Sri Lanka’s economic chaos: India must do all it can to assist the island nation

The island nation of Sri Lanka is confronting a severe economic crisis that has brought its citizens out on the streets to protest the crippling shortages of essentials, food and fuel inflation and long power cuts. Amidst the escalating nationwide protests—that have even been described as the country’s Arab Spring moment—the vast majority of the cabinet has resigned. The government has also lost its majority, forcing the Sri Lankan president to revoke the Emergency to quell protests. This is the biggest challenge to the Rajapaksas, the first family that rules Sri Lanka by controlling all the major portfolios in the government.

Three members of the family have resigned, including the finance minister, Basil Rajapaksa, just before he was to head to Washington for talks with the IMF for a loan programme. The newly appointed finance minister also has quit a day after his appointment. Sri Lanka is no stranger to macroeconomic instability since it got Independence in 1948 but the current crisis and the public anger is the worst that it has experienced so far.

Its economic woes stem from a balance of payments crisis, which has left it with limited foreign reserves to pay for fuel, food and other essentials. The threat of a default looms large on Sri Lanka’s foreign debt—$36.4 billion as of end-February—with $7 billion to be repaid this year when its foreign exchange earnings from exports and tourism have dwindled, thanks partly to the devastation of Covid-19. According to the Central Bank of Sri Lanka, official reserves were down to $2.3 billion in end-February, which can take care of just over one month of imports. The exchange rate of the Sri Lankan rupee vis-a-vis the US dollar has slid by a massive 33% since this year. With downgrades by ratings agencies since 2020, the island nation is shut off from accessing international capital markets. To conserve scarce forex, the government imposed restrictions on imports of a wide range of commodities, from agricultural chemicals like fertilisers in April 2021—ostensibly to encourage organic farming—cars to the essential spice, turmeric. Although the nation’s agricultural sector was relatively unscathed from the Covid-19 pandemic, the import ban on fertilisers hit agricultural output, contributing to a spike in food inflation besides shortages of essentials, with serious implications for the living standards of its 22 million people. The consumer price index in Colombo shot up to 18.7% year-on-year in March.

The ultimate salvation for Sri Lanka’s external payments crisis and economic meltdown may lie at the doors of the IMF. After all, the nation has spent nearly 70% of the last four decades implementing Fund-driven macroeconomic stabilisation programmes, as has been pointed out by former chief economic advisor Arvind Subramanian. But neighbours like India cannot remain immune to this unfolding crisis considering Sri Lanka’s strategic location in the Indian Ocean. India has extended $2.4 billion in economic assistance, including a $400-million RBI currency swap, $500-million loan deferment and lines of credit for importing fuel, food and medicines, which have already been used up.

India must urgently explore ways and means to reduce its bilateral trade surplus, amounting to $3.6 billion in 2021-22 (till January), allowing unlimited access for Sri Lankan textiles, tea, spices and other commodities, although this may not appear immediately feasible considering the strains in the island nation’s agricultural sector. While India’s investments in that country are significant, Sri Lankan investments in India, too, must be encouraged to create economic interdependencies. This is the best time for India to reset its relations with Sri Lanka, by generously providing support.

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