EXPLAINER: Why Sri Lanka’s economy collapsed and what’s next | Sotck exchange

COLOMBO, Sri Lanka (AP) — Sri Lanka’s prime minister says the island nation’s debt-ridden economy has “collapsed” as it runs out of money to pay for food and fuel. Short of cash to pay for imports of these basic necessities and already defaulting on his debt, he is seeking help from neighboring India and China and the International Monetary Fund.

Prime Minister Ranil Wickremesinghe, who took office in May, has emphasized the monumental task he faces to turn around an economy he says is headed for “bottom down”.

Sri Lankans are skipping meals as they face shortages, queuing for hours trying to buy scarce fuel. This is a harsh reality for a country whose economy had grown rapidly, with a growing and comfortable middle class, until the last crisis deepened.


HOW SERIOUS IS THIS CRISIS?

Tropical Sri Lanka normally has no shortage of food, but people are hungry. The United Nations World Food Program says nearly nine in 10 families are skipping meals or skimping to stretch their food, while 3 million are receiving emergency humanitarian aid.

Doctors have taken to social media in an attempt to secure critical supplies of equipment and medicine. More and more Sri Lankans are applying for passports to go abroad in search of employment. Government workers were given an extra day off for three months to allow them time to grow their own food. In short, people are suffering and desperate for things to get better.


WHY IS THE ECONOMY IN SUCH A STRAIT?

Economists say the crisis stems from domestic factors such as years of mismanagement and corruption, but also other issues such as a growing debt of $51 billion, the impact of the pandemic and terrorist attacks on tourism, and other issues.

Much of the public anger has centered on President Gotabaya Rajapaksa and his brother, former Prime Minister Mahinda Rajapaksa. The latter resigned after weeks of anti-government protests that eventually turned violent.

Conditions have been deteriorating for several years. In 2019, Easter suicide bombings in churches and hotels killed more than 260 people. It devastated tourism, a key source of foreign currency.

The government needed to raise revenue as external debt for major infrastructure projects soared, but instead Rajapaksa imposed the biggest tax cuts in Sri Lanka’s history, which have recently been cancelled. Creditors downgraded Sri Lanka’s ratings, preventing it from borrowing more money as its foreign exchange reserves plummeted. Then tourism stagnated again during the pandemic.

In April 2021, Rajapaksa suddenly banned chemical fertilizer imports. The push for organic farming has taken farmers by surprise and decimated staple rice crops, driving up prices. To save on foreign currency, imports of other items considered luxury goods were also banned. Meanwhile, the war in Ukraine has driven up food and oil prices. Inflation was close to 40% and food prices rose almost 60% in May.


WHY DID THE PRIME MINISTER SAY THE ECONOMY HAS COLLAPSED?

Such a stark statement could undermine any confidence in the state of the economy and does not reflect any specific new developments. Wickremesinghe appears to be underlining the challenge his government faces in turning the tide as it seeks IMF assistance and faces criticism over the lack of improvement since taking office a few weeks ago. It also fends off criticism from within the country. His comment could be aimed at trying to buy more time and support as he tries to get the economy back on track.

The Ministry of Finance says Sri Lanka has only $25 million in usable foreign exchange reserves. This left him without the means to pay for imports, let alone repay billions in debt.

Meanwhile, the Sri Lankan rupee weakened nearly 80% to around 360 to the dollar. This makes import costs even more prohibitive. Sri Lanka has suspended repayment of about $7 billion in foreign loans due this year out of the $25 billion to be repaid by 2026.


WHAT DOES THE GOVERNMENT DO ?

Wickremesinghe has a great experience. The latter is his sixth term as Prime Minister.

So far, Sri Lanka has gotten its way, mainly backed by $4 billion in credit lines from neighboring India. An Indian delegation was in the capital Colombo on Thursday for talks on additional aid, but Wickremesinghe warned against expecting India to keep Sri Lanka afloat for long.

“Sri Lanka places its last hopes in the IMF,” the headline of the Colombo Times newspaper said on Thursday. The government is in negotiations with the IMF on a rescue plan. Wickremesinghe said Wednesday he expects to have a preliminary agreement with the IMF by the end of July.

The government is also seeking more help from China. Other governments like the United States, Japan and Australia have provided a few hundred million dollars in additional support.

Earlier this month, the United Nations issued a global public appeal for help. So far, the planned funding barely scratches the surface of the $6 billion the country needs to stay afloat over the next six months.

To counter Sri Lanka’s fuel shortage, Wickremesinghe told The Associated Press in a recent interview that he would consider buying higher priced Russian oil to help the country through its crisis.


Kurtenbach, the AP’s economics editor for Asia, contributed from Bangkok.

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