One-size-fits-all reform strategy will not work

Originally appeared on The Morning.

By Dhananath Fernando

It is said that there are three kinds of people: those who watch things happen, those who make things happen, and those who wonder what happened. Sri Lanka’s economic crisis and its story of reforms is undeniably a case of the latter.

Unfortunately, our key institutions and the Government authorities who are currently in the driving seat fall into a new category called ‘those who wonder what happened, but frankly just don’t care’. 

A good example is the recent discussion on the validity of the debt servicing suspension announcement. Since Parliament has the power to approve all public finance decisions, questions have been raised as to how such an important decision, which was made for the first time in the history of Sri Lanka, was not tabled before Parliament for approval.  

Of course, if we had enough money and if our State coffers held a reasonable amount of foreign reserves, we wouldn’t have needed to skip debt servicing or suspend debt repayments, and this would not have been an issue. However, it is no secret that the country did not even have enough funds to clear a shipment of LP Gas worth $ 20-30 million. The phrase ‘scraping the bottom of the barrel’ is not appropriate in this instance, because there is simply nothing at the bottom. 

Warnings fell on deaf ears

There were multiple alerts on Sri Lanka’s debt sustainability issued by local intellectuals as well as by common men and women. Global banks such as Citibank even issued a report titled ‘Denial is not a strategy’. But their warnings fell on deaf ears as our Parliament and Central Bank did next to nothing to remedy the situation. 

Months after suspending debt payments, Parliament is now questioning whether the debt suspension decision had been approved by them. Instead, they should be asking themselves what they were doing for so long when it was obvious that we did not have money to pay our debt. 

When the country was heading straight towards bankruptcy, many policymakers did not bother to question what was happening. This does not justify the failure to follow parliamentary protocol, of course, but two wrongs will not make a right. 

In desperate need of reforms

The current system is a clear indication that our institutions are in desperate need of a complete reform programme, one that includes political reforms. However, expecting reforms to be implemented by a set of policymakers who, up until very recently, did not even bother to question what was happening may be too high an expectation. 

The execution of a solid reform programme requires building upon an understanding of what these reforms should be as well as understanding the importance of laying the foundations for strong, independent institutions. Along with specialist skills, a commitment to seeing these reforms through is required. Political reforms should support economic reforms and vice versa.

SOEs as a starting point

A good starting point is reforming State-Owned Enterprises (SOE). It is quite surprising to me that the International Monetary Fund (IMF) press release on the Staff-Level Agreement (SLA) gives little significance to SOE reforms. 

One of the seven main points highlighted by the IMF and the Government is the need for cost reflective pricing for energy and petroleum products. This is a welcome move, but it will lead to the same problems we have been facing so far. 

Given the state of our institutions, our politicians will adopt the cost reflective pricing strategy for as long as is needed and then simply revert back to their old habits – changing the pricing formula, bringing  prices down, and ignoring the cost factor. For this reason, our reforms have to be of a much more permanent nature this time around and that is why we need a strong combination of specialist skills and a commitment to implementing these reforms. 

The role of the Government

The Government’s role is not to conduct business, and a private sector business leader recently said as much: “The Government’s only business is to not to do business.” Simply looking at which enterprises make profits or incur losses is definitely the wrong way to look at it.  

Government businesses that make profits at present can incur losses in future. The Government has the ability to destroy any notion of a level playing field and can support Government businesses through loans, subsidies, and special permits. The vast majority of profit-making SOEs are not profitable solely due to their own efforts, and in reality, they aren’t competitive businesses.

For instance, it is widely known that the Development Lotteries Board is a profit-making Government institution. What may be a lesser known fact is that there is only one other competitor – the National Lotteries Board, and the directors of both these companies are appointed by the Minister of Finance. Under these circumstances, it can hardly be a surprise that the Development Lotteries Board is profitable. 

Therefore, looking solely at profitability won’t address prevailing issues. We have to first look at what the role of the Government should be. 

It is true that all SOE reforms cannot adopt a one-size-fits-all strategy. Different SOEs have to be treated differently. This treatment has to be based on the principle of the government having no role in business.  

In cricket and football, it is a commonly held view that the umpire or referee has no role in playing the game. It is the umpire’s responsibility to overlook the game and ensure that it is being played fairly. The umpire’s decision is final and if the umpire acts more favourably towards one side, there is another set of regulation mechanisms to manage this. The umpire facilitates the competitive nature of the game. The same holds true for the role of the government. 

Many options have been discussed for reforming SOEs, including privatisation and SOE consolidation that follows models like the Temasek in Singapore and Khazanah in Malaysia. Regardless of which option is chosen and which model is followed, we expect the Government to implement SOE reforms on a case-by-case basis, with special attention being paid to the role of the State.  

If we fail to understand the role of the State and implement solutions for SOEs based on this, Sri Lanka’s reform programme will probably fall into the category of things that make people ‘wonder what happened’. People will certainly question the reform programme and its credibility, while our next generation will wonder how they inherited such a poorly-managed nation that was once so full of potential.  

The opinions expressed are the author’s own views. They may not necessarily reflect the views of the Advocata Institute or anyone affiliated with the institute.

Long-awaited economic revival: Will we ‘make it happen’ this year?

Originally appeared on The Morning

By Dhananath Fernando

Every year, as a kid, I used to write down my new year’s resolutions on a piece of paper and place it in a sealed envelope and revisit it on the last day of the year. Some of these resolutions were plans like scoring 85 marks for mathematics, learning to ride a bicycle, and scoring 12 half-centuries when playing cricket with my friends. The idea of revisiting them was to evaluate how far I have realised my goals for the year.

A quote by basketball legend Michael Jordan, which goes as “some people want it to happen, some wish it would happen, others make it happen”, made me realise that my dreams were merely wishful thinking without my conscious effort and action to pursue them.

In my opinion, this same scenario could be applied to realising the dream of a dynamic Sri Lankan economy. Choices spelt out by Michael Jordan are relevant to policymakers and the Sri Lankan people. Are we wanting to make it happen? Are we wishing it would happen? Or are we really making it happen? Only at the end of 2021 will tell what choices we have made as a collective.

In this light, this week’s column will explore possibilities for Sri Lanka’s economic revival for the year 2021, drawing on Michael Jordan’s wisdom, my experience as a common citizen, and the ways in which economic matters have been handled post Independence.

Scenario 1: Want it to happen

A possible scenario that could play out in 2021 is the political and economic leadership wanting to revive the economy but with the wrong tools. This is a classic scenario. Despite a genuine need and effort, things fail to work out in the expected manner due to multiple unintended consequences. Many academics and economic experts over the years have diagnosed Sri Lanka’s economic problem. However, we have spent way too much time on our diagnosis alone.

Even economists with conflicting ideologies would agree that the Sri Lankan economy has a severe productivity problem. This means that we waste large amounts of Sri Lanka’s valuable resources only to receive a very low output in comparison to the substantial input. The island’s structural situation has been deficient, creating sizable distortions in the economy. Sporadically, macroeconomic instability also occurs, arising from fiscal deficits leading to the creation of money and unsustainable current account deficits in the balance of payments. These have been the norm for decades.

The multitude of economic issues springing up in public discourse from time to time is a byproduct of these fundamental problems. Challenges on debt sustainability, poor performance of our exports, and lack of competitiveness are all just symptoms of a severe illness in our economy. If we deal with the symptoms of the problem rather than fix the root cause, 2021 will be yet another year where we “want it to happen but something else happened”.

There is a tendency to sell the same expired policy recipes wrapped in a new glittery package back to policymakers as an effective policy measure for economic revival. This may happen due to misunderstanding the diagnosis or lack of comprehension of the gravity of the problems at hand. If Sri Lanka picks the choice of “wanting it to happen”, our economic destination would be more likely the same or worse, coupled with many other unexpected challenges.

Scenario 2: Wish it would happen

The second possible scenario would be policymakers prioritising other political motives over economic reforms and simply wish the “economy would be revived”. Over the years, all parties have compromised the Sri Lankan economy for political power. Starting from the 1953 Hartal, 1981 riots, 1983 Black July riots, and the formation of the LTTE (Liberation Tigers of Tamil Eelam) up to the recent 2018 constitutional coup and the 2019 Easter Sunday attacks, the political agenda has always been prioritised over the island’s economy.

This sparks a two-way reaction which is a never-ending vicious cycle: When economic conditions are bad, it converts to political instability, and political instability fuels economic downturns. In all cases, we have had the wishful thinking that our economy would do better without the necessary steps to prioritise what needs to be done.

In 2021, all stakeholders and policymakers should leave wishful thinking aside and become more action-oriented to face the mounting debt sustainability challenges. With available foreign reserves and securing few swaps from neighbouring countries, we will be able to float through this year. However, failing to adapt necessary policies will mount up the pressure in the last quarter and in the beginning of 2022, if the environment for growth is not created.

In the back of our heads, we have a positive sentiment and wishful feeling that we can soldier through the debt challenge. The reality is that we should provide serious attention on the matter without taking it lightly. There is a higher possibility that a bilateral relationship with China will come for the island’s rescue; however, if China provides special treatment for Sri Lanka, they will have a long list of countries lined up expecting the same treatment. A recent article on Financial Times has revealed that the funding by China Development Bank and Export-Import Bank of China, which are the main two funding engines for the Belt and Road Initiative (BRI), has cut down the funding for BRI to $ 4 billion in 2019 from $ 75 billion in 2016.

There is a counter-argument that China will provide funds through Chinese SOEs (state-owned enterprises) as a novel strategy of financing the BRI. However, wishful thinking and placing all our eggs in one Chinese basket will not help Sri Lanka to overcome challenges at home. Sri Lanka requires action. It is unfair to have higher expectations from China as they have bigger interests over the entire BRI project, and at the same time, there will be geopolitical tensions. Incorrect prioritisation of reforms is a sure way for deepening the crisis.

So far, the tragedy of our economy is that we didn’t do anything. In a dynamic world, not doing anything is sometimes worse than even attempting to do the wrong thing. Settling in stagnation without moving in any direction and postponing the problem by kicking the can down the road of wishful prosperity is a distant recipe for actual prosperity.

Scenario 3: Make it happen

The third and most favourable scenario would be the policymakers making it happen. It’s easier said than done, but I still believe there is a good opportunity to make it happen if the correct tools are available and correct prioritisation is done. Every crisis brings opportunities and opens up windows for reforms. We have to just get the right reforms done. Very importantly, when the right tools are used, investor confidence will be restored and the market signaling system will work.

To “make it happen”, policymakers have to realise that there are no shortcuts, nor can there be any alternative method to be adapted. It has to be hard economic reforms to improve productivity by allowing markets to operate based on price signals and improve fiscal management and monetary stability. “Making it happen” requires commitment and comprehension of the problem diagnosis.

We need to understand that the solution mix we have at hand is not the most convenient, given our bad economic management over the years. There is a cost for every action, reaction, and choice we make. Since the Government has kept the solution with the International Monetary Fund (IMF) aside, now we have to evaluate the other available solutions. Financing through FDI (foreign direct investment) and bilateral swaps is one way to look at it. How far we can accelerate our growth realistically is another way to estimate where our possible landing would be.

As the Government is unwilling to amend the tax concessions, then we have to evaluate where we can cut the expenditure and if we are willing to let go of at least a few of our loss-making SOEs for private investors to run it. Or else, we can utilise some untapped resources and open it up for investment and take our economy back on track. We have to evaluate the pros and cons of going with the IMF vs. going without the IMF with a cost-benefit analysis and see where we really want to mix and match our solutions.

There are suites of solutions even in the darkest hour, but to make it happen, we have to move to the driving seat and get things done. Using wrong tools, not doing anything, and wishful thinking of an economic revival will surely not help Sri Lanka to move forward. Only time will tell us whether we just wanted things to happen, whether we were a bunch of wishful thinkers waiting for things to just happen, or whether we were a courageous nation which made things happen.

The opinions expressed are the author’s own views. They may not necessarily reflect the views of the Advocata Institute or anyone affiliated with the institute.

Economic reforms before constitutional reforms, please

Originally appeared on The Morning

By Dhananath Fernando

Kumar Sangakkara in his famous Colin Cowdrey Lecture at London’s hallowed Marylebone Cricket Club (MCC) in 2011 said: “In cricket, timing is everything.” Not only in cricket but in economics and politics too, timing is everything.

Unfortunately, Sri Lanka’s track record on “economic reforms” has been very poor and completely devoid of timing. We have been completely ignorant of the need for economic reform and things are now at a dire stage. Across the board, even the Government has conceded that things are not easy!

Sri Lanka is experiencing a second wave of Covid-19 and the continued imposition of curfew in parts of an important district such Gampaha, which is a key economic centre, is a cause for concern. The recent lockdowns also cover a free trade zone, the country’s main international airport, and many export-oriented factories. Hence, one cannot simply ignore the economic impact of this health crisis.

Our economy contracted by 1.6% in the first quarter of 2019 and the second quarter data is yet to be released. On the positive side, our exports have exceeded the $ 1 billion mark in September and our remittances have increased by 28% YoY (year-on-year). While this increase in remittances is a good sign, this sudden increase may be due to workers sending home their final savings due to job losses. Another positive sign is that our stock market is performing well with about Rs. 5 billion turnover with more than 41,000 transactions, the highest since 2011. However, on the other hand, following Moody’s credit rating downgrade and even prior to that, the departure of foreign investors from the stock market can be observed, and our treasury bills have been undersubscribed as of late.

Unfortunately, with Covid-19 infections picking up again, it is unlikely that people will see further relief measures from the Government, as the Government’s finances are in a complicated situation; in fact, they are probably worse off than our household finances. Reopening the country for tourism will most likely be postponed, at least until the end of the first quarter of next year, and further moratoriums or government handouts may be unlikely, given that the budget deficit for 2021 is expected to be around 9% of GDP.

In this context, we have to admit that our economy cannot be fixed just by incremental reforms. Superficial changes or stopgap solutions will not help us reach where we aspire to be.

Unfortunately what we are seeing at the moment are attempts to micromanage what is essentially a macroeconomic problem, while serious core economic concerns are reaching a boiling point. Measures such as the reduction of tariff lines on a few consumable goods and allowing the importation of some ingredients for the production of incense sticks are just a couple of examples of ad hoc micromanagement of the macroeconomy. When a senior minister has to engage himself in a micro-task such as creating a tiny tariff reduction on just one HS (Harmonised System) code, it prevents them from prioritising the broader issues to navigate the economy at a time where the country is facing the unprecedented crisis of Covid-19.

A similar situation was reported to have occurred during the 1970s where the Minister of Finance had to go through a file every morning to evaluate the licence requests for the importation of motor vehicles. When a Finance Minister has to sit and supervise such a micro issue, it is obvious that many other policy priorities will be either ignored or mismanaged.

The World Bank predicted an economic contraction of about 6.7% for 2020 even before the emergence of the new wave of Covid infections, but mainstream conversation has been focused on constitutional reforms, particularly the 20th Amendment. It is true that people have provided a clear mandate for a new constitution, but our policymakers have to think of the timing of the new constitution and other constitutional reforms. The country and people’s needs and expectations have shifted, especially as the entire world is grappling with a pandemic. New needs and lifestyles have been created. Consumer and citizen behaviour and priorities have undergone a massive transformation. This doesn’t mean that the mandate for a new constitution is no longer valid, but the timing and focus being given to a new constitution has to be reconsidered. This matter could just as easily be taken up whenever the current crisis has been dealt with.

There is no doubt that our constitution is far from our expectations, but the brewing economic crisis (not just in Sri Lanka but across the world) requires 100 times greater focus for the economy to be put back on the right track.

The previous Government too was spending its energy on a new constitution without focusing on much-needed economic reforms. After spending significant time and resources during its tenure on a proposed constitution, it was ultimately not even presented to Parliament. Much-needed economic reforms were postponed and we ended up with 2.3% economic growth with stagnation in exports and foreign direct investments.

It is a political reality that there is a trade-off between constitutional reform and economic reform. Ultimately, for both constitutional reforms and economic reforms, one needs to sacrifice some political capital as, naturally, there is opposition to any type of reform. It all comes down to prioritising what reforms are urgent considering the internal and external environments.

Serious legal reforms can be carried out to positively affect businesses and the business climate before these planned constitutional reforms. As I have highlighted before in this column, Sri Lanka’s land regulations, regulations on micro and small enterprises, and employment regulations can be easily reformed to bring faster results. Age-old laws, regulations, and bureaucratic practices continue to hamper investment. Therefore, instead of a heavily energy-consuming constitutional reform process, we can focus on getting our economic fundamentals right. Creating competition and competitiveness is the way to go.

Over the years, while we have been discussing constitutional reforms, our regional peers have moved ahead of us, especially on the economic front. For example, Vietnam increased its exports from $ 50 billion to $ 250 billion from 2008 to 2018, while Sri Lanka’s performance improved only from $ 7.5 billion to $ 10 billion in the same period.

National Budget 2021

Now the Government has a golden opportunity to bring in a series of economic reforms through the upcoming national budget. A clear direction through serious reforms will bring back credibility to the Government and the economy, and send a positive signal to investors locally and globally. Sri Lanka’s economic problems have gone far beyond ad hoc fixing. Now it can only be fixed through macro reforms.

Then comes the question of what sort of reforms. In the world of business and economics, it is incentives that drive growth and innovation. It is by expanding markets and access to markets that growth can be achieved. It is through competition and by creating a level playing field that growing economies, including our regional peers, have achieved growth. So, for a market of 21 million people, our reforms have to be based on setting up proper incentives, connecting with other markets, and improving productivity for those who work hard and value-free exchange of goods and services.

Bringing in these macro changes before micromanagement has to be at the forefront of government policy. Unfortunately, we have no other alternative if we are serious about creating a prosperous country. Let’s hope that Sri Lanka will get its timing right at least this time and establish the right fundamentals for a competitive economy.

The opinions expressed are the author’s own views. They may not necessarily reflect the views of the Advocata Institute or anyone affiliated with the institute.

Is Sri Lanka unlucky or unprepared?

Originally appeared on The Morning

By Dhananath Fernando

Some time back, a friend of mine died in a motorcycle accident. I consoled myself thinking it was pure misfortune. However, upon visiting the location of the accident, I discovered my friend had ridden his bike without a safety helmet. Needless to say, if he hadn’t met with the accident, regardless of whether he was wearing a helmet or not, he would’ve still been amongst us. However, if he had worn a helmet, it is likely that he would’ve survived the accident.

Most incidents in life, or even in the economy, can be seen through two lenses – of misfortune and mismanagement (in its positive variation, these can be interpreted as good fortune or as the results of hard work and smart decisions). It is embedded in Sri Lankan culture to interpret most unfavourable events in life through the lens of misfortune. However, a deeper dive into the root causes of unfortunate incidents often emphasises lapses of management.

A sudden uptick in Covid-19 cases can also be viewed by society through these two lenses. As individuals, isn’t it the appropriate time to question if we followed the simple steps of wearing a face mask, washing our hands, maintaining social distance, and taking precautionary measures to avoid greater misfortune?

On the broader picture of public policy; have we increased our testing capacity, have we followed the right testing strategy, and have we been conducting random testing? These are questions we should ask ourselves before jumping to any conclusions.

However, a combination of mismanagement and misfortune is deadly, and these two often complement each other. Whether it’s misfortune or mismanagement, the consequences for citizens would be very serious both from a public health perspective and from an economic angle.

One main lesson COVID-19 has taught us is that only self-control and self-discipline can contain the virus, not state control. The state can only play a facilitatory role, and the impact on public health and our economy worsens with each blanket policy decision.

When we look at the events over the last five to six years, an unaccounted cost of mismanagement is throwing away resources and opportunities that could have been utilised during hard times of misfortune.

For example, think of a cricket team which is chasing a total, and loses half their wickets due to the frontline batsmen playing careless shots. However, the team ends up losing only by two runs due to a brave fightback by the lower order batsmen, which took the team to the brink of an unlikely victory. Should we say the team was unlucky because it got agonisingly close and lost by only two runs, or should we blame the carelessness of the batsmen at the top, without whom the team would have presumably ended up winning the match?

When we look back at our recent history, in 2015-2016, the Central Bank bond fiasco affected our financial markets to an extent; in 2016, the drought greatly affected Sri Lanka’s economic prospects; in 2018, we had a constitutional crisis; this was followed by the 2019 Easter Sunday attacks which further shattered hopes of any economic recovery; we had the Digana riots and social media blockages in between; in 2020, we are still in the middle of a global pandemic. Some of these negative shocks are due to mismanagement, and some events are due to misfortune. But it is undeniable that we are hindered by the mismanagement of our misfortunes.

However, all the misfortune and mismanagement over the last few decades now appear to be funnelling down to a serious economic shock. The uncertainty of COVID-19 and its impact at the global scale have made it the right ingredient to stir up a storm for Sri Lanka.

Mismanagement and misfortune of exports

Covid-19 hit our exports badly on all fronts. As our export markets were affected by falling consumption, our supply chains for exports were interrupted during the first wave of COVID. Since then, however, our exports have been on the rise to reach pre-COVID levels. However, our apparel sector is one major industry that was badly hit by COVID-19 just at the start of this year – a time we need exports the most.

There is talk in society that the recent COVID-19 cluster is viewed as a result of both misfortune and mismanagement. However, we as a country cannot be forgiven for the mismanagement of our export sector over the years. Our mismanagement of exports backed by a system of unnecessary and excessive regulations on exports continues to handicap our export potential. According to a study conducted by Verite Research in 2018, registering as an exporter is an extensive process. The example they provided is of the coconut industry, where the process adds three to four weeks in the time taken to register, in addition to the time taken penetrating regulatory barriers that stand in the way of easy registration, only to prolong the process even further, continuing all the way to the point of customs.

The added unnecessary import restrictions further hurt Sri Lanka’s export potential with higher tariffs on imported raw materials for export processing making matters worse and Sri Lanka’s exports uncompetitive on the global stage.

The intention of protecting local industries by imposing tariffs has made our own local industries uncompetitive and has forced consumers to bear the cost of inefficiencies. As a result, local industries are neither productive for export nor competitive, and we are back at square one.

Our mismanagement has caused us to restrict our exports only to a few sectors and we have placed too many export eggs in the apparel basket.

Mismanagement and misfortune of our debt sustainability

COVID-19 has had a direct impact on our debt sustainability. As we have highlighted multiple times, servicing debt of nearly $ 4 billion till 2025 is a mammoth task. Our debt servicing cost has exploded to a whopping 107% of our annual revenue, and our annual revenue is declining as a percentage of GDP over the years.

The Government’s generous tax cut offered at the end of last year is expected to significantly reduce tax revenue for 2020. The Government assured us that we are in a position to service all our debts. However, that can be only done by borrowing money from other lenders and servicing the existing debt. Even if it is possible, it won’t provide a permanent solution due to the unsustainability of our debt.

If Sri Lanka had built the right economic foundations with proper social security safety nets and policies to boost competition and productivity with a firm understanding of economic fundamentals, we would never have reached this dangerous juncture.

By and large, we could also have navigated or totally avoided most of the misfortunes we are facing at the moment. Our mismanagement is what has made us believe that we are unfortunate. Unfortunately, the degree of mismanagement through which we have survived so far is more than we can afford. Therefore, we have now reached such a precarious position that we simply cannot afford to face any further misfortune!

The opinions expressed are the author’s own views. They may not necessarily reflect the views of the Advocata Institute or anyone affiliated with the institute.

How bad parenting leads to bad credit

In this weekly column on The Sunday Morning Business titled “The Coordination Problem”, the scholars and fellows associated with Advocata attempt to explore issues around economics, public policy, the institutions that govern them and their impact on our lives and society.

Originally appeared on The Morning

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By Dhananath Fernando

Parenting a child is a difficult task. It is no doubt that educating and teaching a child takes a significant amount of time and effort for all parents. The bigger the pile of homework, the more it becomes an affair of the household, requiring the attention and time from either parents or caregivers.

Some parents take an easy route; instead of encouraging their child to get the work done, they do it themselves and bestow the child with all the credit. This may be owed to the fact that the assigned task is above and beyond the grasp of a child, or simply because parents can’t afford to allocate the time and effort required to assist their child. Undoubtedly, both reasons are not in the best interest of the child and will certainly hamper his or her learning curve and growth.

Given the above phenomenon, I can’t help but notice similarities between common parenting mistakes and the Sri Lankan economy. Our economy has adopted a habit of conveniently ignoring hard reforms for political motives and instant gratification. This has resulted in long-term damage to the country’s economy.

Moody’s Analytics downgraded Sri Lanka’s credit rating from B2 to Caa1 last week with a “Stable” outlook. While the Government has made a statement expressing their disagreement with Moody’s credit rating downgrade. It is important to understand Moody’s rationale in depth. Long-term measures to correct these problems are vital, and hard reforms may be the only way out.

The effective containment of COVID-19 and the recent performance of the stock market has been reiterated by the Government as part of their success story. Additionally, the rebound of exports and foreign worker remittances are highlighted as positives. The Government has further provided a commitment to reduce the debt-to-GDP ratio, serve all external creditors without delays, and uphold a clean record of debt servicing.

However, Moody’s evaluation, which was in the works since April, highlighted concerns over-servicing debt of about $ 4 billion (between 2021 and 2025) with a reserve level of $ 7.4 billion, along with low growth predictions. Moody’s estimation of raising the debt-to-GDP ratio of 100% exceeding the median of 86% in the Caa1 category has been highlighted as a fundamental reason for the downgrade.

Moody’s downgrade forecasts the possibility of Sri Lanka’s credit rating being further downgraded by other rating agencies such as Fitch and S&P in the coming months. This will thrust Sri Lanka into the “Speculative Grade: Very High Risks” category, raising serious concerns over the possibility of acquiring money in international capital markets. The risk attached to this doubles as the coming years are burdened with heavy debt repayments.

How can this be managed?

Prevalent data highlights that consecutive governments have resorted to borrowing in international sovereign bonds at high-interest rates of about 6.6%, with an average repayment period of nine years. It is no doubt that our economic woes are deep-rooted in these poor policy solutions.

It is vital that we acknowledge the damage caused by these measures and formulate a strategy to overcome it.

The diagnosis is clear – our interest payments take 47% of our revenue and 30% of our expenditure.

The first step to manage this downgrade is to build credibility in financial markets. This is both painful and time-consuming. However, this is not an excuse to postpone much-needed reforms. Doing too little too late would lead to severe consequences, further hampering our debt sustainability.

To build credibility, the Government enjoys the benefit of two main strengths, a key strength being the successful management of the COVID-19 pandemic, which has also been praised by the World Health Organisation (WHO). At the international stage, this can be our ticket for a possible debt restructuring, giving the Government leverage to convince the International Monetary Fund (IMF) of a credible debt restructuring plan.

As per the below graphs, a greater portion of our foreign debt is in international sovereign bonds (ISBs). The IMF programme, of course, will come with conditions which are painful, but it will also bring credibility to Sri Lanka within international financial markets. This will require a commitment from the Government to maintain fiscal discipline. Sri Lanka has spent 42% of the last 70 years under an IMF facility. We have approached the IMF 16 times for bailout programmes. This isn’t a point of pride but indicates how irresponsibly our economy has been managed over the years.

An IMF restructuring programme will not uplift Sri Lanka’s credibility to the point where a credit rating downgrade can be reversed. However, it provides additional confidence for creditors and investors who are looking to invest in high-risk markets even at a premium rate.

The second strength is the Government’s opportunity to present a convincing budget with serious reforms in November. The budget needs to have a comprehensive strategy on improving government revenue and achieving a positive primary balance. (Primary balance is the difference between government revenue and government’s non-interest expenditure.)

Both measures are painful, but the Government has the political capital and political strength to pass through key essential reforms. Unfortunately, although we measure ourselves with what we intend to do, the markets and outsiders assess us with what we have done and continue to do.

Similar to parenting a child and encouraging the child to complete their assigned homework, the path to hard reforms is difficult and time-consuming. But we all need to support and help the Government to carry out these hard reforms, as it is ultimately being carried out for the betterment of our beloved motherland and ourselves.

The opinions expressed are the author’s own views. They may not necessarily reflect the views of the Advocata Institute or anyone affiliated with the institute.