ECONOMYNEXT – Sri Lanka’s budget deficit may reach 9.3 percent of the gross domestic product in 2020 and foreign debt repayment pressure would continue beyond elections in August when the economic policy may improve Fitch Ratings said, amid more liquidity injections into the banking system.
Fitch downgraded Sri Lanka’s sovereign rating to ‘B-‘ from ‘B’ as unprecedented money printing in March 2020 after earlier rate cuts triggered foreign exchange shortages putting pressure on the currency and making it more difficult to repay foreign debt.
Sri Lanka has not yet come into a program with the International Monetary Fund with the earlier program expiring on June 02.
Fitch said tax announced by the new administration went contrary to the IMF program’s “revenue-based consolidation strategy” to cut deficits over time.
Sri Lanka’s finance ministry is forecasting an 8.5 percent of gross domestic product deficit for 2020 now.
“We continue to forecast a wider budget deficit, at 9.3 percent, due to our forecast that GDP will contract by 1.3 percent,” Fitch said.
Sri Lanka’s foreign reserves had fallen after February 2020 when money printing began and there was a pick up in domestic credit both from the private sector and the deficit. In April private credit hit a road-block amid Coroanvirus curfews.
There could be more clarity on economic policy after elections are held on August 05, but external pressure could continue, Fitch said.
Gross official reserves which including fiscal balances had fallen to 6.5 billion US dollars by May.
The country’s external liquidity ratio (defined by Fitch as liquid external assets as a percentage of liquid external liabilities), at around 60 percent in 2019, is among the lowest in its B rating category.
Sri Lanka has applied to a new IMF program that has not yet been negotiated.
“This level of coverage is low relative to sovereign external debt that is due to the rest of this year,” Fitch said.
“Sri Lanka has yet to receive external financing from the IMF in 2020, either as part of emergency support during the coronavirus pandemic or as part of a regular programme.
“Greater clarity on the government’s medium-term economic policies after the elections are held could facilitate such financing, but agreeing on policies to place public finances on a consolidation path will be challenging.”
The ratio of debt to fiscal revenue, at close to 900 percent which was is far above the ‘B’ median of 350 percent.
“We believe the government will be able to finance its maturing external debt in 2020 through loan disbursements from bilateral and multilateral agencies, apart from the sovereign bond obligation that is due, which we assume will be met out of reserves,” Fitch said.
Sri Lanka has to repay around 3.8 billion US dollars in foreign debt for the rest of 2020, Fitch said.
Yields on Sri Lanka’s sovereign bonds have risen, making it difficult to roll-over bonds.
“Our projections do not assume access to international capital markets or IMF support in 2020, but do incorporate an expectation that Sri Lanka will regain market access in 2021 when external financing conditions improve,” Fitch said.
“Sri Lanka’s debt servicing obligations over 2021-2025 are substantial, amounting to an average of USD4.3 billion per year.
“We cited a further increase in external funding stress, reflected in a narrowing of funding options and weaker refinancing capacity, threatening Sri Lanka’s ability to meet external debt repayments, as a potential negative rating sensitivity in April when we downgraded the sovereign rating.’
Sri Lanka’s central bank has announced a 150 billion rupee re-financing facility (printed money) for bank credit for Coronavirus hit businesses, despite the problems with forex reserves after President Gotabaya Rajapaksa blamed the bank for not increasing the facility from an original 50 billion rupees.