In the land of plantations and beaches, Sri Lanka was once fueled with positivity. Its rich history and culture brought in over two million visitors a year from all around the world before the pandemic hit. But little do you know, beneath the surface of its beauty and heritage lies a rough economic reality. Recently, the country has faced numerous setbacks, including political instability, corruption, and poor fiscal management. Let’s explore the factors that lead to this economic collapse and the efforts made to address the issue. It is going to be a long read, so get ready!
This island nation is what we call a resource-poor nation, meaning it is classified as a low-income country by the World Bank. Its economic spur only started in 2009, soon after the end of its Civil War. Though the country grew in some aspects, it struggled to maintain financial stability.
The country experienced a collapse due to a combination of factors:
High Debt Levels: Let's face it; managing money isn't easy for a common man, let alone a whole country. On one hand, Sri Lanka’s government spent a lot of money on various expenditures, which can be a good thing, but on the other hand, the country did not make enough money to keep up with its spending. It's like buying a Lamborghini when you're only earning minimum wage. Not a good idea, right? So, to finance its expenses, the government borrowed money from local banks to international lenders. The result? The country racked up debts quickly, and as of 2019, Sri Lanka's debt was 93.6% of its GDP and 112% in 2021. Yikes!
Political Instability: Over the past decade, this island nation has seen numerous changes in government. Between 2010 and 2020 alone, Sri Lanka went through four presidents and five prime ministers – no wonder policymaking has been so inconsistent. But the real kicker is that this political instability comes with a side of corruption and abuse of power. Sri Lanka has ranked pretty low regarding clean governance. Former President Mahinda Rajapaksa was accused of misusing government funds and not being transparent with the nation he represents.
COVID-19: The pandemic has definitely left its mark on Sri Lanka's economy; I mean where has it not been? The country's already struggling economy took a massive hit. It had a sharp downturn in tourism and disruptions to global supply chains. Sri Lanka's GDP growth rate went from -0.2% in 2019 to -3.5% in 2020 because of the pandemic. This downturn was worsened by the government's inability to manage the crisis. There were reports of corruption as aid and relief packages were not being distributed. On top of that, the country faced a shortage of essential supplies and had to turn to imports, which added to its mounting debt.
Currency Depreciation: The Sri Lankan rupee has been steadily depreciating against the US dollar and other major currencies for several years. This is due to a mix of reasons we mentioned previously: high levels of debt, a trade deficit, political instability, and COVID-19. Things add up pretty quickly, don’t they?
Structural Challenges: The country's economy is known to be highly reliant on agriculture and low-value-added exports, which has made Sri Lanka vulnerable to external shocks and global economic fluctuations. It struggled to diversify and develop new industries that could provide sustainable growth for its citizens. The country's education system has been criticized for not preparing its graduates for the demands of a modern workforce. The youth’s struggle to find meaningful work opportunities led to high rates of unemployment.
Low Productivity: The agriculture, manufacturing, and service sectors have been struggling with low productivity. In fact, the average productivity of a Sri Lankan worker is only about one-fourth that of a worker in a developed country. Because of this, it has been hard for the country to compete in global markets and attract foreign investors. After all, who wants to invest in a country where productivity is lagging behind the rest of the world? Imagine showing up to a drag race with a bicycle – not a great look. There also seems to be a lack of innovation and technology, further hindering growth. The World Economic Forum's Global Competitiveness Report 2019 even ranked Sri Lanka 84th out of 141 countries in productivity, demonstrating an urgent need for reforms.
Inefficient State-Owned Enterprises (SOE): The country's SOEs have operated with losses for years, and the financial burden has become unbearable. We're talking about over 500 enterprises here, mostly in the energy, transport, and telecommunication sectors. That's a lot of red ink! Inefficiencies, lack of modernization, and poor management have all contributed to their woes. The government has continued to support these SOEs, but this has only led to increasing levels of debt and deficits. In 2020 alone, half of SOE’s debts amounted to approximately 6.6% of its GDP, straining the government's financial resources. Clearly, something had to be done to increase profits and efficiency.
It’s no secret that Sri Lanka has had its fair share of struggles in its business environment. A perfect storm of bad luck and poor decision-making brought the country down a spiral and ultimately to an economic collapse that started in 2019. But fear not; Sri Lanka has proven to be resilient and with the right policies and international support, I do not see a reason why it can’t bounce back stronger than before.
Sri Lanka’s parliament appointed Ranil Wickremasinghe as Sri Lanka’s 8th president in July of 2022. Though there was some controversy, he seemed like the country’s best bet to carry it through the worst-ever setback since its independence. This domain was nothing new to him, as he was a prime minister numerous times. His first full-year plan included restructuring debt, increasing revenue, and cutting costs. "This budget will present a political and economic way forward for the country," he said in his statement.
Soon after, in September of 2022, Wickremasinghe led the country into the four-year Extended Fund Facility program with the International Monetary Fund to help stabilize the economy and restore consumer/investor confidence. As part of the program, the government implemented economic changes such as fiscal consolidation, tax reforms, and structural changes to SOEs.
The World Bank also stepped in to help the government put measures in place to prevent past mistakes from being made again. Its efforts have focused on transforming economic governance, increasing public sector transparency, and strengthening fiscal oversight and debt management. The organization’s support has also included efforts to transition Sri Lanka towards being a more open-minded economy. This course of action has created a more favorable business environment while also tackling the sources of financial vulnerabilities.
As Sri Lanka bounces back from its economic downturn, it's crucial not only to uplift people from poverty and vulnerability but also to boost their ability to withstand shocks in this ever-changing unpredictable world. In fact, not only can Sri Lanka learn from its mistakes, but countries all around the world can protect its economy from possible downturns. The World Bank believes that every crisis presents an opportunity for change: “For Sri Lanka, this pivotal moment is a chance to reset its development model towards green, resilient, and inclusive growth.” I couldn't agree more.
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