A delegation of the International Monetary Fund (IMF) was in Colombo this week ahead of a planned but now postponed visit by its head Christine Lagarde, to discuss Sri Lanka’s worsening economic situation. With the country in dire straits with an acute foreign exchange and debt crisis, the IMF’s reform menu for stabilising the economy, [...]


IMF reforms and the path to development


A delegation of the International Monetary Fund (IMF) was in Colombo this week ahead of a planned but now postponed visit by its head Christine Lagarde, to discuss Sri Lanka’s worsening economic situation. With the country in dire straits with an acute foreign exchange and debt crisis, the IMF’s reform menu for stabilising the economy, one can be certain, will be the standard road map the institution has for developing countries.

Markets must be allowed to work properly, it will say, meaning increasing interest rates, faster currency depreciation, and permitting loss-making enterprises such as the Electricity Board (CEB) and the National Water Supply and Drainage Board (NWSDB) to raise rates, fast-tracking revenue measures, more cuts in expenditure and for the State to sell its assets like the Hilton and upcoming Hyatt Hotels, Water’s Edge and Lanka Hospitals.

Sri Lanka has always skirted by through dependence on foreign aid and loans (bilateral and the likes of the IMF). IMF programmes have been part and parcel of the Sri Lankan economy for decades, and the current programme was not entirely due to any impending foreign exchange or balance of payment crisis but an attempt to get a seal of good housekeeping on the macro economy and to follow a consistent policy to increase revenue and restructure foreign debt.

One crucial element on the debt side is to convert US Dollars eight (8) billion of Chinese debt into equity starting with the Hambantota PPP (Public-Private Partnership) and for others to follow and for them to start generating revenue. The Colombo International Financial Centre (Port City) is a medium-term project that will take two years for landfilling and five years to build – whoever finances the infrastructure.

Related to this will be how the foreign exchange reserves and the rapidly depreciating exchange rate are managed. The need to attract more FDIs (Foreign Direct Investment) and more market access through Free Trade Agreements; expanding the tax base through a new Inland Revenue Act are imperative. Getting financial corruption under control with the same wheeler-dealers back in the game with the Yahapalana Government’s key players distorting decisions to feed corruption; and converting all the IPS, Harvard, McKinsey and Baker & Mckenzie work into a medium to long-term programme that is predictable and consistent are the fundamentals needed to fix what’s wrong in Sri Lanka. But indeed, that is a tall order.

A Fuel Formula – a formula that may see a price rise if world crude oil prices exceed a certain level; an Electricity Formula – a move that may see a rise in electricity prices – if the IMF’s formula is accepted (it has been pointed out that the CEB’s overdraft is in the region of Rs. 11 billion); and talks on the debt ratio vis-a-vis GDP i.e. the rising foreign debt as a percentage of the country’s income, were on the table.

In the IMF’s jargon, reforms will impose short-term costs but the economy will recover through medium-term gains, meaning lower income groups will face the brunt of this adjustment in the short-term, but benefits will trickle through to them in the medium-term, say beyond 2019 or 2020. By then, this Government will be facing impending elections, (along with the probability of dealing with a severe external debt crisis in 2019, and possible calls for wage increases) and is almost likely to abandon stabilisation measures and propose a ‘populist’ agenda, whatever that means.

The IMF is lending a paltry sum not exceeding $500 million a year totaling $1,500 million over the 2016-2019 period. Sri Lanka’s repayment needs, due to commercial borrowing of the previous Administration, banks and state-owned enterprises, are a minimum of $1,500 million a year annually from 2017 onwards. The IMF facility will only cover part of this repayment and for the balance we are told by the IMF, to borrow at high interest rates through syndicated loans or international bonds.

Resorting to foreign commercial loans or allowing foreign investors to buy in the domestic bond market is, in general, a recipe for future financial crisis. The IMF programme seems badly negotiated by not taking this factor fully into account compared to the previous Rajapaksa regime’s effort in raising $2,600 million from the IMF. That regime, on the other hand, frittered away the $2,600 million in record time leaving the present Sirisena-Wickremesinghe Administration to pick up the pieces.

IMF measures are probably unavoidable once a crisis strikes. However, the pain imposed on the poor and leaving growth mechanisms to the market inevitably lead to retrogression in policy execution. So the IMF support cycle repeats itself once in few years.

Preventing the crisis from occurring is the key. A widening budget deficit, pressure on the balance of payments, an overheating economy all are clearly tell-tale signs of economic mismanagement. The Government’s inability to recognise such signals emanating from a mal-functioning economy early, and to take prompt corrective actions have led it into the IMF’s arms. However, averting the crisis is only one side of the coin. Realising a diversified export base is the other side as our rate of growth is constrained by the size of the deficit in the balance of payments.

The current and or any future Government will have to find ways to overcome the commercial debt hangover inherited from the exploits of the last Government’s financial wizards. Over the next decade every year from 2017, the Government will face a mini or major crisis: it must fund large roll-over repayments, try to maintain stability while achieving realistic growth rates, if it is to avoid further doses of IMF medicine.  A tough task to pull off, for any Government.

How has the current Government faced up to these gigantic tasks? We have a Finance Ministry and a Central Bank at odds touting the theory of twin deficits and flexible exchange rate as mantra. The Prime Minister, who has put forward elaborate plans over the last two years, wants new institutions, complementary laws or committees to solve emerging issues.  We have a President fond of setting up reconciliation committees for each minor problem ranging from lottery ticket margins, licence payments on vehicles and recognition of SAITM degrees — and an economic vision rooted in the 1970s.

The scorecard is not encouraging. In this dark scenario, the Joint Opposition is gleefully awaiting its turn in 2020 or earlier to impose its authoritarian ‘home-grown’ economic and political philosophies on the suffering population.

A bleak future awaits Sri Lanka unless the Government rolls up its sleeves and comes up with a coherent strategy and implements it expeditiously. IMF support, if required, will be peripheral to this exercise.

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