Sri Lanka govt warned of debt crisis tipping point, austerity need

ECONOMYNEXT – Sri Lanka is at a potential tipping point of a debt crisis with annual debt repayment estimated at five billion US dollars, requiring bi-partisan support for reforms and austerity measures, the government has been warned.

Foreign debt repayments over 2018-22 amount to a massive 14.9 billion dollars, said a new report on Sri Lanka’s debt crisis by a group of independent economists and analysts, who noted an International Monetary Fund loan to the island was only 1.5 billion dollars.

Annual debt repayment is estimated to be five billion dollars, according to the report titled ‘Sri Lanka’s Debt Crisis – It’s More Serious than you imagine’.

It is of “utmost importance that this is acknowledged as a potential tipping point of an impending debt crisis,” the report warned.

It called on Sri Lanka’s leadership to drive with commitment bi-partisan urgent reforms essential to mitigate and manage risks.

The report also noted that 60 percent of all households are in debt with an average of 1.4 million rupees debt outstanding per household.

The report called on the government to establish hard spending limits – fiscal targets like budget deficits or total spending – with flexibility to reallocate funds that forces the Cabinet of ministers to consider spending priorities – where should limited resources be allocated.

The text of the report follows:

Context

A Team of Leading Economists/Analysts in January 2019 alerted the Leaders in Governance that it is likely that the ballooning external debt commitment will lead to a sovereign bond default, unless drastic and sustainable actions are taken to:

Overcome the culture of running high fiscal deficits indulging in extravagant, conspicuous and unproductive investments/imports and spends.

•Rapidly expand foreign exchange earnings from goods and services exports

• Secure value adding foreign direct investments that generate new employment and livelihood options

• Very little success has been realized since then and Sri Lanka is just ahead of a debt crisis

Advertisement

 

 

 

What does Sri Lanka’s debt look like?

•Official statistics state that Sri Lanka’s debt amounts to 82.9% of GDP. However, experts argue that when one accounts for government borrowings from State banks and the Central Bank, as well as private sector foreign borrowings, our debt hits 100% of GDP

•While the Ministry of Finance projects that Sri Lanka’s debt will be 72% of GDP in 2022, experts argue that it is likely that the debt would increase to 100% of GDP in three years and that our debt doubles in six years

•Sri Lanka’s foreign debt is highly vulnerable to external shocks

• Exchange rate depreciated by 20% from January 2017 to date due to political instability and Easter attacks

•60% of all households are in debt with an average of Rs.1.4 million debt outstanding per household

Sad state of Sri Lanka’s household debt?

•As per the Household Income and Expenditure Survey of 2016 conducted by the Department of Census and Statistics, average household income per month at national level was Rs. 62,237 and average monthly household expenditure was Rs.54, 999

• Sixty percent of all households are in debt with an average debt outstanding of Rs. 1.4 million. At an average revenue minus expenditure of Rs. 7,238 this requires repayment over 193 months. If growth slows this time period will lengthen.

•This issue has to be addressed via economy wide increases in productivity and growth along with the generation of higher savings

What is the composition of our debt?

•Foreign debt as a % of GDP is 41.2% to be repaid in dollars

•Domestic debt as a % of GDP is 41.6% to be repaid in rupees

•Foreign debt repayments over 2018-22 amounting to a massive $14.9 billion. To put this in context, the current IMF facility is only $1.5 billion

•Sri Lanka’s debt value and the debt composition have changed over the years, from concessional long term loans to non concessional short term loans (Non concessional loans in 2006 as % of GDP was at 7% and increased up to 55% in 2018)

Debt service repayments

•Debt service payments as a percentage of GDP stood at at 14.5 percent in 2018, compared to 11.9 percent in 2017

•Debt service payment as a percentage of total government revenue amounted to 108.8 percent in 2018

•Annual debt repayment is estimated to be USD 5 billion

•Interest payments of 2019 account for 41% of recurrent expenditure of the government, or 5.9% of GDP

•Foreign debt service ratio is at 30% in 2018

Implications?

•Slowdown in economic growth from +4% in 2015 to -3% in 2019

•Indicating the increase in budget deficit in the same period with an estimate of nearly 6% for 2019

•Slowing growth, increasing budget deficits and resource outflows for debt repayment reduces consumption and investment

•Low growth will lead to Sri Lanka being downgraded on ratings translating into higher costs of borrowing

• Economic austerity appears to be inevitable and there is no space for high extravagant and unproductive spends

•Certainly no space for periodic auctions of non existent resources in pursuit of political power

• Political Instability and Ethno–Religious tensions drive development deficits and enhances inequalities

•Poor and marginalized segments of society will be the most impacted by a crystalized debt crisis

•Easter attacks and 2018 October Political crisis greatly contributed to slow the growth. A quick turnaround unlikely with Presidential/Parliamentary Election due over the next 6 months

•Slower global growth rates, mainly due to Trade war between China & USA and the tensions in Middle East will make the situation more unfavorable to Sri Lanka

How do we tackle this?
Utmost importance that this is acknowledged as a potential tipping point of an impending debt crisis

Leadership to drive with commitment bi-partisan urgent reforms essential to mitigate and manage risks

-Case study 1: Bangladesh political parties agreed on a common economic programme and kept the policy agenda consistent. This has resulted in consistent higher growth rates and attracts value adding Foreign direct investments

-Case study 2: Both Sri Lanka and Pakistan won the ICC Cricket world cup in 1992 and 1996 as a result of visionary leadership and Team Work of Imran Khan and Arjuna Ranathunga regardless of the skill levels of the individual players

We need to understand how the country came to this point the country came to this point

•From 2000-2016, the total spending grew at a compounded annual rate of 12% (from Rs335,822 million to Rs2,333,883 million), with the deficit following suit (Rs119,396 million to Rs640,326 million). Foreign financing of the deficit grew from Rs495 million to Rs429,130 million during the same period

•Debt is simply taxation postponed, with interest added. Money printing can tide over in the short term, but ultimately results in inflation and currency depreciation. The need, therefore, is to reign in expenditure, which must start with a proper plan, committed implementation and role model leadership action.

Medium–Term Expenditure Term Expenditure Framework (MTEF)

•Three-to-five year rolling plans, the important features of which are as follows:

•Extends the timeframe of budgeting from 1 year to 3-5 years.

•Projects the future cost of existing programmes and approved policy changes (baseline).

•Establishes hard spending limits – fiscal targets (i.e. deficit or total spending).

•Establishes a procedure for proposing any new policy initiatives and drives productivity, quality improvements, innovation, economy, efficiency and effectiveness

•Adopt accruals accounting, generate timely management information, results oriented management, diligent implementation follow-up and learns lessons from Post Audits

•Rolls the MTEF forward each year, adding a year at the end.

Better allocation of scarce funds

•The Treasury can work backwards from revenue, assuming no changes in the tax structure and the deficit target to arrive at the overall spending limits. Matching this with projected costs of current programmes will indicate if there is space available in the budget for new policy initiatives

•The overall spending limit is a ‘hard’ limit, but within the overall limit, reallocation can take place. This forces the Cabinet to consider spending priorities – where should limited resources be allocated? The Cabinet can determine soft ceilings for ministries that need to ‘win’ competitively on the basis of plans submitted

Larger reform agenda
•Reduce waste by way of SOE losses, corruption, monumental investments––Increase domestic output and foreign inflows

•All SOE’s to be listed in Colombo Stock Exchange

•Take the slack away from the labour market

•Address low female participation and poor youth participation

•Divert investments away from “brick and mortar” to human capital with emphasis on “STEAM”

•Only concessional loans to be utilized for infrastructure development work

•Re–evaluate the import tariff structure to promote austerity with political leadership setting example

•Promote Savings, Productivity and Quality Improvements, Research led Innovations as a Work Ethic

•Project denominated bonds for building infrastructure which will improve transparency and bring down risk premium

Imminent High Risks Require Disciplined Management & Legislative Controls
Notes to rethink

•Fiscal Responsibilities Act failed to be implemented with no sanctions on failure!

•Will a strengthened Fiscal Responsibilities Act bring required macro discipline?

•Will the Active Liability Management Act be effectively implemented?

•Can the new Monetary Law Act & the Macro Prudential Authority assure future stability?

•Would embedding discipline via constitutional controls ensure sustainable stability Example:
Swiss “Debt Brake” applied since 2003, via Article 126 Constitutional provisions, be our role model for Spending Control and Fiscal Restraint ( Now an EU Standard)
(COLOMBO, 01 November 2019)

Latest Comments

Your email address will not be published. Required fields are marked *