Sri Lankan Economic Crisis: India and its multiple roles
Sri Lanka is in huge distress due to the ongoing economic crisis. The country is witnessing a critical balance of payments issue wherein its foreign exchange coffers are dwindling at a rapid rate. This has led to irreversible problems making it difficult for Sri Lanka to import essential consumer goods. The entire episode of the economic fallout is a product of historical imbalances in the financial structure, inflow of credit, and erroneous decision-making by the Lankan leaders.
Background
A 26 –year long civil war ended in 2009, however, Sri Lanka was unable to overcome the economic disparities due to the budget deficits experienced during the war and the global financial crisis in 2008. The twin financial burden caused its foreign exchange to deplete and increased the rate of borrowing. As per recent data, market borrowings form the largest share of Colombo's foreign debt stock. Continuous credit inflow from the IMF along with loan conditionalities further deteriorated the economic health of the country. Sri Lanka is facing a default of multi-million dollar foreign debt. A loan default can damage the investor's confidence and the country loses its reputation in the market. It becomes twice as hard to borrow from international markets. With the degradation of the country's credit ratings after the pandemic, Sri Lanka was excluded from the international credit market. Foreign creditors shut their doors and it became nearly impossible to attain foreign currency to dispose of the debt accumulated over the years.
Major reason for a steep decline in Sri Lanka's forex reserves is the lack of tourism. The 2019 Easter bomb blasts in Colombo plummeted the foreign visitors' footfall. The situation was exacerbated by the emergence of the COVID-19 pandemic in 2020. Tourism revenue fell to its lowest deepening the economic crisis which is the most significant contributor to Sri Lanka's GDP. The number dropped from 4 billion USD in 2018 to fewer than 150 million USD in 2021 [1]. Additionally, the country's exports are observing a downward trend. Colombo is unable to trade tea, rubber, spices, garments, etc., globally resulting in polarity in the trade balance sheet. Between the years of 2009 and 2018, the trade deficit rose from 5 billion USD to 12 billion USD. Therefore, the crisis has been in the making for a very long time.
Abrupt policy decision-making by the Rajapaksa government has contributed to the current economic disaster. The economy experienced multiple obstacles including extensive tax cuts and sinking interest rates. In 2021, the government banned all fertilizer imports and declared to become a 100 percent organic country overnight [2]. This rapid transition excessively impacted food production, subsequently, an economic emergency was announced to contain the rising food prices. The substantial inflation rate along with the depreciating currency value and minimal forex reserves has pushed poor Sri Lankans to the brink.
During the pandemic, government expenditure soared to deal with the troubling times. Even the fiscal deficit exceeded by 10 percent in 2020-21 and the debt to GDP ratio increased to 119 percent in 2021 from 94 percent in 2019. This year put forth new challenges on the account of the Ukrainian crisis. The import bill of Sri Lanka witnessed an unanticipated rise caused by heightened inflation in the global market prices of essential commodities.
The Aftermath
The economic backlash created a spillover effect upon the political domain of Sri Lanka. The citizens agonize over the lack of essential public services and the leaders fail to provide them as the treasures are all drained out. With the shortage of forex reserves and exponential Chinese debt, the government was forced to halt critical import items. The public outburst towards the government’s handling of the crisis has toppled the political power of the Rajapaksa brothers with people demanding them to quit. Prime Minister Mahinda Rajapaksa announced his resignation amidst the violent clashes between pro and anti-government groups. Later, Ranil Wickremesinghe was given the charge of an interim Prime Ministership. A national emergency is declared with shoot-on-sight orders to the military to suppress the turmoil in the country.
Sri Lanka is in dire need of 75 million USD of foreign currency to be able to afford essential imports for the next few months. The country of 22 million people is suffering from an unprecedented economic crisis since its independence in 1948. The inflation skyrocketed to more than 21 percent at the beginning of the year [3]. There is an intractable gap between the demand and supply of electricity. Presently, citizens are having a massive shortage of food, fuel, life-saving drugs, and other essential items.
Sri Lanka's northern neighbor, India, is exposed to a direct consequence of the economic mishap. The state of Tamil Nadu has begun to experience the jolts of the crisis with Lankans entering the borders through illegal means to escape peril and hardship. Currently, the world is a bystander and Delhi holds bargaining chips with Colombo. Due to a lack of engagement with China and Japan, Sri Lanka is now entrusted with India as a full-fledged ally.
India’s Role in the Lankan crisis
Sri Lanka is one of the integral countries in India's Neighbourhood First Policy and SAGAR initiative i.e. Security and Growth for All in the Region. India promised to provide unconditional economic support to the crisis-prone island nation. About 400,000 MT of fuel has been supplied to Sri Lanka under the 500 million USD credit facility, around 16,000 MT of rice also delivered under the billion-dollar credit line recently, and 65,000 MT of fertilizer, and medical supplies [4]. The relief extended by India sums up to over 3 billion USD inclusive of currency swaps, loan deferments, and lines of credits for essentials. A month ago, India also dispatched vegetables and daily ration items amid a high inflation rate. Lastly, India is gradually materializing as one of the largest providers of aid to Sri Lanka.
Certain core interests are influencing India's deepening role in the Lankan economic crisis. Although the countries have historical bonding, there seems to be a growing distance between them. Trade and developmental ties are diminishing and China is taking over as a dominant player in Sri Lanka's economic growth. China is heavily investing in the island nation under the Belt and Road initiative, however, these exchanges are frequently censured due to a paucity of transparency of review and assessment. Chinese investments have failed to create revenue or employment opportunities leaving Sri Lanka in massive debt which the government is unable to compensate. The default has compelled the Sri Lankan government to surrender strategically-located towns and ports or lease out land to maintain the inflow of Chinese investment. Earlier under the Port City of Colombo project, China received around 100 hectares of land for a 1.4 billion USD investment in the island country. Sri Lanka's shedding of land is resulting in the increasing territorial foothold of China giving rise to India’s greatest fears due to the proximity of borders.
Economic assistance will create goodwill among India and Sri Lanka and ameliorate Indian efforts to sway the Lankan Archipelago from China's 'string of pearls' strategy in the Indo-Pacific region. Delhi has bailed out Colombo before and the outstanding debt is only around 2 percent of the total compared to Beijing's 10-11 percent [5]. Therefore, over-reliance on Chinese loans has not been beneficial for Sri Lanka, rather pushing it further into a debt trap. The imbalance emphasizes the safety net weaved by India and how China's 'debt diplomacy' has thrown the island neighbor into its dark days. India can steer Sri Lanka from the current economic crisis and help towards realizing its potential in the South Asian region. Hence, both countries can reap benefits from a stable and friendly neighborhood.
Future Ahead
The government must undertake stringent measures to mitigate the economic catastrophe. The first and foremost action is to ascertain the availability of essential commodities to get the life of Sri Lankan citizens back on track. Further, the country shall move on the path of economic recovery with an urgent requirement to cut down the government expenditure. Moreover, the COVID-19 infection rate is witnessing a downtick for now which reduces the excessive burden on the revenue pool. The country has always been extensively dependent on external debts to run its economy as swiftly as possible. However, the best option would be to strengthen the domestic tax revenue and limit borrowing, especially from external sources.
The Sri Lankan economy needs restructuring for it to settle up the bundle of debt over the coming years. Friendly countries like India must consider granting a moratorium on debt repayment, hence, endowing a chance for Sri Lanka to better allocate its limited resources. In conclusion, a period of economic uncertainty for Sri Lanka can be turned into an opportunity to revamp the chaotic bilateral relations between India and the island neighbor.
References
[1] https://www.orfonline.org/expert-speak/the-sri-lanka-economic-crisis-indias-response/
[2]https://www.orfonline.org/expert-speak/sri-lankan-crisis-the-perils-of-inherited-fallacies-and-economic-mismanagement/
[3] https://www.bbc.com/news/world-61028138
[4]https://www.thehindu.com/news/international/as-sri-lankas-crisis-deepens-india-extends-more-assistance/article65378999.ece
[5]https://timesofindia.indiatimes.com/business/india-business/explained-what-india-is-doing-to-help-sri-lanka-in-crisis/articleshow/90864193.cms
Pic Courtsey-Daniel Klein at unsplash.com
(The vewws expressed are those of the author and do not represent views of CESCUBE.)
