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, appears set to name 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. – ENDS -