Sri Lanka reels from aftershocks of debt crisis

On Colombo’s seafront promenade Galle Face, once a hub for anti-government protesters, a brother and sister plan a life far away from the economic chaos that has marked the past few months in Sri Lanka.

Sajithra, 29, will soon join her husband in the United Arab Emirates. Her 31-year-old brother Janalaxan, whose salary at a state construction company has been eaten up by inflation, hopes to follow. “We only buy essentials now,” Janalaxan said. “For the next five years, Sri Lanka will be going down.”

At a time of rising global debt distress, Sri Lanka has become an extreme example of what excess borrowing can do to vulnerable countries. It defaulted last year. Living standards on the island of 22mn collapsed as food, fuel and medicine ran low, and protesters at Galle Face ultimately forced former president Gotabaya Rajapaksa to flee the country in July.

His successor, Ranil Wickremesinghe, this week secured a long-awaited deal with the IMF for a $3bn, four-year lending programme.

Yet Sri Lanka’s challenges are only beginning. Wickremesinghe, who rules in an improbable alliance with Rajapaksa’s party, now needs to embark on a multiyear reform programme that he calls the economy’s “last chance”. Inflation is still running at more than 50 per cent year on year, with Sri Lanka in what the charity Save the Children calls a “full-blown hunger crisis”.

The country also needs to restructure $40bn in foreign debt owed to China, India, Japan and commercial bondholders, or risk being cut off by lenders again. With a third of developing economies in or at high risk of debt distress, officials say a swift resolution to Sri Lanka’s debt crisis could provide a valuable road map for others.

“We have missed all the opportunities, and I don’t want Sri Lanka to miss this opportunity,” Wickremesinghe said in an interview at the presidential secretariat building, which was occupied by protesters last year. “When I was small, we were considered to be second to Japan. And now, as president, I’m trying to prevent us from being second to Afghanistan.”

The IMF released an initial tranche of $330mn, but to secure the next payment later this year, Sri Lanka will need to show the fund it has made progress on debt restructuring. Wickremesinghe has said he wants to finalise an agreement this year.

But China, which has become the world’s biggest bilateral lender over the past 20 years, has so far been reluctant to restructure debt on the norms established by lenders such as the IMF and the Paris Club, a grouping that includes European creditors and Japan, arguing that the system needs an overhaul.

Critics such as the US accuse Beijing of prolonging pain for distressed countries. Zambia defaulted in 2020 and a $1.3bn IMF bailout has stalled amid disagreement among lenders, which some blame on China. Separately, Ghana stopped paying its external debts in December, while Pakistan is teetering on the brink of default.

Sri Lanka’s IMF deal was already delayed for months as it struggled to get Beijing to agree in principle to support a restructuring, which it eventually did this month. The IMF “is really pushing for China to move not only on Sri Lanka but on other countries”, one western diplomat said. Western countries “want to make sure Chinese influence is not destabilising”.

Sri Lanka’s problems were years in the making. It has previously started 16 IMF programmes but completed about half. Rajapaksa’s brother, former president Mahinda, borrowed heavily from China and bondholders following the end of the country’s civil war in 2009, funding grand infrastructure projects that failed to generate returns.

The surge in inflation following the pandemic and Russia’s invasion of Ukraine tipped Sri Lanka over the edge, leading to the mass protests that eventually toppled Gotabaya. The Rajapaksas’ party elected longtime rival Wickremesinghe in his place.

Wickremesinghe cracked down on the protests, clearing the Galle Face camp, and introduced rationing to ease shortages. To secure the IMF deal, he raised taxes and cut energy subsidies, with value added tax for example more than doubling to 15 per cent. “What we’ve gone through in the last year was such a terrible experience, I know the country is not going to go back on it,” Wickremesinghe said. 

Though unpopular, these economic reforms have attracted only muted resistance.

Harsha de Silva, a leader from the main opposition Samagi Jana Balawegaya party, said the IMF programme was necessary but warned that vulnerable Sri Lankans were hurting. “Jobs are getting cut, factories are closing down and small businesses are getting hammered left, right and centre,” he said.

The aftershocks were visible at a market near downtown Colombo where business remained slow. “The cost of living is very expensive,” said Lakmal Nawantuduwe, 35, who was selling men’s clothing at a stall.

Shadeerson, 29, who was selling mobile phones nearby, lost his job at a furniture production company a year ago after the soaring cost of wood imports forced it out of business. He now earns about Rs1,500 ($4.70) a day compared with the Rs3,500 he earned making furniture.

“I don’t have faith in Sri Lankan politicians,” said Shadeerson. “There should be a new leader. Then the international community and the world will trust Sri Lanka.”

Wickremesinghe says he is putting in place a 25-year economic programme to turn the country around.

Yet it is unclear how much time he has. His alliance with the Rajapaksas has provoked deep public anger, with his house burnt down by a mob last year. He has attempted to delay local elections by arguing that the country does not have enough funds, a move being challenged in court. Analysts are divided as to whether he will survive until the presidential elections next year.

Protesters voice scepticism about the impact of this week’s deal. “The ruling classes will revert to playing the same corrupt games once the IMF facility enables them to borrow more,” said Dilan Senanayake, a protest leader. “Elections must be held.”

Champika Wickremesinghe, a 35-year-old tea broker with no relation to the president, is willing to be more patient. “I hope it’ll improve,” she said. “But we’ll have to wait and see.”

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