Road much travelled: Identical paths towards fiscal distress in Sri Lanka and the Maldives

Though our economy be bruised, the external economic context and our innate geographic blessings, when bound with sound fiscal policies, shall certainly prevent a repeat of the ills that visited the Lankan economy in 2022

This article attempts an analysis of the eerily similar roads travelled in both Sri Lanka and the Maldives towards a fiscal cliff. Even though, we here in the Maldives, have not slipped off the precipice, the landscape is familiar and the dangers real and tangible. 

However, it is important to stress at the outset, that while the terrain is familiar, it is not inevitable that we here in the Maldives too, tumble down the fiscal cliff into ‘white waters’ of internal turmoil, collapse of the political system and of an economic meltdown. 

The case of Sri Lanka

Similar to most other countries including the Maldives, the secondary and tertiary sectors of the Sri Lankan economy were highly and negatively impacted by the lockdowns of the COVID pandemic. However, as in the Maldives, the primary industry of Sri Lanka kept the population fed and alive.

Even while noting the perils of ‘post hoc ergo propter hoc’ reasoning, a lengthy series of flawed fiscal decisions, accompanied by a sequence of bad policy judgements, especially during an adverse economic context set the perhaps inevitable course for the economic and political meltdown in Sri Lanka.

Castles in the air 

Successive leaders in Sri Lanka, for quite a while, had been brazenly competing to build castles in thin air and beat their predecessors for new heights of fiscal inanity.

A host of non-productive, highly inflated public infrastructure projects – all the better to increase the value of even a thin slice off the top, for 2 plus decades had left the country weak and dizzy. 

The wisdom and advice of elders and the findings of the substantial learned fraternity of Sri Lanka were ignored. Friends from abroad and guidance from international institutions alike were disregarded. 

In 2021 the International Monetary Fund declared that Sri Lanka had hit “unsustainable levels” of foreign debt and that foreign exchange reserves are insufficient for near-term debt payments.

Unhinged political decisions

In November of 2019, during the last days of campaigning for the presidency, the successful candidate proposed sweeping tax cuts, so absurd that opposition leaders thought they were too bizarre and too absurd to be taken seriously. 

After winning the election on a platform including that of unsustainable revenue cuts, in May of 2021, against all rationale, the then President announced a blanket ban on the import of chemical fertiliser. This ban had the effect of crippling the robust agricultural sector, the main-stay of the primary industry of the country and the saviour of the extended lock-down period.

Unfavourable economic climate

The lockdowns of COVID-19, like in many countries resulted in an unfavourable economic climate. Even though the highly productive primary sector allowed for essential nutrition, exports ceased, and tourism naturally collapsed. In 2022 Sri Lanka was off the ventilator and recovering, but had not yet been discharged. 

The World Bank in great detail elaborated the problems in Sri Lanka as follows: 

“Poor governance, a restrictive trade regime, weak investment climate, and monetary indiscipline contributed to macroeconomic imbalances. Fiscal indiscipline led to high fiscal deficits and large gross financing needs (GFN). Together with risky commercial borrowing, this elevated debt vulnerabilities and led to a rapid growth in debt to unsustainable levels. After losing access to international financial markets in 2020, official reserves dropped to less than a week of imports in early 2022, and the forex liquidity constraint led to severe shortages of essential goods. The country announced an external debt service suspension in April 2022, pending debt restructuring.” – World Bank, Sri Lanka Development Update, ‘Bridge to Recovery’, April 2024.

Structural weaknesses exacerbated by exogenous shocks and policy mistakes meant that when storm clouds broke mid-2022, there were no painless remedies.

But not in the Maldives?

Chaos theory stipulates that similar circumstances do not unfold with high fidelity next time around. And of course, no two countries are exactly alike. 

Sri Lanka, even though our closest neighbour has a vastly different economy and the economic context of today, in 2024, is vastly different from the early days after the COVID lockdowns when the Sri Lankan economy left the tracks. 

Here in the Maldives too, years of living beyond our means had resulted in a widening fiscal chasm. Abuse and misuse of public funds, waste and corruption in the public sector and government companies were familiar territory too. Concerns arising from these had been explicitly raised in World Bank and IMF reports and echoed by submissions to the Parliament by our Central Bank. 

A litany of ill-advised fiscal and political decisions had become habitual in our context too, including heavy public infrastructure projects that we could ill afford. Of special note is the injudicious decision in August 2024, concerning the banking industry, resulting in quick rating downgrades and our sovereign bonds trading below par in the international markets. 

Yet, while we too face turbulent fiscal waters, ‘a priori’ circumstances are not the same and matters shall not unravel down the same trajectory.

Even during the COVID pandemic our geography allowed us to re-open borders in six months while most other countries could not even hazard a schedule.

Even if politicians of all ilk have led us astray for a decade and more, the larger economic climate is more favourable than what faced Sri Lanka in 2022. 

While unsettled because of shifting geopolitical tectonic plates, the world economy is certainly not in the doldrums. And our particular brand of tourism – islands geographically separate from the resident population, keep our tourism numbers buoyant. After having broken previous arrival numbers, we are on course to shatter the 2 million ceiling this year.

While the performance of our main primary industry of fishery has been held back because of ill-advised policies, the stock is alive and healthy. And when politicians finally get the policy framework right, our fishery harvest and therefore our export earnings too will increase.

Therefore?

While our politicians are reluctant to be extremely forthright about the steepness of the fiscal cliff, they certainly understand the gravity of the situation. Fortunately, the world economy is not in a tailspin and the blessings of our geography are indeed working for us.

And therefore, while the terrain looks disquietly familiar, it is certainly not inevitable that we too shall slide down the fiscal cliff. Though our economy be bruised, the external economic context and our innate geographic blessings, when bound with sound fiscal policies, shall certainly prevent a repeat of the ills that visited the Lankan economy in 2022.