healthy at all. The loss of foreign revenue from the sector has been substantial.

Adding to the above-mentioned deficits, the Sri Lankan rupee is depreciating too. This is known as inflation and it is very high in Sri Lanka right now. Basic livelihood items such as food items’ prices have risen manyfold and people have to face difficulties to meet both ends. The nation, for now, has to depend heavily on imports.

Food Shortage in Sri Lanka

Photos of Lines and queues of people can be seen all over the news from Sri Lanka. These are the lines of people who are in a queue to buy home essentials, like food items. Prices of such basic items have risen enormously and are out of reach for many. Prices of bread, rice, wheat, sugar etc have all risen several times.

People standing in Queue in Sri Lanka
People standing in Queue in Sri Lanka 

It has never been hard for poor and middle-class people to buy items like these. The daily wage earners especially are affected the most.

Quoting a man who works as a chauffeur in Colombo, The Guardian report said he has now taken up a second job and his family now eats two meals every day, and not three. He said his village grocer now makes ten 100g packets out of a 1kg milk powder packet because no one can afford to buy the full packet.

The pandemic has just more severely affected those in the nation. The government’s efforts to make Sri Lanka ‘100% organic’ is at a loss. Last year, The Hindu reported that the country is planning to cut the use of chemical fertilisers to almost zero. To which farmers opposed and replied that this will affect food production. Pandemic made the food situation of Sri Lanka more severe.

“The government has no money for fertiliser subsidies. Many of us farmers are reluctant to invest money because we don’t know if we will make any profit,” A farmer was quoted as saying.

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Sri Lankan Government Response to Crisis

At the time of crisis, everyone hopes high from the government and the people of Sri Lanka are hoping the same from the government there. Speaking at the parliament in December 2020, MP, Harsha de Silva said that the only solution to the crisis is to seek assistance from the IMF(International Monetary Fund). He said homegrown solutions would not help, and only the IMF can revive the country’s economy.

The president’s office did not have an official notice or announcement for the citizens and the central bank is appealing for the foreign currency. The government of Sri Lanka is hustling to make things better for the people but it is just too hard. They are trying to stabilise the situation and try to help poor and sick people first and apply that others have to sacrifice a little.

The central bank had earlier last year prohibited traders from trading more than 200 Sri Lankan rupees for a single US dollar, they also have stopped traders from entering into forwarding currency contracts. The government has since been taking temporary relief measures to ease the situation.

Early December, Finance Minister from Sri Lanka Basil Rajapaksa visited neighbour India and commenced talks with his Indian counterpart Nirmala Sitharaman and India’s External Affairs Minister S Jaishankar to which they were thinking to take forward.

Basil Rajapaksa with Nirmala Sitharaman
Basil Rajapaksa with Nirmala Sitharaman

The talks included a total of 1.9 billion dollars of assistance for the country and besides that, a 500 million dollar credit line for fuel and 400 million dollar swap was discussed too. Similar talks were held with China and Bangladesh too.

Of all the reliefs and grants, Rajapaksa (The president) assured that the relief package would not contribute to further inflation and that there won't be any new taxes.

India’s Relations with Sri Lanka and the Assistance

India has always been a healthy and supportive friend to its neighbours. One of my dear neighbours includes Sri Lanka as well. Speaking of help and assistance from India, the news is flooded with nice gestures from the Indian government for the Sri Lankan governments. Let us have a look,

India assured Sri Lanka of its support to ally over these "difficult times" even as it welcomed the Trincomalee tank farms project saying it will augment bilateral energy security.

External Affairs Ministry Spokesperson Arindam Bagchi, when asked at a media briefing on the possibility of India extending the credit line to help Sri Lanka overcome its economic crisis, said it has always stood by the people of that country.

It is a great hope to notice how countries are helping each other in such times. India has agreed to mostly increase the credit line and time for repayments for Sri Lanka. Decisions like these will help foster friendly relationships with neighbouring countries.

After a telephonic conversation with his Sri Lankan counterpart, External Affairs Minister S Jaishankar said India will support Sri Lanka in "these difficult times”. "Greeted FM G.L. Peiris of Sri Lanka in the New Year. A reliable friend, India will support Sri Lanka in these difficult times. Agreed to remain in close touch," Jaishankar tweeted.

"We have seen reports that the Sri Lankan Cabinet has approved the development of the Trincomalee tank farms. Energy security is an important area of our bilateral cooperation with Sri Lanka," he said supporting relations with the neighbour.

The Sri Lankan government replied that after analysing the three existing agreements with the Indian government about the strategic Trincomalee oil tank complex, usually known as the Trinco oil tank farm, the two countries have reached an agreement to implement a joint development project to make

On the query on extending the credit line time by India, Bagchi referred to the visit to New Delhi by Sri Lankan Finance Minister Basil Rajapaksa last month.

"He briefed the Indian side on the economic situation in Sri Lanka and his government's approach in addressing these challenges. India has always stood by the Sri Lankan people and Sri Lanka is an important part of our neighbourhood first policy," Bagchi said relying on support to the island.

The above dialogues and discussion prove that India is ready to help and Sri Lanks are ready to be helped. With the mutual agreements and deals that are beneficial for both the countries, this is going to be a good move. Which eventually and foremostly increases the chances of better relations with Sri Lanka. India always proves that they are very much ready to help out everyone and set an example of moral duties for onlookers.


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Conclusion

It is not that the nation of Sri Lanka has found this issue very sudden, but they were almost seeing it for some time. It's been two years since the pandemic started and globalised but the foreign reserves at Sri Lanka were depleting long back and it shows some leniency. The tolerance of the Sri Lankan government can be detained in the present crisis as a reason for the same.

India as a supporting country has always been together with other countries who are in need. It plans to do the same this year too, even when there is a pandemic and India itself needs support. It is time that every country follows the same rules and morals so that the world can be a happier place to live in. The pandemic has massively accelerated empathy in the world and whatever lies ahead, we can feel a sense of togetherness.

FAQ

Why is there an economic crisis in Sri Lanka?

One of the major reasons behind the economic crisis is the huge debts from China and a severe food shortage.

How much does Sri Lanka owe the world?

The national debt of Sri Lanka is around 64.23 billion U.S. dollars as of 2019.

Is Sri Lanka in an economic crisis?

Yes, Sri Lanka is facing its worst economic and debt crisis.

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