Unraveling the entangled knots of the Sri Lankan economic crisis

A south Asian country, Sri Lanka is in news for a bad reason because it is facing the worst economic crisis since independence. The foreign reserves of the Island are shrinking at a faster pace. It is running out of money because Sri Lanka is neither able to pay past debts nor even import bills. That’s why demand-supply mismatch is witnessed over the fuel. Recently, some news reported that two senior citizens of 70 years old have died in Sri Lanka while waiting in long queues to buy fuel. Additionally, food shortages are also being witnessed in Sri Lanka. People are facing 5-6 hours of electricity blackouts even in cities as thermal generators have run out of oil.

In short, the situation in Sri Lanka has been worsening day by day. There is a dominant narrative that China’s current crisis of balance of payment is due to the Chinese debt trap. It may be one of the reasons but it is not the main reason because China’s share in Sri Lanka’s foreign debt is even less than 10% in 2020. China has borrowed through other means as well. In this article, we will try to decode Sri Lanka’s crisis from a different perspective by peeping into Sri Lankan history as well. We will also discuss the learnings left behind by Sri Lankan economic crisis.

An entangle knot of history

Like other South Asian nations, Sri Lanka got independence from the colonial power in the mid-20th century. A common trend is witnessed in all third world countries – The majority community expressed their dominance over the minority. For example, Pakistan (East and West) – dominated by a Muslim population – discriminated and constitutionally debarred non-Muslim from being elected as President or Prime Minister. A similar trend was seen in Sri Lanka where the Singhalese population asserted against the Tamilian population by declaring Singhalese as the ONLY official language in 1956.

Subsequently, ethnic outbidding of the Sri Lankan population has shown the seeds of hyper-nationalism. Apart from political fallout, colonial power has left its dark footprints on the economy as well. Britishers brought indentured labor from the Tamil region of India and made them to settle there for primary production – tea, coffee, and rubber – aligned with their demands in the European market. Nearly, one-third of Sri Lankan GDP was dependent on the export of primary products. For some years, till 1955-56, even after independence, foreign capitals controlled the plantation sector. Sri Lanka was enjoying a trade surplus and was able to provide free education, free health, and subsidized food.

Once the Korean war eased, commodity prices fell. Sri Lanka’s export declined but imports kept rising. Along with social unrest in Sri Lanka over Ceylon Citizenship Act, its economy faced its first hit when the demand for primary products of Sri Lanka declined in the global market in 1965-66. Since Sri Lanka didn’t diversify its economy and was largely dependent on primary products – rubber, tea, and coffee. Thus, Sri Lanka imported food grains for its own people. Stress on the Sri Lankan economy was increasing. Sri Lanka approached IMF to get a bailout from the crisis situation. Subsequently, IMF imposed fiscal discipline.

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Taste of neo-liberalism and its fallouts

When Sirimavo Bandaranaike – the first women PM in the world – came to power in Sri Lanka in 1960, she tried to reverse the loan extended by IMF. She was a left-leaning leader who pushed for land reforms, nationalization, and increased social-sector expenditure – similar to Indira Gandhi in India. World Bank and IMF were not happy with her. The oil crisis of 1973 provides another shock to the Sri Lankan economy that drained the foreign exchange reserve of Sri Lanka. Her government collapsed due to twin problems – A balance of payment crisis and a High fiscal deficit at home.

Jayawardane from United National Party (UNP) became the new PM of Sri Lanka in 1977 – at the same time when the Janta party got power in India. He was committed to the neo-liberal policy. That was the wisest decision of the then PM of Sri Lanka but the execution was poor. In fact, a year later China adopted a new economic policy in 1978. He agreed with the ‘Washington Consensus’. Negative externalities of the ‘Washington consensus was’ witnessed in Sri Lanka too like in other countries that adhered to it – rising inequalities, rising violence, and ignorance toward weaker section.  Consequently, public anger was increasing due to economic hardship.

Subsequently, to divert the attention of the public from the core issue, Jayawardane played the card of Sinhala chauvinism at the cost of Tamil minorities. Systematic discrimination and frequent attacks were witnessed against the Tamil population. Tamil population reacted violently to the leadership of Prabhakaran – the chief of LTTE – with the demand of Tamil Eelam, a separate nation for Tamilians. Thus, Sri Lanka witnessed the side effect of the ‘Washington Consensus’ in the face of the Civil War. The civil war in Sri Lanka added another layer of economic stress since Jayawardene was forced to take a loan from IMF to buy weapons and subsequently its liability was shifted for the future generation.

Constitutional crisis: Another layer of the Sri Lankan crisis

Jayawardane government was witnessing thrust from people as well as the political class and political institutions. Left parties, as well as trade unions, heavily criticized the neoliberal economic policy. Amid the social unrest, the regime became authoritarian and started suppressing left movements. In this process, Jayawardane centralized power by making a paradigm shift in the Sri Lankan constitution – Replacing the parliamentary system with a presidential system. The brutal suppression of strikes and protests was the first expression of the presidential system with the declaration of emergency on the Island.

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Jayawardane threatened publically in 1980 by saying – “The elephant has only shaken its trunk and not yet used its full strength” (Here, the elephant was the symbol of his political party). Since then, Sri Lanka is in the trap of a constitutional crisis. Mahindra Rajapaksha became president in 2005. After killing LTTE chief, Prabhakaran in 2019, Rajpakshe became a hero in Sri Lanka. Thus, the long war that began in 1983 came to a violent end in 2009. Post-2009, he did two things – (1) He brought the 18th amendment in 2010 to further centralized the power of the President, and (2) He approached the IMF for a $2.6 billion loan.

In the longer run, Rajapaksa’s idea of an IMF loan didn’t work because Sri Lanka didn’t bring substantial changes like diversification of the economy. With the decline in export, Sri Lanka again faced the challenge to repay its large infrastructure loans. The same process was repeated when a new government led by Sri Sena came to power in 2016. Since 1965, it was the 16th loan taken by Sri Lanka from IMF. However, Sri Sena tried to restore its constitutional position to that of 1978 – One can’t hold office more than twice and President lost power to sack the PM of Sri Lanka. Gotabaya Rajapaksa assumed office in 2020 and since then he has been trying to reverse the 19th amendment through the 20th amendment bill.

Precipitating factors

There is the culmination of various precipitating factors has led to economic stress in Sri Lanka. First, A year before the office was assumed by Gotabaya Rajapaksha, Sri Lanka witnessed Easter Sunday bombings – a series of bomb blasts in churches and luxury hotels in Colombo – in 2019. A sharp decline in tourism was witnessed in Sri Lanka. Since tourism contributes a significant part to the Sri Lankan economy, it witnessed another layer of economic shock. Second, the election year offered two devastating promises to the people – (1) a New government under Gotabaya Rajapaksha would cut the tax rates, and (2) It would provide concessions to farmers.

Third, Apart from the Easter bombing and electoral motivated fiscal stimulus, COVID-19 has added a third layer to the precipitating factor. It didn’t only reduce remittances from Sri Lanka but also hampered Sri Lanka’s export of primary goods – tea, rubber, and coffee. In short, foreign exchanges decreased substantially but there was no brake on expenditure. Fourth, To reduce the pressure on foreign exchange Gotabaya Rajapaksa decided to ban all chemicals and fertilizers. This move was validated by the notion of shifting completely to “organic farming” due to health concerns as well. This project failed badly. Even globally only 1.5% of the total area is under organic farming, then going for 100% organic was a utopian idea.

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Fifth, As productivity failed under the new organic farming policy, Sri Lanka witnessed widespread farmers’ protests. The government was forced to compensate farmers who faces losses. Even Sri Lanka paid more to farmers than it paid for importing fertilizer. Additionally, Sri Lanka came close to becoming self-sufficient in rice production in 2019, but a new organic policy has again made Sri Lanka dependent on rice import. Sixth, Sri Lanka doesn’t want to take a loan that has a string attached by IMF. Sri Lanka’s attempted to shift toward commercial loans. In this process, China also got stuck into the Chinese debt trap. Seventh, last but not the least, the Russia-Ukraine crisis increased the price of crude oil in the international market and added another layer of burden to Sri Lanka’s import bill.

In conclusion

Sri Lankan economic crisis has left learnings to India as well as the world. One thing is now clear – neither China nor Russia could be the model alternative to democracy. There is a wrong perception that democracy won’t matter as long as you are good at economy because both are not mutually exclusive. Apart from this, there should be some sort of balance between fiscal discipline and electoral promises. States should refrain from populist policies. It is great learning for India where the footprints of populist policy are increasing nowadays.

Along with these, it also gives a pause to the debate on the parliamentary or presidential system in India. Sri Lanka has tested the presidential system in South Asia. It didn’t make a breakthrough. In fact, the presidential system in Sri Lanka centralized power and make the government ignorant. Poor policy formulation with respect to organic farming is one of the examples where most of the agricultural scientists were excluded from the President’s group of advisers who designed the new policy. Thus, it also appeals to envisage a peaceful society by limiting majoritarianism and containing radicalism.

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