“We have a strong conviction that within our timelines we can do it,” Miniter Semasinghe told reporters Thursday.

Discussions on converting in-principle deals with official creditors into MOUs are progressing.

“We have to open the second round of negotiations with bondholder,” he said.

Meanwhile advisors of bondholders and government are also engaging he said. (Colombo/May30/2024)

“267 employees have given consent to be retired under the VRS to be implemented for employees in relation to the amalgamation of Ceylon Fertilizer Company Limited and Colombo Commercial Fertilizer Company Limited,” Gunawardena told reporters Tuesday.

The Cabinet of Ministers approved the proposal to implement the VRS at a cost of 844 million rupees from the funds of the two fertilizer companies for execution of the proposed retirement scheme.

This is subject to the recommendations of a committee appointed to study retiring excess employees in state enterprises, Gunawardena said. (Colombo/May29/2024)

The information will not be used to collect tax retrospectively, State Minister for Finance Ranjith Siyambalapitiay said.

The gazette requiring the information to submitted online to the Department of Inland Revenue was issued on March 2024 and its implementation notice was issued on May 21, Minister Siyambalapitiya said.

According to the gazette, ownership and transfer of shares, current account balances and loans have to be provided quarterly by the stock exchange and banks and non-bank financial institutions.

Car registrations, land ownership and transfers should be provided real time.

Information on leases and consultancy and contracts will also have to be provided.

Sri Lanka has to collect more direct tax after the country’s revenue fell to very low levels, Minister Siyambalapitiya said.

Sri Lanka’s macro-economists persuaded politicians to cut taxes in 2020 and also printed money to boost growth (stimulus or targeting potential output) after triggering a series of currency crises through rate cuts after the end of a civil war, ending in sovereign default.

Sri Lanka is now requiring all persons earning over 100,000 rupees a month (about 300 dollars) to open a tax file and pay income tax to support the state.

Sri Lanka’s macro-economists have resisted any transition to a better monetary standard that reduces the discretion to cut rates to target potential output by printing money.

Download Sri Lanka gazette on asset reporting

Link to Inland Revenue Notice

Countries in East Asia and the Middle East that have more consistent monetary regimes which avoid forex crises, have allowed better budgeting, and lower income tax rates (around 20 percent) and value added tax (15 percent or lower) which helps in capital generation and investment and future growth. (Colombo/May26/2024)

“When it comes to the EPF there is an obvious conflict of interest. We are very happy to take that function out,” Governor Weerasinghe told a forum organized by Colombo-based Advocata Institute.

“We have about 300 staff out of 1,200 including contract staff, almost 150 of permanent staff is employed to run this huge operation. I don’t think the central bank should be doing this business,”

The EPF had come under fire in the past over questionable investments in stocks and also bonds.

In addition, the central bank also faced a conflict of interest because it had another agency function to sell bonds for the Treasury at the lowest possible price, not to mention its monetary policy functions.

“There has been a lot of allegations on the management of this fund. This is the biggest fund of the private sector; about 2.6 million active, I think about 10 million accounts.

“When it comes to EPF, obviously there’s another thing. We obviously have, in terms of resources, on the Central Bank, that has a clear conflict because we are responsible for the members.

“We have to give them a, as a custodian of the fund, we have to give them a maximum return for the members.

“For us to get the maximum return, on one hand, we determine the interest rates as multi-policy. On the other hand, we are managing public debt as a, raising funds for the government.

“And on the third hand, this EPF is investing 90 percent in government securities. And also, interest rates we determine, and they want to get the maximum interest. That’s a clear conflict, obviously, there’s no question.”

A separate agency is to be set up, he said.

“It’s up to the government or the members to determine to establish a new institution that has a trust and credibility and confidence of the members that this institution will be able to manage and secure an interest and give them a reasonable return, good return for their lifetime savings,” Governor Weerasinghe said.

“The question is that how whether we have whether we can develop that institution, whether we have the strong institution with accountability and the proper governance for this thing.

“I don’t think it should be given completely to a private sector business to run that. Because one is that here we have no regulatory institution. Pension funds are not a regulated business.

“First one is we need to establish, government should establish a regulatory agency to regulate not only the EPF business fund, there are several other similar funds are not properly regulated.

“Once we have proper regulations like we regulate banks, then we can have a can ensure proper practices are basically adopted by all these institutions.

“Then you can develop an institution that we who can run this and can be taken back by the Labour Department. I’m not sure Labour Department has the capacity to do all these things.”

While some EPF managers had come under scrutiny during the bondscam and for questionable stock investments, in recent years, it had earned better returns under the central bank management than some private funds that underwent debt restructuring according to capital market analysts with knowledge of he matter. (Colombo/May24/2024)

However, the COVID-19 pandemic in 2020 and an unprecedented economic crisis in 2022 shattered his dreams. Once an aspiring entrepreneur, he became a bank defaulter.

Facing hyperinflation, an unbearable cost of living, and his family’s daily struggles, Sanath sought greener pastures again—this time in the United Arab Emirates (UAE).

“I had to pay 900,000 rupees ($3,000) to secure a driving job here,” Sanath (45), a father of two, told EconomyNext while having a cup of tea and a parotta for dinner near Khalifa University in Abu Dhabi.

Working for a reputed taxi company in the UAE, Sanath’s modest meal cost only 3 UAE dirhams (243 Sri Lankan rupees). Despite a monthly salary of around 3,000 dirhams, he limits his spending to save as much as possible.

Sanath has been in Abu Dhabi for 13 months but had to wait six months before driving a taxi and receiving no salary.

TOUGH REALITIES

“I had to get my UAE driving license. I failed the first trial, and the company paid 6,500 dirhams on my behalf, agreeing to deduct 500 dirhams monthly from my salary,” he explained.

“So far, I have repaid only 3,000 dirhams.”

To raise the 900,000 rupees for the job, Sanath borrowed money from friends and pawned jewelry.

“I don’t know if I was cheated by the agent, but I must repay that money and also send money for my family’s expenses,” he said, glancing at a photograph of his family in a Colombo suburb.

Working night shifts in busy Abu Dhabi, Sanath said, “If I can secure 9,000 dirhams monthly through taxi driving, I will earn 3,000 dirhams in the month after deductions for the license fee and any traffic fines.”

Sanath came to Abu Dhabi with seven other Sri Lankan men through an employment agency in the Northwestern town of Kurunegala.

“Only two of us have withstood the tough traffic rules and payment deductions for offenses,” he said. Some of his colleagues are still job-hunting, while others have returned to Sri Lanka.

Sanath is one of around 700,000 Sri Lankans who have left the island in the last two years due to the economic crisis that forced the country to adopt difficult fiscal and monetary policies, including higher taxes and costly borrowing, exacerbating the cost of living.

FOREIGN EXCHANGE EARNERS

From January 2022 to the end of March 2024, at least 683,118 Sri Lankans migrated for foreign employment through legal channels, according to the Sri Lanka Foreign Employment Bureau.

They have sent $11.31 billion in remittances through official banking channels during the same period, central bank data shows.

Many Sri Lankans leave on visit visas, hoping to find jobs later, often guided by friends already working abroad. The economic crisis has pushed them to seek better opportunities abroad, despite the risks.

Sri Lankan authorities struggle to stop such risk-takers, who sometimes resort to illegal migration, despite warnings about human trafficking.

In Myanmar, 56 Sri Lankans caught in an IT job scam were detained earlier this year, and the government is still repatriating them.

At least 16 retired Sri Lankan military personnel have been killed in the Russia-Ukraine war after being misled by unscrupulous recruiters. Officials estimate that over 400 retired military officers may have left for similar reasons.

DISPERATE TO LEAVE

In March, Foreign Minister Ali Sabry warned against visiting any nation on open visas, urging Sri Lankans to emigrate only through registered agencies.

Despite the risks, many Sri Lankans are desperate to leave.

Abu Salim, a 32-year-old former rugby player, came to Dubai on a visit visa hoping for a banking job, which he never got.

Now freelancing in an insurance firm, he said, “I survive, and my relatives don’t see my struggle. It’s stressful, but still better than Sri Lanka right now.”

Suneth, a former top garment merchandiser, is also job-hunting in Sharjah after quitting his initial job in Sharjah.

“My worry is the visa. I must find a new job before it expires,” he said.

Many Sri Lankans in the UAE work multiple jobs, compromising their sleep and health to make ends meet. (Abu Dhabi/May 24/2024)

Sri Lanka is planning to complete debt restructuring by June 2024 and go the IMF board for the next round.

“I cannot specify a timeline, but we are confident and optimistic that a second round of talks will commence very soon,” Minister Semasinghe told reporters in Colombo.

The bondholders have proposed restructurings bond linked to dollar GDP growth.

They have also proposed a 500 to 1,000 billion dollar governance linked bond where coupons will fall if anti-corruption benchmarks and revenue targets in an International Monetary Fund program is met, following an initiative proposed by Colombo-based Verete Research at the first round of face-to-face talks.

Sri Lanka has about 12 billion dollars of sovereign bonds to restructure and some more missed coupons.

Minister Semasinghe said he did not want to comment on individual proposals but Sri Lanka is confident of reaching an amicable in line with the principles of comparability and compliance with a debt sustainability assessment of the International Monetary Fund.

“Bondholders are engaging very positively with Sri Lankan authorities as well as with the advisors. They also want to come into a resolution with Sri Lanka,” he said.

Sri Lanka is also working on finalizing memoranda of understanding with official creditors, Minister Semasinghe said. (Colombo/May21/2024)

The Public Finance bill will be a landmark piece of legislation that will provide the guidance and framework to go forward, he told a seminar organized by Advocata Institute, a Colombo-based think tank.

A Fiscal Management Responsibility Act, which has been repeatedly breached in the past will be repealed.

Siriwardana said the new law makes it less easy for future administrations to overspend.

The law, which sets a 13 percent of GDP spending limit (before interest costs), allows for a 2 percent ‘budget reserve’, according to the draft bill.

The 13 percent spending limit can be exceeded if there are “unanticipated events or natural disaster posing significant threats to national security, national economic security or the public health and safety of the country which necessitate additional, temporary and targeted public expenditure beyond any contingencies included in the annual budget.”

Sri Lanka in 2023 only had a 10.5 percent of GDP primary spending volume with 8.9 percent as interest.

Why the ruling class is allowed another 2.5 percent of GDP spending is not clear, but may be for greater capital expenditure.

Before the International Monetary Fund gave technical assistance to calculate ‘potential output’ triggering money printing for growth and serial stabilization programs, interest costs were 4.2 percent of GDP and primary spending 13.0 percent of GDP.

Total spending was 17.2 percent of GDP in 2014, though there were questions raised whether off-budget spending including through the Road Development Authority which had no revenues to speak of were being made by macro-economists running the Treasury.

Related

Sri Lanka has a high interest bill due to repeated stabilization programs after the end of a civil war, that came after a reserve collecting central bank made inflationary rate cuts for flexible inflation targeting and potential output targeting which reduced private sector driven growth.

Macro-economists in 2020 added tax cuts to the toxic mixture of rate cuts enforced by reverse repo injections and standing facilities just as credit recovered from the previous crisis, eventually triggering external default.

The bill sets a limit of 7.5 percent of GDP ceiling on government guaranteed debt.

The FMRA was passed into law by then Prime Minister Ranil Wickremesinghe who came to power after a currency crisis in 2000/2001 when the central bank failed to suppress interest rates in the midst of a civil war.

The spending cuts were opposed by the Janatha Vimukthi Peramuna macro-economists who advised subsequent Rajapaksa administrations.

The treasury guarantee limit was repeatedly raised and passed in parliament.

Former Deputy Finance Minister Bandula Gunawardana has said Treasury macro-economists of misleading politicians into passing changes to the FRMA.

He said at one time the politicians were mere ‘rubber stamps’ of Treasury macro-economists.

Macro-economists who study at Anglophone universities believe that macroeconomic policy (inflationary rate cuts and higher state spending) will bring growth, rather than monetary stability and hard work, critics say.

Since 2015 in particular Sri Lanka followed revenue based fiscal consolidation (taxing private citizens rather than cutting state spending), in line with “progressive Salwaterism” ideology of state expansion, critics say. (Colombo/May20/2024)

Sri Lanka and bondholder representatives and their respective advisors had talks in London where consensus was reached on structuring a bond linked to gross domestic product changes.

“We are grateful that the bondholders are also waiting to come to a solution,” Minister Semasinghe said.

“They have shown interest in finalizing an agreement. There are a few matters to discuss. We are confident that second round of discussions will help us reach a solution.”

Sri Lanka is also working to reach final agreement with bilateral creditors he said.

Sri Lanka is aiming to complete restructuring external debt in time for the next review of the International Monetary Fund going to its board around June 2024.

Sri Lanka President Ranil Wickremesinghe has said he hoped to complete all restructuring before elections. (Colombo/May03/2024)

The IMF had decided that a March proposal made by private investors with macro-linked bonds was not in line with its debt sustainable framework, according to a Sri Lanka government statement issued after the first round of direct talks with bondholders.

A new proposal made in April, is also awaiting IMF assessment on whether it complies with a DSA framework.

The macro-linked bond would have a higher hair-cut initially, which would reduce if the economy performed better than the IMF expected.

IMF has different frameworks on which debt sustainability is assessed for low income countries and higher income market access countries.

There is no prior experience on how a revised DSA methodology for Middle Income Countries is applied to macro-linked bonds of the sort proposed by Sri Lanka’s private investors. As a result, efforts are underway to better understand how the framework is applied, sources said.

Representatives of the parties also engaged later in April after the first round of talks, which was encouraging, sources said.

The IMF usually does not get involved with formal talks with the bondholders and deals directly with the government, also putting them at disadvantage.

If there was more clarity on how the DSA framework is applied to the macro-linked bonds proposals that comply with the framework, revised proposals could be exchanged at negotiations aimed at reaching a faster conclusion, according to sources familiar with the discussions.

Bond holders have also proposed a governance linked bond, after getting the go ahead from Sri Lanka, which has also been also welcomed by Sri Lanka’s opposition.

It is also a new proposal, though so-called ESG bonds have been issue based on other performance indicators.

At the London talks, advisors as well as key bondholders participated, under non-disclosure agreements. During the talks they cannot trade or change their positions.

More clarity on how the debt sustainability analysis is applied to the macro-linked bonds would help speed up negotiations, sources said. (Colombo/April30/2024)

The EPF received contributions of 210.6 billion rupees up 8.2 percent from 194.6 billion rupees a year ago, while total refunds surged 32.4 percent to 215.9 billion rupees, from 163 billion rupees, data from the central bank showed.

Demographers have been warning for over two decades that outflows from the EPF would exceed inflows as Sri Lanka’s population aged and that the government would need to reduce its current spending.

But since 2004, large numbers of unemployed graduates were absorbed to the government under a policy promoted by the Janatha Vimukthi Peramuna which was grabbed by the Mahinda Rajapaksa administration, making salaries the top expense for the government.

Later, aggressive rate cuts for potential output targeting (stimulus) cum flexible inflation targeting (re-flation) triggered monetary instability and pushed up nominal rates, and interest costs rapidly outpaced the salary bill as currency crises came in rapid succession.

In 2022 EPF’s government securities were re-structured to meet International Monetary Funds, gross financing need targets (to reduce debt roll-over volumes), by extending maturities.

In addition to payments made to retirees at the designated age, some withdrawals are also allowed before retirement.

Meanwhile others also take housing loans against their EPF loans and defaults, leading to their balances being cut after a while with penalty interest rates being charged.

In 2023, 25.8 billion rupees were given as pre-retirement refunds to 42,603 members.

In addition, 4.236 billion was allocated for overdue settlement of housing loans.

In 2023, the value of the fund increased 11.5 percent to 3,857.4 despite the net withdrawals due to returns made by the managers of the fund, which is the central bank.

Total liabilities of the members increased 12.9 percent to 3,817.9 billion rupees.

“Based on the profits available for distribution, a reasonable rate of interest to its members for their balances as at end 2023 will be paid as approved by the Governing Board, with the concurrence of the ministers of Finance and Labour,” the central bank report said.

State Minister for Finance Ranjith Siyambalapitiya said Sunday that the government had decided to pay interest of 13 percent to the EPF holders from the earnings. (Colombo/Apr30/2024)

Sri Lanka originally targeted 3,130 billion rupees of tax collections in 2023 or 10.3-pct of gross domestic product despite an economic contraction but with an inflated economy at hikes in rates, while the International Monetary Fund projected only 3,005 billion rupees (10.1-pct of GDP).

In a budget for 2024 presented to parliament in November, the tax target was revised down to 2,596 billion rupees, or 9.2 percent of GDP.

But the actual collections have turned out to be 2,720 billion rupees for 2023, which is 8.9 percent of GDP.

With non tax revenues of 100 billion rupees, lower than expected, total revenues were 3,048.8 billion rupees or 11 percent of GDP, in slightly lower than the 11.3 percent in the original budget but in line with the 10.9 percent IMF projection.

High Nominal Rates and Monetary Instability

Current spending climbed 34 percent to 4,699 billion rupees in 2023, largely driven by interest cost of 2,455 billion rupees, up 57 percent.

In countries without a credible monetary anchor, frequent balance of payments crises and high inflation drive up nominal interest rates as one currency crises follows another and stabilization program come in their wake.

Sri Lanka is operating flexible inflation targeting (trying to target inflation without a clean floating exchange rate), triggering currency crisis as soon as private credit recovers, when inflationary open market operations are deployed to cut rates.

Sri Lanka started to suffer from severe currency deprecation and inflation after 1978 as the country was cut off without a credible anchor after the IMF’s Second Amendment to its articles.

At the time money supply targeting without a clean float was peddled to the country, just as inflation targeting without a clean float has been peddled now, critics say.

Flexible inflation targeting was also combined by macro-economists with potential output targeting (printing money for growth) after the end of a 30-year civil war, leaving the country with rapidly rising foreign debt and eventual default, instead of a peace dividend.

Deficit

The high current spending driven by interest costs, left the government with a revenue deficit (deficit in the current account of the budget), 1,650 billion rupees, higher than a revised target of 1,632 billion rupees and up 7 percent from 2022.

The overall deficit was contained by sharply cutting capital expenditure to 656.9 billion rupees, from 952.9 billion rupees in 2022.

In 2023 most bilateral projects were halted after the country defaulted in 2022.

The overall deficit came in at 8.3 percent of GDP, slightly higher than the 7.9 percent of GDP projected in the original budget, and 8.0 percent projected by the IMF.

But the overall deficit was sharply lower than the 10.2 percent recorded in 2022. The overall deficit and also down in absolute terms to 2,282 billion rupees in 2023 from 2,460 billion rupees in 2023.

Primary Surplus

The primary account, (deficit before interest) was a surplus of 173.34 billion rupees.

The International Monetary Fund targets the primary deficit in countries with balance of payments crisis, instead of the overall deficit as steep rate hikes are required to correct currency collapses and kill private credit.

Targeting the primary deficit, reduces the incentive for trigger happy central banks to print money to try and reduce the interest bill and trigger further meltdowns of the economy, which has been put in jeopardy by inflationary rate cuts.

A primary surplus indicates that the country’s interest bill is so bad (usually from monetary instability) that it exceeds the overall budget deficit.

The overall budget deficit is usually contained by cutting capex which is not really required in a country going into a monetary meltdown or hyperinflation after rate cuts.

Sri Lanka has rarely recorded primary surpluses, except in extreme crisis years.

In order to bring down deficits, debt, the economic principle is to run a surplus in the current account, which also requires cutting spending as well as revenue gains and long term monetary and exchange rate stability to bring down interest rates and tax rates.

In the run up to the default Sri Lanka has been operating revenue based fiscal consolidation (avoiding spending cuts and allowing a bloated state to expand further in an unusually statist strategy), and also aiming for primary surpluses, while current account and overall deficits deficits worsened.

Overall deficits generally worsen in stabilization years and can be brought down if macro-economists allow people to work and grow their businesses and personal finances without triggering monetary stability by chasing conflicting anchors or printing money to cut rates.

A current account surplus indicates that all current spending is financed by revenues and there is a little left over for capital spending.
(Colombo/Apr27/2024)

Sri Lanka’s 50 dollar visa fee went up to 75 dollars and another 18.5 dollar fee and an apparently hidden ‘convenience fee’ of 5 dollars or more were also hit on prospective travellers after a shift of the island’s acclaimed ETA system to a private company.

“We have now been assured by the Hon Minister of Tourism that the process will be reversed by 1st May 2024,” President of the Sri Lanka Association of Inbound Tour Operators (SLAITO) Nishad Wijethunga said.

SAARC Visa fees went up as much as 58.55 US dollars from 35 after the electronic travel authorization was outsourced to a private company called VFS Global.

If Sri Lanka meets the planned tourism target of 2.3 million in 2024, the private levy amounts to 12.75 billion rupees. It is not clear to whom the 5 dollar plus convenience fee goes to. (Colombo/Apr25/2024)

With deposit rates falling to around 9 percent from an earlier 16 percent, elderly persons who depend on interest get less income, Minister Siyambalapitiya said.

“We are now planning to put in place a mechanism to lift withholding tax from retirees who earn interest below 1,000 rupees a month,” he said in statement.

It is likely to cost up to 40 billion rupees to pay interest subsidies to banks to give senior citizens interest of 16 percent when market rates fall.

The government still owed banks interest subsidies on previous years senior citizen interest subsidies, Siyambalapitiya told opposition leader Sajith Premadasa in parliament Thursday.

“We are still paying this money every month,” he said. “We are looking at this based on the cashflows that we have. As a first step we are looking at the withholding tax.

“As we are paying the old subsidies how can we start a new one. These days the Treasury takes decisions carefully. We have seen the situations we had to fact after sudden careless decisions taken in the past.”

The 514 million dollar irrigation and hydropower project was designed and built by Iran’s Farab engineering group.

The Uma Oya multi-purpose project is expected irrigate 6,000 hectares of agricultural land and provide drinking and industrial water.

Iran had provided 50 million dollars for the project, before sanctions cut off funding in 2013.

Related Iran President to open Sri Lanka $514mn irrigation, hydro power project

Sri Lanka then continued to finance the project.

President Ranil Wickremesinghe said the project was initiated by earlier president’s of the two countries.

“It had many challenges,” President Wickremesinghe said. “Your country and my country are used to challenges. And we overcame them.”

He said the modern Iran was country with advanced technological skills which they had built up on their own.

“The engineering skills of modern Iran is well known,” he said. “You develop these technologies with your own efforts.”

The project was financed by Sri Lanka and built with Iranian expertise President Raisi said.

“It is a symbol of integration, connection and friendship between Iran and Sri Lanka,” President Raisi said.

“I believe more than the project it shows will and determination of the two countries. We shared the knowledge and expertise to the friendly country of Sri Lanka.”

Iran was ready to share technology built up through the past 45 years with Sri Lanka for development, he said.

(Colombo/Apr24/2024)

“After many years of difficult challenges, it has been possible to exceed the expected state revenue in the first quarter of 2024,” he said in a statement.

The government expects a revenue collection of 4,106 billion rupees in 2024.

“The reason for the economic crisis in the past period was the reduction in the level of government revenue. Considering the achievement of higher than the target in the first quarter of this year and the revenue pattern, the 2024 will become a year in which the revenue targets can be achieved,” he said.

The three tax revenue collecting bodies – Sri Lankan Customs, Excise Department, and Inland Revenue Department have collected 834 billion Sri Lanka rupees in the first quarter.

“It is a 6% higher than the expected revenue target of 787 billion rupees,” Siyambalapitiya said.

He said the Inland Revenue Department exceeded its target by 13 percent to 430 billion rupees compared to the target of 381 billion rupees in the first quarter of 2024.

He also said Customs Department has managed to reach the target of 353 billion rupees and the Excise Department has also achieved 96% of the revenue requests and earned 51 billion rupees in the first quarter.

The island nation has raised Value Added Tax (VAT), imposed new taxes, and increased personal income taxes to boost the revenue under an International Monetary Fund-backed reforms in return of a $3 billion External Fund Facility.

People have started to grumble over the government’s higher taxes without reducing some of the state expenditures. The government has been in the process to privatize some key state-owned enterprises. However, that process faced delays amid gradually rising protests against the move. (Colombo/April 22/2024)

Dharshaan Elite Investment Holding (Pvt) Ltd, . Sherisha Technologies Private Limited and Treasure Republic Guardians Limited are the other bidders.

The responses will be evaluated to choose qualified investors.

International Finance Corporation, as Transaction Advisors for the divestiture of SriLankan Airlines Limited, will continue to advise the government, the statement said. (Colombo/April22/2024)

“The strides made in our economic recovery and financial stability have been acknowledged as significant advancements towards our country’s prosperity by our stakeholders and international partners,” Minister Semasinghe said in an x.com (twitter) post after attending the meetings.

“Further, it was heartening to note the widespread appreciation and support for Sri Lanka’s debt restructuring process.

“We remain steadfast in our commitment to reaching the restructuring targets and confident of smooth progress in the continued good-faith engagements for a speedy debt resolution that will ensure debt sustainability and comparability of debt treatment.”

Sri Lanka ended a first round of talks with sovereign bondholders in March without striking a deal but some agreement on the basis for a deal.

An initial deal with bilateral creditors have been reached, but they may be awaiting a deal with private creditors to sign formal agreements.

International partners have appreciated reforms made under President Ranil Wickremesinghe, Minister Semasinghe said.

“It was great to engage in productive bilateral discussions with all of whom appreciated the recent economic developments, progress in debt restructuring, strengthening of tax administration, and ongoing governance reforms,” he said.

Sri Lanka’s rupee has been allowed to re-appreciate by the central bank amid deflationary monetary policy, bringing tangible benefits to people in the form of lower energy and food prices, unlike in past IMF programs.

Electricity prices were cut as a strengthening currency helped reduce the cost of coal imports.

Related Sri Lanka central bank mainly responsible for electricity price cut

The currency appreciation has also allowed losses to the Employment Provident Fund imposed to be partially recouped, helping old workers near retirement, as well as raising disposable incomes of current wage earners on fixed salaries.

Related Sri Lanka EPF gets US$1.85bn in value back as central bank strengthens rupee

The IMF, which was set up after World War II to end devaluations seen in the 1930s after the Fed’s policy rate infected other key central banks, started to actively encourage depreciation after a change to its founding articles in 1978 (the Second Amendment).

The usefulness of money as a store of value, or a denominator of current and future values then decline, leading to loss of real savings, real wages and increases in social unrest.

Before that, members who devalued more than 10 percent after printing money for growth or any other reason, faced the threat of suspension from the organization as punishment.

Sri Lanka’s rupee has appreciated to around 300 to the US dollar now from 370 after a surrender rule was lifted in March 2023.

But there is no transparency on the basis that economic bureaucrats are allowing the currency to gain against the US dollar (the intervention currency of the central bank).

The rupee is currently under pressure, despite broadly prudent monetary policy, due to an ‘oversold position’ in the market after recent appreciation made importers and banks to run negative open positions as the usefulness of the currency as a denominator of future value declined with sudden strenghtening. (Colombo/Apr21/2024)

The IMF projects 6.0 percent growth for Vietnam in 2024 “as it rebounds from a challenging 2023,” Krishna Srinivasan, Director of the Asia and Pacific Department told reporters during the Spring Meetings in Washington.

Western Statism

“Now, in the case of Vietnam, I would say that there’s an issue about policy mix, whether you could get more support from the fiscal and rely less on monetary,” Srinivasan said.

“So there is an issue of policy mix which we’re talking, which we’ve been engaging the authorities with.

“I would say that policy support should be more favorable and that should, and along with external demand, help raise growth to 6 percent.”

Sri Lanka used both fiscal and monetary mix to boost growth from December 2019, triggering an external default two and a half years later.

Vietnam’s forex reserves fell below 3 months of imports in 2022 after the State Bank kept policy rates down by inflationary sterilization of forex market interventions.

The currency was then stabilized with rapid fire rate hikes and credit controls to dial back inflationary policy, just as long fuel ques started to form at petrol sheds, with angry riders already hit by rising prices due to Dong weakness. 
The return to market interest rates averted wider social unrest from being triggered by depreciation and further losses at state energy utility EVN, due to fixed prices amid soaring coal prices.

The State Bank of Vietnam later cut rates and relaxed credit controls as the BOP shifted to a surplus.

The government has since cut value added taxes. Public sector salaries are set to rise further this year, possibly as much as 30 percent, after earlier wage restraint. (Related Link: Public employee’s salaries to increase by 30 per cent from July 1: Minister)

State Driven Growth Options

The IMF also said in an Article IV consultation report released in October 2023, that fiscal metrics should be effectively undermined for ‘growth’ but more through income redistribution, and possible support for a fallout from a weak property sector.

Some Vietnamese property companies are reeling from expansion during earlier low rates and Covid-linked construction delays, which could also hit banks.

“Building on successful fiscal consolidation in recent years, there is fiscal space to provide further support,” an IMF Article IV consultation report released in October 2023 said.

“The government could scale up social safety nets that would boost growth and protect the most vulnerable households.

“Given the slowdown and the constraints faced by monetary policy, going forward, fiscal policy can take a leading role in supporting aggregate demand.

“For instance, the government could scale up social safety nets—and consider cash transfers to provide swift relief to poorer households.

“If the current turmoil proves more damaging to the economy and the financial sector, targeted support could be considered, including to help real estate developers restructure.”

Dong on thin ice

In 2023, Vietnam’s balance of payments was only marginally in surplus by 1 to 3 billion dollars a quarter, indicating that credit was still resilient after a successful ‘soft-landing’, and any further shocks from macro-economists can destabilize the external sector easily.

In the fourth quarter of 2024, Vietnam’s BOP was only 2.4 billion dollars in surplus.

Any extra spending or tax cuts which boosts the deficit due to attempts to engage in ‘macro-economic policy’ and expand government borrowings would lead to money printing under a fixed policy rate, reversing gains made by the State Bank over 2023, and pushing the Dong down, analysts say.

Western macro-economists believe that expanding government action (through the Treasury or central banks) to tinker with ‘aggregate demand’ can boost growth numbers instead of giving a chance for people and businesses to engage in real production of goods and services by providing monetary stability.

Collapsing currencies and external imbalances are then blamed on ‘current account deficits’ and ‘structural deficiencies’.

Such Keynesian and post-Keynesian beliefs have worsened since quantitative easing was normalized in the US after the Great Recession and ‘stimulus’ re-captured Western media attention despite the hard lessons of the 1960s and 1970s, critics say.

In Sri Lanka, the IMF taught a central bank that had already busted the currency from 4.70 to 131 to the dollar to calculate ‘potential output’ just as the country was barely recovering from a 30-year civil war.

Sri Lanka defaulted within 7 years of ‘data driven monetary policy’ (flexible inflation targeting with output gap targeting) and three currency crises later in peacetime amid increasingly aggressive macro-economic policy as consecutive stabilization programs reduced growth numbers.

Aggressive Macro-economic Policy

After using higher deficits and inflationary rate cuts in 2015 amid low inflation, inflationary rate cuts despite tax hikes in 2018 (fiscal policy is tight therefore monetary has to be loose mantra), macro-economists took a proverbial Keynesian bull by the horns and cut both taxes and rates from December 2019 saying there was a ‘persistent output gap’.

Related Sri Lanka fiscal stimulus to close output gap

Analysts say there is no real choice between monetary or fiscal deterioration to achieve macroeconomic policy desires of interventionists, in a country with a bureaucratic interest rate.

A policy rate, unless hiked, will automatically result in inflationary monetary operations as domestic credit picks up, irrespective of whether it is driven by private or state credit.

Any so-called ‘fiscal support’ can only be given without harming the exchange rate in a country that has a reserve collecting central bank with a policy rate, by liquidating any sovereign wealth funds or borrowing abroad and pushing up net external debt, analysts say.

By worsening external net debt levels, desires of macro-economists can be satisfied without harming monetary stability and the living standards of the population in general or nutrition of the children of the poorest sections of society by so-called exchange rate flexibility or debasement.

In Sri Lanka, potential output is now written into a brand new IMF-backed monetary law even before the first default workout is complete. Potential output is mentioned in every monetary policy statement, not stability. (Colombo/Apr20/2024)

Sri Lanka had the first round of direct discussions with sovereign bond holders in London, where a deal was not finalized, but the government agreed to bonds linked to economic performance.

“So my sense is that there are some setbacks on the private sector restructuring, but again, the both parties are talking,” Srinivasan told reporters in Washington.

“So I’m hopeful that there will be some conclusions down the road.”

Bondholders have also proposed a governance linked bond in exchange for defaulted bonds, after asking Sri Lanka.

Future Model

Bondholders are keen on getting an underlying bond linked to economic performance in a new model for defaulted ISBs than a separate warrant (value recovery instrument) used in past restructurings elsewhere, that could serve as a model for future debt workouts.

“We provide, you know, input to the partners who are in the negotiation, both on the macro framework and what’s falling ahead,” Srinivasan said.

A Sri Lanka government statement said an initial IMF analysis showed that a March proposal was not in line with its debt path but a revised proposal in April was not yet assessed.

Investors have broadly proposed a 28 percent haircut for the default-exchange bonds, and an a 1.8 percent upfront fee. The so-called state-continent or economic link will now be “centered on the IMF baseline’ with up or down returns based on whether economy performs better than the past.

Bondholders have proposed an additional standard (plain vanilla bond). Bonds would start to mature from 2029.

Coupons are 4.25 percent on the so-called 4.25 percent bond, but 6.0 percent on the standard bond.

However, interest on the late maturing bond are set to rise steeply after the program ends, which analysts say could also be a sticking point.

Haircuts would steeply reduce from 2028 to as much as 7.3 percent (principles would be clawed back) if GDP is higher than IMF projections and further haircuts and reduced coupons will follow if output (measured in US dollars) falls below the baseline. Coupons would also fall.

However, bondholders are proposing the structure in the conviction that the IMF baseline projection is too low. Sri Lanka has tended to be resilient to various shocks including a civil war.

Sri Lanka country defaulted in 2022 after 10 years of aggressive ‘macro-economic policy’ deployed in the belief that money printing (rate cuts enforced with reserve repo or standing liquidity facilties) can boost growth (target potential output) despite having a reserve collecting central bank.

Currency crises came in rapid succession from 2013 (within an IMF program) 2016, 2018 (within an IMF program) leading to rapid rise in foreign borrowings, amid benign external conditions (US quantitative easing) which flushed US and global markets with dollars.

The US 10-year yield hit 4.69 percent this week, higher than the initial coupon of 4.25 percent proposed for Sri Lanka’s default-exchange bonds based on economic performance.

Foreign debt after reserves grew steeply at the end of each potential targeting output crisis, analysts have shown, with tax cuts also added to the macro-economic policy mix from 2019 December. (Colombo/Apr19/2024)

Sri Lanka initiated the first round of face-to-face discussions with bondholders in March where proposals and counter proposals were exchanged and agreement was reached to issue bonds linked to economic performance.

However, Sri Lanka had not agreed to the triggers nor the actual quantum of upside and the latest April proposal had not been assessed by the International Monetary Fund to ensure whether it was in line with a debt sustainability assessment. Their earlier proposal in March was assessed to be insufficient.

“The next steps would entail further consultation with the IMF staff regarding assessments of the compatibility of the latest proposals with program parameters,” Semasinghe said.

“Following these consultations, we hope to continue discussions with the bondholders with a view to reaching common ground ahead of the IMF board consideration of the second review of Sri Lanka’s EFF program.”

Bondholders are insisting on a GDP link as they believe IMF GDP growth projections – which determine the quantum of debt service or the Gross Financing Need – is too narrow.

Bondholders also proposed a governance linked security (ESG bond) initiated by Sri Lanka’s Verete Research.

Semasinghe said the first round had led to some progress.

“..[C]onfidential discussions held in recent weeks with bondholders’ representatives proved constructive, building on the restructuring proposals presented by both parties,” he said.

“During the talks both sides successfully bridged a number of technical issues enabling important progress to be made.

“Sri Lanka articulated key remaining concerns that need to be addressed in a satisfactory manner.”