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Sri Lankan citizens are hitting the streets en masse to call for the government’s resignation after financial mismanagement has left the country paralysed

Sri Lanka is in the midst of its greatest economic crisis since independence. The island nation of 22 million people is suffering widespread hardship due to a lack of food, medicine, fuel and other vital commodities. Protests have erupted around the country, and people are clamouring for President Gotabaya Rajapaksa and Prime Minister Mahinda Rajapaksa, who are brothers, to resign. Demonstrators chant anti-government slogans and hold placards that read with the likes of "Time to quit" and "Give our stolen dream back".

The country has announced that payments on its massive $51 billion foreign debt will be suspended as it attempts to find a way out of this crisis. Sri Lanka's stock exchange also announced that it will be closed from Monday to Friday, after already being closed for the local New Year holiday. The fiscal chaos is threatening the country’s relationship with lenders who may be the only way out of its predicament.

How did the country fall into financial turmoil?

Consecutive governments have mismanaged the economy, resulting in a twin deficit: that its national expenditures exceed its national income, and that it does not produce enough tradable goods and services. Several factors contributed to the worsening of the situation. In 2007, Prime Minister Mahinda Rajapaksa, then the country’s president, made a key policy decision. Colombo started selling government bonds in the capital markets to borrow funds, particularly during the reconstruction period following its civil war. After 15 years, the borrowing hasn't stopped, and today these loans account for nearly 38% of Sri Lanka's debt. The biggest investor in these bonds and loans to Sri Lanka was China, but the high cost of borrowing has led the island nation into what many call a “debt trap”.

Following his victory in Sri Lanka's presidential elections in November 2019, President Rajapaksa slashed Sri Lanka's value-added tax by almost half. As a result of this decision, about one-third of the tax revenue was lost to the government. To fill the resulting treasury gap caused by the government's inability to generate enough money to pay its debts and buy imports from abroad, the central bank began printing money, which saw inflation skyrocket. 

In April 2021, the sudden imposition of nationwide organic farming reduced farm output and caused food prices to spike. The pandemic also severely affected the other sources of income, such as the tourism sector and foreign workers' remittances. 

Later, Sri Lanka's credit rating was downgraded, preventing it from accessing the international capital markets on which it relied to pay its debt obligations. The island nation began to use its foreign reserves instead, resulting in insufficient foreign currency to pay for essential imports, leading to the present shortages. 

What is the current state of affairs on the ground?

The impact of Sri Lanka's financial meltdown has left barely a corner of the country untouched. Inflation reached 18.7% in March, the highest level since 2008. The rise in the cost of living means people are paying more 30% more for food than the beginning of last year, causing the prospect of widespread malnutrition and starvation.

The country is facing a health emergency with its medicine supply nearly depleted. Hospitals no longer have access to imported medical equipment and drugs, according to the Sri Lanka Medical Association. Several have since last month suspended routine surgeries and the county’s medical body has warned that emergency procedures may very soon not be possible. 

There is severe electricity rationing and no money to purchase the diesel needed to run coal power plants, which has left streets in the dark. Power outages are the new normal, and people are queuing for fuel.

What are the demands of the protesters?

Anti-government protests have continued unabated across the island nation for over a month now, with at least one turning violent in the commercial capital of Colombo. Their main demand is the resignation of the Rajapaksa brothers, whose family have been accused of nepotism and corruption. Protesters want a new cabinet to be formed, one more equipped to devise a way out of the current mess. The 26 members of Gotabaya Rajapaksa's cabinet have already resigned, but he has so far refused to do so.

What are the available options for mitigating this crisis?

A Sri Lankan delegation is currently in Washington in the hopes of obtaining up to $4 billion from the IMF and other lenders to pay for fuel and food, as well as avoid defaulting on its loans. Finance Minister Ali Sabry hopes to secure aid within a week, saying in a recent interview: “We need immediate emergency funding to get Sri Lanka back on track.”

The country's $81 billion economy faced debt obligations of $8.6 billion this year before it suspended repayment on foreign loans. Having defaulted, getting a loan will be challenging for Sri Lanka, which needs the funds to get through its balance of payments deficit. The turbulent domestic circumstances with the mass protests make lending even riskier for the IMF.

Restructuring its debt is also crucial. Sri Lanka must increase its tax network and cut its budget deficit and expenditures. Another step could be the overhaul of its monetary board and stopping the printing of money to control inflation. For the new reforms to be successful, the government should come up with a plan to ensure a social safety net for the poor, those on low incomes and the disabled, to prevent protests and ensure stability.

Sri Lanka could seek the help of other countries to help get through this crisis. Currently, India has committed $1.9 billion in loans, currency swaps and credit lines to the island. In the last three months, India has provided $2.5 billion to Sri Lanka for the purchase of medicine, food, and fuel;

New Delhi is willing to give an additional $2 billion to support Colombo. Additionally, India provided 40,000 tonnes of rice under the recently extended $1 billion credit facility. However, it will require long-term planning and strict measures for Sri Lanka to emerge from the current economic crisis.

Written By: Olivium staff.


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