It is hard to imagine a peacetime crisis more severe than that now facing Sri Lanka. Its president has fled without facing the Sri Lankan people or officially resigning. Decades of corruption and mismanagement have been exposed by the economic shocks of coronavirus and Russia’s war in Ukraine.
Sri Lanka has run out of cash. It can no longer pay for imports of food, medicines and fuel. Months of protest have boiled over as demonstrators seized the presidential palace and torched the prime minister’s home. A national emergency has been announced.
The descent into political chaos has been mirrored in the public finances. Hubristic tax cuts and other hapless decisions hollowed out government revenues just as the pandemic struck. The government has run an average annual budget deficit of more than 10 per cent of GDP since 2019.
Debts have mounted. Sri Lanka owes more than $50bn to multilateral agencies, foreign governments and commercial creditors. In May, it stopped making repayments, becoming the first Asian sovereign borrower to default since 1999. It now faces what is likely to be the most complex sovereign debt restructuring in recent memory. The process will be watched closely by other emerging economies that have gorged on debt during the pandemic. The IMF says 38 developing countries are in debt distress or at high risk of it. Observers have raised concerns about Pakistan, Ghana and others.
Sri Lanka owes much of its debt to geopolitical rivals. At least $5bn — twice that amount by some estimates — is owed to China, including emergency finance extended during the pandemic. New Delhi claims to have extended $3.8bn. Japan is owed at least $3.5bn, according to the IMF, with another $1bn owed to other rich countries.
Just getting those lenders to agree would be progress. There may be cause for optimism in that, last month, China joined France as co-chair of the official creditor committee for Zambia, Africa’s first Covid-era sovereign defaulter. But it took China six months to agree and there is no guarantee that its acceptance of a collegiate approach in this instance will be extended to Sri Lanka or any other of its many sovereign debtors now risking default.
This is of enormous significance. China is the world’s biggest bilateral lender. For the 74 countries classed as low-income by the World Bank, it is bigger than all other bilateral lenders combined. But its lending is opaque, and it has traditionally taken an ad hoc approach to debt workouts, dealing with debtors behind closed doors. While often willing to give borrowers more time, it has been reluctant to accept any reduction of what they owe.
The IMF says Sri Lanka’s debts are unsustainable. IMF support will be conditional on creditors first agreeing to provide assurances to restore them to sustainability. Reconciling the competing interests of China and India will be daunting enough. Securing other creditors’ agreement, including that of Sri Lanka’s commercial lenders, often with differing motivations, will be a further giant leap. It will take months, at least.
Initiatives for debt relief introduced in the pandemic by the G20 group of large economies were designed to address unsustainable debts before they turned into crises. Zambia and now Sri Lanka are the latest proof that those initiatives have fallen short.
The IMF, the World Bank and others have urged national governments to join in finding a better solution. Yet the chances of such global co-operation seem more distant today than at the start of the pandemic. The people of Sri Lanka, and of other likely defaulters, will bear the cost.
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