Bond scam and foreign exchange crisis

By Dhanusha Gihan Pathirana

Many seem to embrace the new Prime Minister as the saviour of the economy from its ongoing bottomless collapse. However, not a word is said about the impact of the historic bond scam, the crown jewel of Ranil Wickremesinghe’s good governance regime, in escalating the foreign exchange crisis we are now facing. 

It will be clear soon that the bond scam sent shock waves through the government treasuries market wiping out foreign funds that were financed in rupees for asset purchases made in convertible currencies. It’s a crime with consequences in financial markets that can be compared to Gotabaya Rajapaksa’s abrupt decision to ban all agrochemicals, destroying livelihoods and breeding malnutrition among the mass of the people. The extent of the crime cannot be judged by the direct gains made by the firms and individuals involved, which is merely Rs. 12 billion, an insignificant sum compared to the entire financial market.

However, the financial death warrant it sent to foreign investors of Sri Lanka’s Government Securities dried out all foreign liquidity from the treasuries market. Two days before the historic scam, on 25 February 2015, foreigners held over $ 3.4 billion worth of Government Securities. Immediately following the bond scam, they began to divest until entire foreign holdings of treasury bonds and bills collapsed close to nothing within a matter of a few years. The most significant aspect of this type of foreign debt inflows is that unless the foreigners pull out of the market they can be financed in local currency unlike any other form of foreign financing. The hole it created in the balance of payments could not be patched easily, not without paying a heavy price. 

The ‘Yahapalana’ Government as a result was impelled by its own hideous crime to issue more and more International Sovereign Bonds (ISBs) to boost the depleting foreign reserves as the foreigners exited government securities. However, according to Verite Research and the rest of the pseudo liberals, the good governance regime had to issue more ISBs than any other period in history merely because they had to finance the existing foreign debt. Verite has nothing to say about the tremendous foreign exchange outflow triggered entirely by the bond scam and the necessity it created to issue ISBs as the only means of rebuilding the depleted foreign reserves.

It should be borne in mind that unlike the foreign holdings of government treasuries, ISBs that were issued to resolve the immediate collapse of the eternal sector triggered by the bond scam must be financed in foreign exchange. Hence, the net foreign exchange outflow from the economy triggered by the bond scam should be equal to twice the value of foreign holdings of government treasuries divested plus the interest payments made on ISBs throughout the rest of the period which in total amounts to over $ 8.6 billion. This is well over 10% of Sri Lanka’s current national income and the future inflows it prevents and its impact on the current crisis further escalates this figure. Sri Lanka wouldn’t be facing an economic and humanitarian disaster if the funds were not forced to exit the domestic financial system by the bond scam. So having high hopes on sailing to economic safety with the new Prime Minister will prove to be only wishful liberal fantasy.

(The writer is an economist.)