Sri Lanka’s economic crisis, explained

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After a month of intense civil-led protests over the deteriorating Sri Lankan economy, President Gotabaya Rajapaksa agreed to appoint a new council on Friday to lead the formation of an interim government. The resolution would create a coalition of all parties in parliament and remove control of the Rajapaksa family dynasty that currently rules the country. The problem is the country’s economic future, which is falling apart after defaulting on its $ 50 billion foreign loan payments, for the first time since the country became independent from the British. in 1948.

Signs of Sri Lanka’s impending economic crisis became increasingly apparent during the last two years of the Covid-19 pandemic, as food prices rose and the frequency of light blackouts. Sri Lanka currently has about $ 7 billion in total debt maturing this year.

Many attribute Sri Lanka’s economic crisis to the mismanagement of its finances by successive governments through rising foreign debt and continued investment in infrastructure. The Rajapaksa administration also implemented major tax cuts in 2019, reducing the rate of value added tax (VAT), the tax on domestic imports and supplies, from 15% to 8%. , which contributed to a decrease in the country’s income.

The president’s older brother, Mahinda Rajapaksa, is expected to be ousted as prime minister as part of a deal negotiated by former President Maithripala Sirisena, who defected with dozens of other members of the president’s ruling party in functions in April in protest of the poor Rajapaksa. ruler.

But the country’s power struggle may have sown discord between the two brothers that could worsen their political stalemate. On Friday, the Associated Press reported that a spokesman for the prime minister did not immediately confirm the removal of the former Rajapaksa, saying any such decision would be announced by the prime minister in time.

The country continued to accumulate foreign debt without sufficient revenue

Much of Sri Lanka’s economic problems are its growing foreign debt, that is, to finance its aggressive turn towards infrastructure development under former President Mahinda Rajapaksa, Big Brother Rajapaksa and twice Prime Minister. With its already bloody finances, Sri Lanka has taken out major investment loans from Chinese state-owned banks to finance its infrastructure projects, including a controversial port development in the Hambantota district.

The Sri Lankan government justified the Hambantota project as a way to grow its economy as a bustling shopping mall comparable to Singapore. However, the project was rife with corruption and stalled, and Sri Lanka eventually handed over control of the port to China as collateral after being unable to repay its loans.

Over the past decade, Sri Lanka has accumulated $ 5 billion in debt with China alone, which accounts for much of its global foreign debt, according to the BBC. Sri Lanka’s inflated debt to China and the failure of the Hambantota project are often seen as an example of the “debt book diplomacy” that China has pursued in recent decades.

Some believe that China has broadened this approach to monetary diplomacy through its ambitious Strip and Route Initiative (BIS), a global infrastructure project involving Chinese investment in infrastructure developments in parts of Asia. , Africa and Europe which is then reimbursed, as part of China’s bid to increase global influence as a growing economic power. Some 139 of the world’s 146 countries, including Sri Lanka, have joined China’s BRI project. While such a large-scale infrastructure project may provide some economic benefits to participating countries, the BIS has inevitably become a strategic way for China to gain political influence with economically vulnerable countries in the Asia-Pacific region. At least 16 countries involved in the BRI project have been burdened with billions of dollars of debt that China has taken advantage of afterwards, according to an independent analysis by Harvard Kennedy School for the US State Department.

About 22 percent of Sri Lanka’s debt is due to bilateral creditors, institutional investors of foreign governments, according to CNBC. Neighboring India has tried to increase its bilateral cooperation with Sri Lanka, in part as an attempt to secure its influence in South Asia over China. India has recently given Sri Lanka a $ 1.5 billion line of credit to overcome the country’s fuel crisis, in addition to another $ 2.4 billion through a currency exchange and loan deferral since January .

As the country accumulated foreign debt, its tourism sector, formerly a $ 44 billion industry and a major source of revenue for the island, received successive blows. In 2019, tourism suffered after a series of attacks on the church that killed nearly 300 people, including some foreigners.

The following year, the Covid-19 pandemic halted tourism and other major sectors, causing a global economic downturn. Although Sri Lanka saw some increase in the number of foreign visitors last year, the ongoing pandemic, combined with the Russian invasion of Ukraine, both nations major sources of tourism in Sri Lanka before the conflict, continued slowing the recovery of the industry.

The worsening of the crisis provoked mass protests

The country’s problems escalated in March when the Sri Lankan government announced a 13-hour power outage as a way to save energy amid the ongoing crisis. Without enough power, many were unable to do their jobs while the economic crisis continued, causing massive unrest. Thousands of Sri Lankans took to the streets in the weeks following the power outage to protest the country’s growing crisis.

On April 1, President Rajapaksa declared an emergency a growing unrest he saw how protesters clashed with police. The entire Sri Lankan government cabinet resigned in protest shortly after the emergency law was enacted, prompting Rajapaksa to repeal the law. Among those who resigned were Sports Minister Namal Rajapaksa, another member of the Rajapaksa family and the president’s nephew.

With growing political unrest and no resolution in sight, Rajapaksa’s rivals began calling for a vote of no-confidence against his administration.

“We are confident that we have the numbers and will present the motion at the right time,” opposition MP Harsha de Silva told CNBC. Hoping to appease critics, President Rajapaksa tried to form a new unity coalition under his leadership, but failed to gain support. In April, the government also announced that it would temporarily suspend foreign debt payments, the first time Sri Lanka had defaulted on foreign loans since independence.

Experts have long warned of a possible serious situation surrounding the country’s finances. When the country defaulted, the government had been negotiating a bailout plan with the International Monetary Fund, which had rated its accumulated debt as unsustainable.

“The government intends to continue its talks with the IMF as soon as possible with the aim of formulating and presenting to the country’s creditors a comprehensive plan to restore Sri Lanka’s external public debt to a fully sustainable position.” , the finance ministry said in a statement. .

At a meeting with cabinet officials a week later, President Rajapaksa acknowledged his government’s role in the country’s declining economy. Specifically, the president said that the government should have approached the IMF earlier to ask for support to deal with its unruly foreign debt and that they should have avoided the ban on importing chemical fertilizers that was intended to preserve Sri Lankan foreign exchange holdings, but instead harmed their agricultural production.

“We have had great challenges over the last two and a half years. The Covid-19 pandemic, as well as the debt burden and some mistakes on our part, “Rajapaksa said.

Now, Sri Lanka’s future depends on whether the changes of government proposed by the president will appease his growing opposition long enough for the IMF to reach a solution. Sri Lanka’s chief financial officer, Nandalal Weerasinghe, has said that a long-awaited deal could be months away.

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