Explained: Reasons for Sri Lanka’s Economic Crisis

In Backgrounder, Economic Security, Human Security
May 18, 2022
Gulrukh Nafees
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Economic crisis don’t take place over night in fact they result from many years of buildup and the same is true for Sri Lanka. The roots of its current economic turmoil can be traced back to primarily; bad luck and government mismanagement. Although there is hardly anything one can do against natural disasters but it

Economic crisis don’t take place over night in fact they result from many years of buildup and the same is true for Sri Lanka. The roots of its current economic turmoil can be traced back to primarily; bad luck and government mismanagement. Although there is hardly anything one can do against natural disasters but it is the combination of such disasters with poor economic policies that adds fuel to the fire and it is because of such policies that the Island state has become a prime example of twin deficit economy as per the Asian Development Bank, which defines the concept as “when a countries national expenditure exceeds its national income, and that its production of tradeable goods and services is in adequate”.

As per the data collected at the end of April 2021 the total outstanding debt of the country was $35.1 billion out of which 47% were market borrowings, 13% was taken from the Asian development bank, 10% each from China and Japan, 9% world bank, 2% India and 9% others. Whereas the announcement made on 12^th April 2022 revealed that external debt had risen to $51 billion accompanied with the announcement of defaulting on the entire external debt as a last resort after running out of foreign exchange to import essential items.

The first major blow to the economy came in the form of Easter Bombings. It is evident that the tourism sector represents over one tenth of the GDP of Sri Lanka, but the sector was heavily affected by the 2014 Easter Bombings in which three churches and luxury hotels were targeted by a series of suicide bombings. As a result of which 269 people died including 45 foreign nationals and at least 500 were injured.

Another step towards an economic turmoil was taken when president Gotabaya according to his promise in the election manifesto slashed down taxes. The move backfired as rating agencies downgraded Sri Lanka to default levels, the country lost access to overseas markets and fell back on foreign exchange reserves to pay off government debt. Shrinking the overall foreign reserves from 6.9 billion in 2018 to 2.2 billion the year 2022.

Adding to that the government also floated the Sri Lankan Rupee. Hence, the price was to be determined based on demand and supply of foreign exchange markets that was aimed at devaluing the currency in order to gain a loan from the IMF, making things worse for ordinary Sri Lankan.

However, the downward spiral of the economy doesn’t end there because in 2021 another reform was introduced by the President where in an attempt to reduce its imports the government adopted a policy of banning inorganic fertilizers. Hence the country adopted the ideal of “organic farming”. This ended up in a drop of tea production amounting to an economic loss of 425 million and a 20% drop in rice production due to which the country was forced to import rice worth 450 million. It is for this reason, the organic program was considered to be ten times more expensive and producing half of the yield, resulting in a shortage of food which led the government to abandon any plans aimed at becoming worlds first organic farming nation.

The Russo- Ukrainian war further toughened the economic position of Sri Lanka. As Russia is the second largest importer of tea from Sri Lanka, moreover Sri Lanka tourism sector is heavily reliant on the two nations. This was coupled with the soaring prices of fuel at a record high of $125/barrel at a time when the country was already low on its foreign reserves.

As an effect of the current turmoil many sectors of the state are suffering. The medical sector being one of them which is short on life saving drugs such as those used to treat heart attack and stroke coupled with the long power cuts which are making it impossible for doctors to perform surgeries leaving them with no option but to resort to items such as torch lights and lanterns to perform lifesaving surgeries. Furthermore, shortage of diesel makes it increasingly hard to get an ambulance. Doctors have warned that the current situation could result in a loss of life that is much greater than the one encountered at the time of the pandemic.

Even if the government alleviates the current shortage of drugs a similar situation will be faced in the future due to the prevailing economic crisis. Currently, the only viable option seems to be international humanitarian aid.

Along with this the education sector and tourism sector will also suffer adversely while several schools have announced that their mid-term exams will be postponed indefinitely due to paper shortages, many countries including Canada and UK have advised their citizens against travelling to Sri Lanka.

These are certainly testing times for Sri Lankans but to stabilize the economy the country is seeking a loan from the IMF, however, before any such loan is granted political stability must be restored which seems difficult to achieve given the current resignation of the Prime Minister followed by the violent protests outside the Presidents house.