Sri Lanka has achieved a preliminary consensus with a consortium of creditors, which includes India and Japan, regarding the restructuring of its debt. This represents a pivotal milestone in the process of initiating the second instalment of the International Monetary Fund (IMF)’s $2.9 billion financial assistance package designated for Sri Lanka’s economic recovery.
In an official statement, the Paris Club, which represents creditor nations, announced that Sri Lanka has given its “in principle” agreement to restructure its debt owed to bilateral lenders outside of China.
The agreement will “open the way for approval of the second disbursement under the [IMF] arrangement,” said the Paris Club. It said its creditor committee commended the Sri Lankan authorities “for their continuous efforts in implementing the reforms necessary for their country’s return to a sustainable path”.
Sri Lanka currently holds approximately $40 billion in foreign debts, with the majority of it being owed to Chinese lenders. Other significant creditors include Japan, India, and commercial bondholders. However, Sri Lanka has not yet reached an agreement with the commercial bondholders, which may pose a potential obstacle to the country’s economic recovery progress.
As a result, the upcoming actions will involve concluding similar agreements with other bilateral creditors, such as Saudi Arabia, Pakistan, Kuwait, and others. These creditors have outstanding claims totaling $274 million. Sri Lanka aims to finalize these agreements to address its debt obligations and ensure a smoother path towards financial stability.
The Paris Club said it expected Sri Lankan authorities to “continue to engage with their private creditors to find as soon as possible an agreement”.
According to a statement from Sri Lanka’s Ministry of Finance, the agreement with the Official Creditor Committee pertains to approximately $5.9 billion of unpaid public debt. The agreement involves a combination of measures, including extending the maturity dates of the debt and reducing the interest rates associated with it.
Additionally, the Ministry stated that the agreement would expedite the approval process by the Executive Board of the International Monetary Fund (IMF) for the review of Sri Lanka’s IMF-supported program. This approval would enable the disbursement of the next instalment of approximately $334 million in IMF funding.
In September, the IMF acknowledged that Sri Lanka’s economy was showing signs of recovery. However, it highlighted the need for the country to enhance its tax administration, eliminate exemptions, and take stronger measures against tax evasion.
Inadequate management of the local economy
Due to a combination of domestic economic mismanagement and the impact of global inflation caused by the coronavirus pandemic and Russia’s invasion of Ukraine, Sri Lanka faced a debt default in May 2022. This made Sri Lanka the first country in the Asia-Pacific region to default on its debt in two decades.
The default resulted in a significant reduction in foreign exchange reserves, leading to shortages of essential imported goods such as food, fuel, and medicines. As a consequence, living standards on the island deteriorated, which triggered widespread protests. Eventually, these protests led to the overthrow of the government under then-President Gotabaya Rajapaksa.
After succeeding Gotabaya Rajapaksa, Ranil Wickremesinghe took the pledge to restore normalcy to the island. However, the process of securing IMF funds, which Wickremesinghe sees as crucial for restoring economic stability, has been complicated by disagreements among creditors.
As a prominent lender in the developing world through initiatives like the Belt and Road Initiative infrastructure plan, China has gained increasing importance. However, China’s approach to managing debt restructuring differs from that of the Paris Club creditors.
Notably, China did not participate in the Paris Club creditor committee for Sri Lanka. Last month, China surprised lenders by announcing that its export-import bank had agreed to preliminary terms for restructuring its loans.
In March, the IMF approved a $2.9 billion rescue package for Sri Lanka, with the first payment being disbursed shortly thereafter.
To receive the second instalment of the bailout, Sri Lanka requires financial guarantees from its bilateral creditors. These guarantees are crucial for the country to secure the necessary support and continue with the IMF program.
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