Wake up, CBSL

Fitch Ratings downgraded Sri Lanka’s Long-Term Foreign-Currency Issuer Default Rating (IDR) to ‘CC’, from ‘CCC’ last week. This was after a year when the rating agency downgraded Sri Lanka’s IDR to ‘CCC’ from ‘B-’. 

As far as international rating agencies go, Fitch will not even offer outlooks for currencies below the rate of 'CCC', meaning that such a currency is not even worthy of being considered for monitoring because it has such little investment potential. The Government might be trying to convince the public otherwise. But that is precisely how bad things are at the moment. 

The recent downgrade will make it even more difficult for the Sri Lankan Government to seek credit within international financial markets. As repeated in this newspaper, the time for short fixes and hope for miracles and pulling rabbits out of hats is long gone. It is time that those who are responsible for this man-made economic calamity give themselves a strict reality check, take responsibility and make efforts to correct course, even at the eleventh hour. 

The recent downgrade reflects the prevailing view that there is an increased probability of Sri Lanka defaulting on its sovereign debt in the coming months, an unprecedented scenario in the country’s modern history. Sri Lanka’s liquidity position is precarious, with rapidly depleting foreign-exchange reserves that have been further affected by the reduction in inflows due to a drop in remittances and revenue through means such as tourism. The high external debt payments due early next year will further exacerbate the situation. The Government must make debt repayment and interest alone to the tune of $ 6.9 billion in 2022 or 4.3 times the gross international reserves as of November 2021, which stood at a paltry $1.6 billion. This is without considering the foreign exchange the country must reserve for essential imports. 

In announcing the latest rating downgrade, Fitch noted that “Sri Lanka’s foreign-exchange reserves have declined much faster than we expected owing to a combination of a higher import bill and foreign-currency intervention by the Central Bank of Sri Lanka.” In other words, the Central Bank’s policy to defend the rupee has depleted Sri Lanka’s foreign currency reserves. Furthermore, by denying real value for money for the remittances that would have otherwise flowed in, the CBSL has worsened its situation. 

It is learnt that some banks have informed their Sri Lankan customers remitting through online transactions that the extra Rs. 10 incentive promised by the Central Bank will only be granted when currency is physically deposited. Such fine print technicalities will nullify the last-ditch attempts by the CB to encourage remittances through formal channels and drive migrant workers to continue to use informal means of money transfer. In turn, this will ensure Sri Lanka’s foreign currency inflows through the formal banking system will be further adversely affected.

Rather than address these serious concerns, the CBSL has decided to shoot the messenger. In response to the Fitch downgrade, it issued a statement calling the move “hasty,” claiming that the credit rating agency had failed to recognise the “positive developments taken by the Government to galvanise the economy”. CBSL says its “six-month road map for ensuring macroeconomic and financial system stability clearly articulates the expected cash flows by December 2021 and March 2022. The Government and the Central Bank remain confident that these inflows will materialise and the end-2021 level of Gross Official Reserves will remain above $ 3 billion.”

There are barely 10 days left in the year 2021, CBSL’s own deadline to boost reserves. Even if it does so with financial instruments such as currency swaps, they will come with severe restrictions and will be only temporary stop-gap measures insufficient to address the country’s dire economic predicament. The CBSL should immediately reverse its disastrous monetary policies, one of the main reasons the Government is reluctant to seek assistance from the IMF. However painful it might be in the short-term, allowing the rupee to find a realistic exchange rate will ensure that much-needed remittances would once again flow back through the formal channels and exporters who possess foreign exchange will insert them into the local banking system.  If the Government manages the COVID pandemic in a reasonable manner, tourism can also be expected to pick up in 2022 and if the disastrous agricultural policies are reversed, hopefully the costs of food imports might be minimised. But for all this to work, those responsible for steering the economy must remove their heads from under the sand and accept reality. It is only through prudent, professional and courageous policymaking that Sri Lanka will emerge from its current economic crisis.