Sri Lankan debt collapse calls for fiscal prudence
Sri Lanka is facing an unprecedented economic and political crisis. The economic crisis has been in the making for several years, and the recent geopolitical developments pushed the island nation into chaos and the state of financial bankruptcy.
The Sri Lankan leadership invited this crisis with reckless borrowings, which even exceeded the GDP. The composition of this debt also changed over the years, as concessionary borrowings were replaced with commercial loans, carrying higher interest rates and shorter maturity periods. Besides, the Sri Lankan government announced large tax-cuts in 2019 ahead of the Covid-19 breakout as part of populist measures in the run up to the elections.
Tourism was the mainstay of the Sri Lankan economy, but it faced two major back-to-back blows in the forms of the Easter terror attack and the Covid-19 pandemic.
In India we may draw satisfaction from the better financial health of the country. India has a forex reserve of close to $600 billion, sufficient to cover the merchandise imports of more than a year. As per RBI data from its last annual report, the foreign debt has increased from $409 billion in 2013 to $615 billion in December 2021. But, ‘External Debt: GDP’ ratio has improved from 22.4 percent in 2013 to 20 percent in 2021. This has happened despite contraction in the GDP on account of the Covid-19 pandemic.
Managing inflation, yield on government borrowings, maintaining liquidity in the market and keeping an eye on the benchmark rates to support growth, stable exchange regime, etc., are important tasks of the Central bank. A moderate inflation till the fourth quarter of the previous financial year was considered transitory, but the global scenario has changed very fast. Geopolitical tensions have put three-fourth of the consumer price index at risk.
Manufacturing capacity utilization is still lower than 10-year average due to the supply side constraints. There has been timely policy intervention like putting curbs on exports, reducing taxes on petroleum products, controlling the money supply by increasing the benchmark rates, etc., but they also carry risks. The World Bank, S&P, etc., have cut the growth forecast of India primarily due to inflation related concerns. The Government can take solace that India is still one of the fastest growing economies, while inflation remains a global concern.
Rupee depreciation against the dollar has been highlighted as a major failure but there are two important factors which need to be examined. The Indian Rupee has performed well against other currencies like GBP, EUR and a depreciating rupee has some benefits for exporters too. A current account deficit and capital outflow due to rate hike by the US Federal Reserve is impacting fluctuation in the value of Rupee. Also, India has a federal structure and states are equally responsible for economic growth. However, there is a growing tendency to indulge in irresponsible announcements of freebies. This issue was highlighted a few months back, but there is no deterrent for the power-hungry politicians.
Revenue guarantee to states was given under the goods and services tax (GST) for a period of five years. Some of the extravaganza on the parts of the state administrations was funded out of the compensation which they received from the Centre. Now it must be understood that chief ministers can’t hold the bargain chip forever to pressurize the Centre and enjoy a free lunch.
Lastly, self-sustainability is the key for developing nations. Some of the previously announced initiatives like Production Linked Incentives (PLIs) for the manufacturing sector and national monetization pipeline have the potential to push the growth on a higher trajectory and the government should stick to them.
(The author is a CA and policy analyst)