Following the pandemic, Sri Lanka experienced numerous economic setbacks ranging from rapid inflation, a devalued currency, and a growing debt-to-GDP ratio. However, the country has appeared to stabilize in recent months, bringing inflation from a year-on-year high of 70 percent to a healthy 1.3-1.5 percent. However, two problems persist: the high debt-to-GDP ratio and a declining GDP.
However, hope appeared earlier this September as the International Monetary Fund (IMF) and its officials landed in Colombo, the country’s capital, to speak with representatives. The IMF provides lifelines to indebted countries in exchange for policy shifts, often ones that are unpopular but necessary, to ensure a government’s stability and increase the likelihood it will be able to pay back its creditors. The country has had several bailouts in the last decade, the most recent being in May 2022, which gave it roughly 3 billion dollars.
While effective, these bailouts may need to be increased due to the country’s shrinking GDP, which resulted in a net increase in the debt-to-GDP ratio. However, with restructuring from its neighbors and creditors, Sri Lanka could potentially buy itself additional time and leeway in debt repayment. This is happening as China’s largest creditor, the Export-Import Bank, is beginning talks of restructuring their 11 percent share of the country’s debt. As the economic turmoil appears to be closing, it is essential to re-examine the factors contributing to this crisis.
First and foremost, due to the recent events and lack of proper economic data, experts often dispute and have contradictory figures regarding the extent to which the country was affected. Institutions such as the IMF and the Bank of Sri Lanka still disagree on the extent and pervasiveness of inflation. Nonetheless, what is made abundantly clear is that various factors, including government mismanagement and dangerous policies, international conflicts and supply chain disruptions, as well as the nature of Sri Lanka’s economy, all contributed to the recent economic crisis.
Examining Sri Lanka’s economy before the pandemic is integral to understanding the effects of the shocks and shifts felt by the people during the COVID-19 pandemic. Economists often attribute the nation’s low currency reserves and trade deficits as critical factors when examining its precarious economic position. Due to its trade deficit, Sri Lanka requires a constant supply of U.S. Dollars to trade internationally with its partners. This need for U.S. funds ultimately fueled the large debt-to-GDP ratio.
During the pandemic, a significant focus was placed on Sri Lanka’s tourists, highlighted as a major contributing factor to the upcoming crisis. However, tourism played a relatively minor role in the upcoming crisis, comprising only 5.6 percent of the economy and hardly affecting the rise in food prices that would happen soon after. The significantly larger agricultural sector, which employs more than 30 percent of the workforce, has now shifted to the focus of the economic impact of the crisis.
Due to mismanagement and poor government policy, the agricultural sector was significantly diminished in the months before the crisis. The government initiated a natural fertilizer ban in April 2021, significantly reducing domestic production. The primary agricultural staple grown in the country is rice, which is largely sold in domestic markets. This caused an over-reliance on grain, which would later contribute to the economic crisis.
The sharp increase in the cost of food—due to the shift in supply and resulting over-reliance on importing food—triggered Sri Lanka’s inevitable crisis. The war in Ukraine was the final nail in the coffin, as shortages began to emerge due to the decrease in grain exports from the nation, and the demand for fuel and food sharply increased abroad. As the war in Ukraine began, the rupee began to drop in value, resulting in unrest and hoarding amidst fears that this devaluation would continue. This resulted in a perfect storm: grain prices increased due to a lower supply alongside other goods, and the gradual devaluation of the rupee rapidly increased the demand for said goods, resulting in rapid price increases. The result was catastrophic. Millions were pushed into food insecurity, and thousands died due to starvation. Worse still, additional famines and low harvests crippled the nation’s ability to respond adequately.
Fortunately, in recent years, Sri Lanka’s economy has begun to recover, but much work needs to be done. Its uncertain future and looming debt crisis place the country in a precarious situation. However, the country’s dedication to restructuring and the gradual improvement of the citizen’s conditions demonstrates that there is still hope for Sri Lanka’s and its citizens’ economic future.
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This article was edited by Danielle Barber.
