Sri Lanka’s usable reserves have dropped to levels of about US$150 million. Acute shortages of essentials ranging from fuel to medicine have become prevalent.
Increasing public discontent amidst increasing prices and shortages has led to large protests all across the country. The country has reached a position where the country is unable to import essential fuel without the help of credit lines from bilateral partners. As the crisis reaches such depths the government and the administration have failed to come up with a credible economic plan capable of taking Sri Lanka out of a fully blown out economic collapse.
At such a crucial juncture, a group of independent economists have launched an emergency plan of action with the aim of stopping further collapse of the economy and to stabilize over the medium-term.
In a joint statement, the independent group of economists highlights that macroeconomics risks will continue to worsen if immediate action is not taken.
“Sri Lanka has run dangerously low on foreign reserves and faces the spectre of a ‘disorderly default’ on its debt obligations. Although a default may cause legal complications in debt restructuring negotiations and reputational damage for the future, much of the economic consequences of a sovereign default are already here. “
Therefore the group of economists urges the government to take the necessary steps to achieve this outcome immediately. Key signatories of the emergency plan further argue that a staff-level “agreement with the IMF can establish market confidence and help unlock bridge financing.
The independent economists who are signatories to the document are Aneetha Warusavitarana, Anushka Wijesinha, Anushka Wijesinha, Asanka Wijesinghe, Chayu Damsinghe, Daniel Alphonsus, Deshal de Mel, Naqiya Shiraz, Rehana Thowfeek, Shiran Fernando, Thilina Panduwawala and Umesh Moramudali.
Their full statement is as follows:
The economic crisis in Sri Lanka is spinning out of control.
The following actions will help mitigate the situation and must be executed immediately:
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Action |
Rationale |
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Advisors will commence the external debt restructuring process. |
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Arrests the outflows from reserves and preserves foreign exchange to pay for critical requirements of the economy (fuel, food, pharmaceuticals). Creditors will likely expect some visibility on progress in negotiations with the IMF in order to agree to a standstill. |
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A staff level agreement with the IMF can establish market confidence and help unlock bridge financing. In order for the IMF to provide financial assistance to a country with unsustainable debt, “IMF financing may proceed before a debt restructuring is completed if the member has taken credible steps towards completing the debt restructuring process in a way that will achieve debt sustainability.” |
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Bridge financing will provide some inflows to reserves and help build up foreign exchange to stabilize the economy.
Reaching out to the World Bank, ADB, Governments of Japan, China, and India immediately can establish the groundwork to drawdown such financing as soon as an IMF staff level agreement is in place. |
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Appeal for humanitarian aid and emergency funds to help the most vulnerable population groups until bridge financing and other medium term avenues can be opened up. |
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Helps control credit flows and import demand, controlling inflation expectations and helping establish macroeconomic stability. |
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Reprioritize capital expenditure on long term projects such as roads and highways as well as non-essential program expenditure across all ministries to create fiscal space for immediate priorities of social protection to vulnerable populations.
Imposition of hard budget constraints on SOEs by ceasing all non-essential capital and current transfers to SOEs |
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Enhance targeting to capture hitherto excluded populations and ensure graduation of long term beneficiaries.
Work already done to improve targeting and efficacy of social safety nets can be utilized for this purpose. |
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Mobilize Revenue by restoring VAT rates and exemptions and Inland Revenue Act provisions from pre-2019. Reintroduce PAYE and Withholding Taxes to improve cashflows to the Treasury.
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The Central Bank holds LKR 1,730 billion government securities in its balance sheet and provides around LKR 700 bn in market liquidity through the overnight-window SLF. The CB must take steps to gradually unwind its government securities holdings in a carefully sequenced manner alongside market interest rate increases and foreign inflows. This would help anchor longer term price stability in the market. |
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Implement transparent automatic market based energy pricing and provide a legislative framework to create sustainability. |
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The IMF’s article IV consultation indicates that Sri Lanka’s banks have preserved capital, liquidity, and earnings amidst the pandemic. Whilst banks have the capital buffers to withstand an external debt restructuring, a substantive domestic debt restructuring should be avoided by Sri Lanka’s negotiators. If domestic restructuring must take place, there are tried and tested tools to ensure systemic stability. For instance, domestic debt treatment could be limited to reprofiling, along with some regulatory forbearance, in order to minimize negative impacts on financial sector stability (similar to Jamaica in 2010). |
Urgent legislative reforms for medium-term economic stability
We recommend the following priority legislative reforms to build medium-term economic stability and restore credibility and confidence in the governance of public finances and monetary policy.
However, to be effective, these changes require broader changes in the governance structure such as strengthening the independence of the judiciary, rule of law, and the necessary checks and balances for each branch of government. This would inevitably mean constitutional reform that addresses these issues in order for these legal changes to serve their intended purpose.
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Law |
Rationale |
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Present to parliament the Monetary Law Act that was drafted in 2018/19. The legislation brings discipline to deficit financing (money printing), builds institutional independence of CBSL, and creates the legislative framework for inflation targeting. |
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Tighten fiscal rules by modernizing Sri Lanka’s Fiscal Management Responsibility Act (2003) to address the prevailing fiscal numbers. Clearly define escape clauses (justified deviations from rules) and path to recovery, along with accountability measures. Explore potential for including supermajority requirements to amend certain provisions of the legislation. |
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Introduce customs law reforms such as enhanced risk based investigations, reform of customs officers rewards schemes and rationalize penalties to address perverse incentives. Other reforms including advanced rulings (improves predictability), appeals process, and other measures to comply fully with WTO Trade Facilitation Agreement. The already-drafted Customs Act can be utilized for this purpose. |
Forging a National Consensus on Key Economic Reform Areas
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