The Sri Lankan Debt Debate: Down but not out, a policy maker’s conundrum
July 2021
01 Executive Summary: 1. Should external debt be a concern for SL right now? Yes, however there are many ways to recover. Using an IMF facility is one such option. 2. Where does SL stand right now? SL likely to have breathing space till 2022E supported by foreign credit lines along with import and forex controls. 3. Has IMF assisted SL in the past? Yes, Sri Lanka has sought IMF assistance on 16 occasions to recover from struggles. 4. What does the IMF want? Proper financial management and economic reforms to ensure a recovery. 5. Is Sri Lanka the only country? No, financial hardships and external support has been a standard part for many countries in the recent history 6. How can Sri Lanka manage the looming debt story? While the country may manage with the available credit lines and short-term regulatory measures, if SL fails to secure the much-needed funding lines, the country may have to call for external support
02 The Current Position: Short term strategies in place despite potential long term economic woes…
Rolling over CBSL to buy forex Regulations to Efficient vaccination Measures to retain Seeking bilateral from the market prevent foreign roll out to ensure a proceeds of assistance from commitments currency outflow swift revival in resident holders of bilateral and tourism and other upcoming ISB economic cogs maturities multilateral avenues
03 SL’s outstanding external debt Stock
By end Apr’21 total outstanding external debt of GoSL was ~USD 35.1Bn
Sri Lanka secured many foreign investors over …as SL issued ISBs in the international debt market, the years amidst its unblemished track record… with maturities falling due over the coming years
(USD Bn) 1.60 Market Borrowings 9% 1.40 2% 1.20 China 1.00 9% 0.80 ADB 47% 0.60 0.40 10% Japan 0.20 0.00 World Bank 13%
India
3-Jun-25
27-Jul-21 25-Jul-22 18-Jul-26
3-Nov-25
18-Jan-22
28-Jun-24
14-Apr-23 18-Apr-28
24-Mar-24 14-Mar-29 28-Mar-30 10% 11-May-27 Others International Sovereign Bonds
A good balance of Foreign lenders vs Market borrowings may allow SL to rollover a considerable portion of bilateral and multilateral facilities Sri Lanka is currently holding on to a total foreign debt stock of USD 35.1Bn with a balanced exposure to market borrowings. Asian Development Bank (ADB) remains as the largest multi-lateral funding agency lending a total of USD 4.4Bn whilst China holds the top position as the single largest lender to SL extending borrowings worth USD 3.4Bn as of end Apr’21. Rolling over Nonmarket borrowings hence can relieve a considerable amount of pressure on the government.
04 Source : CBSL/Department of External Resources/ SSB Research Future debt repayments to be ~USD 4Bn on average
An unforgiving payment pipeline, yet 2021 remains lower…
Principal and interest repayments likely to take GoSL is expected to honor an ISB repayment of USD 1Bn c.USD 4Bn on average till 2026E in Jul’21 with no major repayments afterwards (USD Mn) 6,000 (USD Mn) 1,400 913 5,000 1,200 1,220 1,006 Upcoming debt 1,105 1,419 1,282 1,000 service payments for 4,000 757 2H21’ amounts to 800 c. USD 2.3Bn 3,000 600
2,000 4,163 400 3,264 3,142 3,408 2,639 2,660 2,977 200 1,000 -
0
Jul-21
Jan-21
Jun-21
Oct-21
Sep-21
Feb-21
Dec-21
Apr-21
Aug-21
Nov-21 Mar-21 2020 2021E 2022E 2023E 2024E 2025E 2026E May-21
Principal Interest Principal Interest
SL assures to maintain solvency in dollar debt repayments... Sri Lanka, which had honored all its debt repayment obligations in the past has further assured all its investors on a timely repayment going forward as well. However, liquidity injections through mass-acquisition of Treasury bills were made despite Sri Lanka having to make debt repayments over the coming years. Thus, given the limited foreign currency liquidity flows the Sri Lankan Rupee has thus far weakened cf. USD ~7% YTD and more than 30% over the past 5 years.
05 Source : MoF/ SSB Research/Department of External Resources The Current Standing: Capital controls in the short run
Sri Lanka has entered a self-defense mode… The imposition of some form of capital controls and curbs on non-essential luxury imports such as vehicles has given the country much needed breathing space as key income earners such as tourism has taken a serious hit due to the Covid-19 pandemic. Ensuring exporters repatriate export earnings within 180 days from shipments, the mandatory conversion of ~25% of export proceeds into LKR, getting commercial lenders to surrender a portion of their forex receipts to the central bank and the extension of restrictions on outward remittances further benefit the forex position.
Curtailed tourism inflows remain challenging Vehicle imports restricted for nearly 1.5 years
5,000 (USD Mn) 2,000 (USD Mn) 8.0% 7.0% 4,000 1,500 6.0% 3,000 5.0% 1,000 4.0% 2,000 3.0% 1,000 500 2.0% - 1.0%
- 0.0%
2013 2015 2007 2008 2009 2010 2011 2012 2014 2016 2017 2018 2019 2020
2017 2020 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2018 2019
2021 2021 Apr 2021 2021 Apr Tourism income Vehicle Imports (LHS) Vehicles % of Imports (RHS) …that may change as SL seeks USD inflows and/or IMF support This defense mechanism may take a more accommodative stance as the country secures the foreign funding lines while maintaining a robust growth with the efficient roll out of the vaccines.
This current framework indirectly rules out IMF, whose prescription for assistance includes fiscal consolidation and removing caps on borrowing costs in the outset of the pandemic. As such, if the country does move into negotiations of a bailout package, these restrictions would most likely be reversed to accommodate for policy changes and economic reforms that would be required in order to secure the external funds.
06 Source : CBSL/ SSB Research A structure in place till 2022E, for short-term stability
Potential funding lines as stated by the CBSL Net inflows and Reserves available to be used to bridge (USD Mn) the current account deficit and (USD Mn) private sector repayments 1,400 1,200 Upcoming debt 1,000 maturities worth 800 c. USD 2.3Bn 600 400 200
-
Jul-21
Jan-21
Jun-21
Oct-21
Sep-21
Feb-21
Dec-21
Apr-21
Aug-21
Mar-21 Nov-21 May-21
Principal Interest
Probable inflows that CBSL intends to take on Confirmed inflows with specified dates Confirmed outflows with specified dates
Net inflows and Reserves
07 Source : CBSL/ SSB Research Section Summary:
1. What has the government done so far? The government has imposed multiple regulations to prevent forex outflows and has put measures in place to secure foreign currency credit lines 2. Are these solutions sustainable? These measures may resolve short term debt repayment concerns but may not be sustainable in the longer run unless SL secures more sustainable foreign funding lines such as FDIs, Tourism earnings, export earnings etc. 3. When will the import restrictions be lifted? Once the GoSL has visibility on robust forex inflows which assures smooth debt repayments, restrictions should gradually ease off 4. Are currency swaps bad for the country? Administered wisely, swaps are a neutral instrument used by countries to manage reserves. However, short term swaps may not resolve the underlying debt sustainability concerns.
5. How important is tourism earnings? Tourism earnings accounts for c. USD 3.5 -4 Bn, a value rivalling somewhat the entirety of the foreign repayments p.a.
08 The Path to a Recovery: A speedbump in the country’s journey of development…
09 Forex Crises: A given speedbump for emerging markets
The Asian Credit Crisis of the 1990’s The Asian financial crisis was a sequence of currency devaluations and other events that began in late 1997 and spread through many Asian markets. The currency markets first failed in Thailand as a result of the government's decision to no longer peg the local currency to the USD due to its low reserves position. Currency declines spread rapidly throughout East Asia, in turn causing stock market declines, reduced import revenues and government upheaval. A large portion of East Asian currencies fell by as much as 38%. International stocks also declined as much as 60%.
28th : Asian stock markets hit multi-year lows
20th : The IMF extends a USD 2.9Bn 05th : The IMF extends a USD 40Bn package to Indonesia . additional bailout to Thailand
18th : Peso and Rupiah are devalued. IMF extends 28th : The Korean Won hits an all time low . USD 1.1Bn loan to the Philippines
nd th 2 : Thai Bhat collapses and 11 : The IMF extends a USD 23rd : The Hong Kong Dollar gets 03rd : The IMF approved a USD 57Bn turns to a floating rate 17Bn loan to Thailand . Under heavy pressure . package to Korea
July August September October November December January 1997 1997 1997 1997 1997 1997 1998 Held at gunpoint, led to safety by the IMF From 1996 to 1997, the (YoY) nominal GDP per capita dropped by 43.2% in Indonesia, 21.2% in Thailand, 19% in Malaysia, 18.5% in South Korea, and 12.5% in the Philippines. Hong Kong, Mainland China, Singapore, and Japan were also affected, but less significantly. However, despite this crunch, the IMF stepped in on each occasion to help countries get back on track and each nation was able to bounce back as a result and continue its growth trajectory.
10 Source : IMF/Relevant Finance Ministries/ SSB Research Led to safety by the IMF: Via reserves and currency stability
Forex reserves and currency devaluations, the common red flag In the four years prior to the crash in 1997, the USD appreciated sharply, and countries pegged their currencies to the USD resulting in a steady decline on forex reserves. However, at a certain point as reserves tanked, countries were forced to float their currencies as seen in Sri Lanka over the past years. This led to a host of protectionist policies targeting a range of import items, specifically items regarded as luxury goods or non-essential goods. However, these were short lived as the IMF support allowed economies to get back into gear.
Currency Depreciation vs USD (%) 200% Foreign Reserves YoY Growth/(decline) 30 150% 10 Pre-IMF Post-IMF (10) 100% (30) 50% (50) (70) Pre-IMF Post-IMF 0% (90) -50% (110) (130) -100% 1995 1996 1997 1998 1999 2000 1995 1996 1997 1998 1999
Indonesian Rupiah South Korea Thai Bhat Indonesia South Korea Thailand Malaysia Ringgit Philippine Peso Singapore Dollar Philippine Singapore Malaysia The danger of a speculation driven crash, averted Given the declining reserves position and the inevitability of countries having to opt for floating exchanges large scale investors heavily speculated currencies resulting in a catastrophic impact once a floating rate was introduced. This brought upon an unprecedented devaluation from 1996 to 1997 which was followed by a correction in the coming years. However, in Sri Lanka’s context such speculative trading has been explicitly banned, and the process of sending funds and converting currency has been heavily restricted by the GoSL. This could prevent such an exaggerated devaluation.
11 Source :World Bank/ Bloomberg/Relevant Finance Ministries/ SSB Research Out of the Trenches: A recovery post IMF interventions
Impact on economic variables and investor sentiment The currency crisis driven protectionist policies to reduce the outflow of currency via imports started a cycle of economic decline. Not only did they experience negative growth rates; inflation rose, while export volumes and tax revenue fell as the economies slowed down. Due to these factors, investor sentiment in many markets tanked with high outflows and low inflows compared to the previous periods.
GDP Impact and Recovery (YoY Growth) (USD Mn) BOP surplus/(deficit) 45,000 35,000 10% Pre-IMF Post-IMF 25,000 6% 15,000 2% 5,000 -2% 1995 1996 1997 1998 1999 2000 -6% (5,000) 1995 1996 1997 1998 1999 2000 -10% (15,000) -14% (25,000) Indonesia Korea, Rep. Malaysia Korea, Rep. Malaysia Philippines Thailand Indonesia Philippines Singapore Thailand
Paving the path towards growth and stability Due to these factors, the GDP was heavily impacted in 1998 with most countries witnessing a decline of over 5% YoY. However, interventions by the IMF helped steady the country and guide the economy back on track. This also resulted in the renewal of investment flows and increased foreign participation as market valuations became more attractive as the local currency normalized from its artificial highs.
12 Source :World Bank/ Bloomberg/Relevant Finance Ministries/ SSB Research Section Summary:
1. What have peers done in similar instances? Asian emerging market economies have opted for IMF support to help get back on track. 2. Has opting for IMF support been beneficial? Yes, during the Asian financial crisis in the late 90’s the IMF played a key role in the recovery. 3. Did countries have short term impacts? Yes, despite the IMF support certain facets of the economy did have an impact in the short run.
4. How have these countries done 20 years after IMF aid? The Philippines sits the lowest on the rankings as a lower middle-income country, Malaysia and Thailand sit in the upper middle-income bracket whilst the Republic of Korea and Singapore have advanced to be high-income economies.
13 Sri Lanka and the IMF: A plausible solution as multi-lateral aid could help steady the ship
14 The Sri Lankan Debt Scare: Replaying old tunes
USD81 Bn economy’s non-defaulting prudent track record…
1988 – Reserves 2008 – Post war 2016 – External Bail out economic revival Debt crisis
Whilst SL’s foreign reserves fell to USD In 2008, foreign reserves fell to USD The IMF offered USD 1.5Bn EFF in 277Mn which was sufficient for 2.6Bn which was sufficient only for ~2 2016 to escape from an emerging financing only 1.2 months of the months of the estimated imports. external debt crisis. imports of the country for the next 12 Therefore, this boosted the months, SL received a bail out package country’s foreign currency reserves of USD 214Mn in 1988. Hence, the IMF has assisted Sri Lanka soon after the end of the 26-year war in to USD 7.9Bn by end 2017. 2009 and gave a facility worth USD IMF assistance thus aided GoSL in Thus, the facility created confidence in 2.5Bn. handling further hardships and Sri Lanka among the foreign investors, Thus, it boosted the country’s foreign tackling foreign investor confidence and from 1990 onward, the country reserves to USD 5.4Bn by end 2009 and via the sourcing of multilateral was able to record surpluses in the USD 7.2Bn in 2010. credit lines. balance of payments adding to its foreign reserves.
IMF Bailout IMF Bailout IMF Bailout
…due to its ability to source funding lines at key junctures The country’s ability to work with the IMF during multiple setbacks has been the defining point towards a recovery at every stage. As such, the country has always been able to work its way out of potentially challenging situations. This phenomena has also been seen in multiple emerging markets and developing economies who face debt and forex reserve crises from time to time.
15 Source : IMF/ SSB Research IMF’s record in SL: 16 facilities, 5 in the last 20 years
Since 1960, Sri Lanka has been the recipient of 16 IMF facilities… With a long rich history of corporation, the IMF has empowered Sri Lanka with multiple Standby Arrangements (SBA), Extended Fund Facilities and structural adjustments. The largest loan was the SBA initiated post war in July 2009 of USD 2.5Bn whilst the most recent arrangement initiated in Jun’16 for USD 1.5Bn Extended Fund Facility (EFF). In total 5 of the 16 loan facilities have also been over the past 2 decades, in testament to the strong relationships.
Lending Facility Date of Expiration Amount Agreed Share of Arrangement Date (US Mn) Funds …Whilst SL Reserves have Drawn 1 Standby Arrangement 15-Jun-65 14-Jun-66 30 75% (USD Mn) remained volatile 2 Standby Arrangement 15-Jun-66 14-Jun-67 25 100% 3 Standby Arrangement 6-Mar-68 5-May-69 20 100% 9,000 4 Standby Arrangement 12-Aug-69 11-Aug-70 20 100% 8,000 5 Standby Arrangement 18-Mar-71 17-Mar-72 25 100% 7,000 6 Standby Arrangement 30-Apr-74 29-Apr-75 30 29% 7 Standby Arrangement 2-Dec-77 1-Dec-78 112 100% 6,000 8 Extented Fund Facility 1-Jan-79 31-Dec-81 336 100% 5,000 9 Standby Arrangement 14-Sep-83 31-Jul-84 105 50% 4,000 Structural Adjustment 3,000 10 Facility Commitment 9-Mar-88 8-Mar-91 214 100% 11 Extended Credit Facility 13-Sep-91 31-Jul-95 455 83% 2,000 12 Standby Arrangement 20-Apr-01 19-Sep-02 254 100% 1,000 13 Extented Fund Facility 18-Apr-03 17-Apr-06 198 14% 0 14 Extended Credit Facility 18-Apr-03 17-Apr-06 368 14%
15 Standby Arrangement 24-Jul-08 23-Jul-12 2,566 100%
1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 2020 16 Extented Fund Facility 3-Jun-16 2-Jun-19 1,507 86% 1960
…with its most recent disbursement ending in June 2019 In 2020, the IMF prematurely ended EFF to Sri Lanka after disbursing ~USD 1.3Bn of an agreed USD 1.5Bn facility. Repayment of the funds borrowed under the above arrangement will take place in instalments from 2020 and is expected to be completed by 2028. It should be noted that of the 16 past lending arrangements, the full amount initially agreed was not disbursed on 7 occasions as Sri Lanka did not fully comply with the IMF’s conditions.
16 Source : CBSL/IMF/ SSB Research The IMF Benefits: Twin deficits curtailed post assistance
Trade deficit to GDP narrowed from Debt to GDP fell whilst the country attained more external (USD Bn) 2010 post-IMF intervention funds from 2009/10 onwards amidst investor confidence (%) 25.0 0.0% (LKR Bn) -2.0% 8,000 100% 20.0 -4.0% 6,000 80% -6.0% 60% 15.0 4,000 -8.0% 40% 10.0 -10.0% 2,000 20% -12.0% - 0% 5.0
-14.0%
2008 2009 2010 2011 2012 2013 2014 - -16.0% 2007
Outstanding Central Govt. Debt (LHS)
2010 2008 2009 2011 2012 2013 2007 Outstanding External Debt (LHS) External Debt % of GDP (RHS) Exports (LHS) Imports (LHS) Trade Deficit % GDP (RHS) Total Debt % of GDP (RHS)
Gross official reserves surpassed USD 5.5Bn in 2018 Marked the highest GoSL Revenue in a 2009 and USD 7Bn in 2017 post IMF support decade following IMF directed tax reforms (USD Mn) (USD Mn) (LKR Bn) 9,000 2,500 2,500 16.0% 8,000 2,000 14.0% 7,000 2,000 6,000 12.0% 1,500 5,000 1,500 10.0% 4,000 8.0% 1,000 3,000 1,000 6.0% 2,000 4.0% 500 500 1,000 2.0%
- - - 0.0%
2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
2011 2020 2007 2008 2009 2010 2012 2013 2014 2015 2016 2017 2018 2019 Reserves (LHS) FDIs (RHS) 2021 2021 Apr GoSL Revenue (LHS) Fiscal Deficit % GDP (RHS)
17 Source : CBSL/ SSB Research The IMF’s Demands: Tough but pragmatic
Terms and conditions, the perfect excuse for reforms Whilst stockpiling terms and conditions seemingly pose many hardships to the struggling nation, these key economic and policy changes can be vital for the country to fight its way out of the crisis. Whilst some of these may be grossly unpopular amongst the general public, the IMF is the perfect excuse for governments to usher in much needed reforms. These include reforms in the fields of;
SOE Budget Government Monetary Financial Trade and Reforms Deficit Revenue Policy Management Investments
Ensure State Aimed to lower Increased GoSL Much focused on Perform strong Higher trade and Enterprise (SOEs) the budget deficit revenue targets set Monetary policy public financial investments with Reforms whilst whilst reducing amidst a simpler reforms with an management low protectionism, maintaining a GoSL borrowings and broadened tax inflation targeting alongside enhancing exports financial and allowing base whilst framework and controlled and extending relationship with room for private allowing room for flexible exchange expenditure targets support for GoSL to improve sector credit expenditure on rate regime and transparent prospective SOE productivity expansions infrastructure and budgets investments human capital Despite strict prescriptions, SL has never defaulted IMF repayments The IMF has provided Sri Lanka with multiple facilities over the past 7 decades. Moreover, the tough but pragmatic IMF prescriptions were mainly targeted on fiscal consolidation and removing caps on borrowing costs in order to soften the external worries. As a result, when SL has received IMF support and adopted the proposed reforms, the country has been able to successfully navigate through its economic encounters and get back on track.
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