Political uncertainty growing in Sri Lanka – Moody’s
View(s):The unfolding political crisis is credit negative for Sri Lanka because it heightens policy uncertainty and could weigh on growth if social tensions rise, rating agency Moody’s Investors Service warned on Tuesday.
Crowd picture of the UNP protest rally on Tuesday.
It also threatens international investors’ confidence and the flow of foreign capital, at a time when the government faces large external debt maturities.
These developments follow the October 26 sacking of Prime Minister Ranil Wickremesinghe by President Maithripala Sirisena and appointing former president Mahinda Rajapaksa as his replacement. Wickremesinghe is vigorously disputing the constitutionality of his dismissal.
“The change of prime minister and cabinet raises uncertainty about the direction of policy. In particular, fiscal consolidation beyond the conclusion of the International Monetary Fund programme in mid-2019 and especially ahead of elections due in 2020 is at risk of delays. Some planned measures, such as electricity price reform, which is already politically contentious, will be even more difficult to implement. If it falls through, this will hurt the financial health of some state-owned enterprises and, as a result, the country’s fiscal position,” Moody’s said in a statement.
Amid a fractious political environment, a higher likelihood that the country’s fiscal and current account deficits will widen again could reduce investor appetite for Sri Lankan debt and spur capital outflows, weigh on the currency and raise financing costs. “With a persistently high debt burden and weak debt affordability – we expect that debt will remain above 70 per cent of GDP by 2020 and that interest payments will continue to absorb about 40 per cent of revenue in the next couple of years – along with sizeable external and foreign currency borrowing needs, lower capital inflows and higher financing costs would hurt Sri Lanka’s fiscal strength and credit profile,” it said.
Renewed fiscal pressure would heighten Sri Lanka’s external vulnerability risks. Foreign exchange reserves fell to $6.4 billion in September 2018, covering about 3.4 months of imports, down from their peak of $9 billion in April 2018, close to five months of imports.
With low reserve coverage of external debt repayments, Sri Lanka has smaller buffers to manage repayments and faces greater refinancing risks in an environment of rising political tensions and tightening financing conditions globally. “We project our External Vulnerability Indicator, the ratio of external debt due over the next year to foreign exchange reserves, to stand at 160 per cent at the end of 2019,” Moody’s said.
Moreover, simmering civil unrest – as reflected in recent protests linked to underlying religious and social tensions – poses a threat to economic stability. Already, GDP growth was low at 3.7 per cent in the second quarter of 2018, compared to an average of 5.6 per cent in the 10 years to 2017, the statement added.
Trading partners including the US and the European Union have voiced concern, calling on the government to follow the constitutional process for leadership changes.
| Sri Lanka’s political standoff lifts refinancing risk : Fitch | |
| The Sri Lankan president’s sudden replacement of the prime minister last week highlights tensions within the coalition government and creates uncertainty over further progress on reform and fiscal consolidation, says Fitch Ratings.Prolonged political upheaval accompanied by deterioration of policy continuity could undermine investor confidence and make it more challenging for the government to meet its large external financing needs in 2019-2022, it said in a statement. The outcome of the power struggle and possible implications for the sovereign rating (B+/Stable) remain uncertain. Ranil Wickremesinghe, who was sacked as prime minister, has called for a parliamentary vote to demonstrate his support, while members of his party have said they will consider impeachment proceedings against President Maithripala Sirisena on grounds that he exceeded his constitutional authority in replacing the prime minister. The president has responded by suspending Parliament until November 16 and, in the meantime, has appointed a new cabinet. The ultimate shape of the government and its policy stance may not crystallise until Parliament resumes. “We last affirmed Sri Lanka’s sovereign rating in February 2018. At the time, we noted that potential negative rating sensitivities included deterioration of policy coherence and credibility, a derailment of the IMF support programme or a reversal of fiscal improvements leading to a failure to stabilise government debt ratios,” Fitch said. The IMF-led programme might help to anchor policy if there is a change in leadership, while the benefits of some recent structural reforms are likely to persist. For example, a VAT hike has pushed up the revenue-to-GDP ratio and narrowed the fiscal deficit, while the Inland Revenue Act, implemented from April 2018, is likely to increase revenue further. Moreover, there is no indication that the central bank’s autonomy will be undermined by the political upheaval. The central bank has been key to improved economic management under the IMF programme, with greater currency flexibility supporting foreign-currency reserves. “However, the newly appointed Prime Minister Mahinda Rajapaksa, who served as president from 2005-2015, oversaw an aggressive Chinese-financed infrastructure drive and sharp increase in public debt during his second term from 2010-2015. His return to prominence could pose risks to fiscal consolidation, although he has yet to state his policy priorities. Wickremesinghe, if he hangs on, might also be tempted to adopt a more populist fiscal stance, given the political pressure he has faced since the ruling coalition suffered heavy losses in local government elections in February. Sri Lanka’s public debt-to-GDP ratio is already 77.6 per cent, which is well above the 62.9 per cent median for sovereigns rated ‘B’ or lower,” it added. Policy decisions that derail the IMF programme or lead to a loss of investor confidence could increase external financing challenges, Fitch said.
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