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Sri Lanka's Financial Crisis



Amid possibly its worst financial crisis, Sri Lanka has turned to China for aid, the nation whose debt is pressing the Sri-lankan economy into further debt. The Sri Lankan president, Gotabaya Rajapaksa appealed to Beijing to restructure debt repayments to counter its crisis.


Sri Lanka cumulatively is under nearly 6 Billion USD debt from China alone, its 4th largest lender. Lent to facilitate the development of major ports which would play a significant role in China’s ambitious Modern Maritime Silk Road ( a subset of the Belt & Road Initiative or BRI ), as well as numerous roads and an airport, the debt has become a heavier burden with the onset of covid-19 and the consequent economic crises which befell Sri Lanka. Sri Lanka however has used these loans poorly on White Elephant Projects across the country, yielding low returns. Another direct reason for the financial crisis is the hit Sri Lanka’s tourism industry has taken since the emergence of Covid-19. The main source of tourism was China, and after the global pandemic hit, the number of Chinese tourists dropped significantly. Rajakapsa’s office in their statement also proposed the return of Chinese tourists to Sri Lanka under stringent covid norms which could assist in revitalizing one of Sri-Lanka’s foremost industries. They also asked for China to provide concessional terms for its exports which amounted to USD 3.5 billion in 2020.


Sri Lanka is a major part of Chinese President Xi’s global BRI which in the past has been accused of being a debt trap for underdeveloped nations who are coincidentally the majority of the member nations in the initiative. Nations such as Djibouti , Myanmar, Pakistan failing to pay loans in the past have been forced to give up the very projects they were loaned credit against by China, and so has Sri-lanka. Failure to pay debt once again will lead to further such deals between the 2 nations and consequently greater strategic advancement for China.


Insight into the Financial Crisis


Earlier, on the 30th of August 2021, President Gotabaya declared an economic & food emergency to suppress hoarding of essential supplies by setting fixed prices as the Sri Lankan rupee continued to take a dive. While at that point Sri Lanka only had 2.7 Billion USD in foreign exchange reserves, it had foreign debt exceeding USD 4 Billion. These low reserves render it nearly impossible for Sri Lanka, a country whose primary foreign puller industries (Tourism, Tea, Garments) were severely affected by the Covid-19 pandemic. Currency swap (A currency swap is a transaction in which two parties exchange an equivalent amount of money with each other but in different currencies) deals with India, Bangladesh and China were all being negotiated at that point as Sri Lanka radically stagnated imports on a wide array of goods. Many attribute the food shortage in Sri Lanka to the ban on importing fertilizers mid-season as Rajakapsa exclaimed Sri Lanka would become the 1st country to grow crops completely organically.


To counter the crisis domestically, Sri Lanka printed billions of rupees, liquidating their economy. As demand for goods increased and imports dropped due to high risk & increasing debt, the addition of large quantities of money led to extreme inflation. All this worsened Sri Lanka’s reserves which dwindled to USD 1.6 Billion by November, sustained then to USD 3.1 BIllion by the end of 2021 via a USD 1.5 Billion currency swap with China. American credit rating agency Fitch downgraded the island nation to a ‘CC’ rating, which is the lowest rating held by a nation prior to default. Diplomatic Missions were closed to prevent spending and temporary measures adopted to provide food and aid to the general public. The government now is focussing on clearing USD 4.8 Billion debt it has due between February & October 2022. It plans to pay an Iranian oil debt worth USD 251 million through monthly installments of Tea worth USD 5 million.


After the President met with Chinese foreign minister Wang Yi to discuss a debt restructure & rejuvenating failed Chinese projects this week, the Chinese foreign ministry reiterated its support to Sri Lanka as its spokesperson Wang Wenbin committed to helping Sri Lanka develop its economy in the future as it has done so in the past. India, prior to the meeting between President Rajakapsa and PRC Foreign Minister Wang Yi, had reaffirmed Modi’s policy of prioritizing India’s neighbors as highlighted by a High ranked Indian diplomat in Sri Lanka. Diplomat Vinod Jacob quotes the India External Affairs Minister as he talked about supporting Sri lanka in difficult times ahead. India had already provided resources in the form of credit, food, etc to Sri Lanka last year when the Rajakapsa government resorted to temporary relief measures in face of the sudden food shortage in Sri Lanka.


Conclusion


Sri Lanka may very soon default for the first time in its history. As Muttukrishna Sarvananthan pointed out “Technically we can claim we are bankrupt now, When your net external foreign assets have been in the red, that means you are technically bankrupt.” Some may argue China is the root cause behind the Sri Lankan collapse. Another victim to the Belt & Road Initiative, falling prey to expensive Chinese loans and under the consequent debt, collapsing. Sri Lanka has become not only extremely dependent on China but even more vulnerable to a global financial crisis as the BRI continues to weave interdependency across Europe, Asia and Africa. The weak Sri Lankan economy mimics the society of numerous African nations under similar strain and economic control from China.


However, Sri Lanka’s crisis highlights the power struggle between India & China in Sri Lanka. While China has provided ample economic aid, India has also made multiple deals and provided aid in kind to Sri Lanka across the last decade to compete. As India & the US look to exert influence on Sri Lanka amidst Chinese domination, Sri Lanka is constantly swaying between the 2 sides for help. An inevitable bankruptcy will lead to bailout packages from India and China, as pointed out by analyst kalansooriya. It is most unfortunate to note that Sri Lanka’s immediate socio-economic future does not lie in its own hands.


11th January, 2022

Nehal Singhal




5 Comments


Harsh Gulati
Harsh Gulati
Jan 12, 2022

Well researched n articulated.

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Sumit Kumar Singh
Sumit Kumar Singh
Jan 12, 2022

Well researched. Dragon's game is on......

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Anurag Kumar
Anurag Kumar
Jan 12, 2022

Very good Nehal 👏👏👏

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Kalpana Bhat
Kalpana Bhat
Jan 12, 2022

Nice juxtaposition of China’s short term thinking vs India‘s sustainable approach to foreign policy, providing aid and assistance

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anonimiss me
anonimiss me
Jan 12, 2022

A well researched and we'll written article. Impressive!

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