After the Russia-Ukraine conflict, a worsening foreign exchange crisis in Sri Lanka has stoked fresh worries for Indian exporters, who are in talks with the government to ensure their payments are not stuck.
Importantly, almost the entire lines of credit of $1.5 billion that India has extended to Sri Lanka since January to help it tide over its worst financial crisis since 1948 has been used up by the neighbour to pay for its imports, a senior government official told FE. This means fresh supplies to the island nation carry heightened risks of payment defaults by Lankan importers.
India’s lines of credit comprised $1 billion for imports of food, medicine and essential items and another $500 million for petroleum products. On top of these, India’s assistance also included a $400-million RBI currency swap and a deferral of a $500-million loan repayment by Sri Lanka.
To beat such a crisis, the options that are being suggested by Indian exporters include a temporary mechanism under which Lankan importers may be allowed to pay up in their local currency. This can then be used by Indian importers to buy merchandise from the island nation, two trade sources said.
The other option for India is to either increase the current line of (dollar) credit or extend a fresh line of credit in rupee. However, both the options involve some difficult choices for India. Sri Lanka is seeking another line of credit of $1.5 billion from India, though India is yet to decide on the fresh request.
However, the problem with allowing payment in Sri Lankan rupee is that India has had a decent trade surplus with the neighbouring nation in recent years, which only widened in FY22. India shipped out goods worth $5.7 billion to Sri Lanka last fiscal, up 63% from a year before. But New Delhi’s imports from Colombo may have hit only about $1 billion in FY22, leading to its bilateral trade surplus of about $4.7 billion.
Similarly, the issue with the second option is that the government has to take a call on whether to extend more credit to a country that doesn’t clearly seem to be in control of its finances anytime soon. Given that Sri Lanka’s sources of earnings are limited (the nation relies heavily on tourism for revenues), extending fresh lines of credit, either in the dollar or in the rupee, would be a tough decision to make, said one of the sources quoted above.
Of course, Lankan importers haven’t yet defaulted on payments, though in some cases, payments are delayed. But large-scale defaults by Lankan importers can’t be ruled out if the forex crisis there isn’t stemmed swiftly, Indian exporters fear.
According to Raja M Shanmugham, managing director of garment firm Warshaw International and president of the Tirupur Exporters’ Association, Sri Lankan importers have the ability to pay in their domestic currency. They have no problem if they are allowed, under a mechanism, to pay up in their currency.
The Sri Lankan economy — which depends heavily on tourism and exports of commercial crops like tea — was battered by the pandemic, as travel restrictions hit tourism. Its GDP contracted by a record 3.6% in 2020 and its foreign exchange reserves crashed by 70% in the last two years to about $2.31 billion by February, leading to a sharp depreciation of its currency. Meanwhile, its debt has swelled to $51 billion.
The island nation is staring at one crisis after another, as it has to repay debt of about $4 billion in 2022, including a $1-billion international sovereign bond that matures in July. Its new finance minister Ali Sabry has resigned less than 24 hours after assuming office and the Rajapaksa government has now lost its majority in parliament.
Colombo is heavily dependent on New Delhi for the supply of a broad range of goods. These include mineral fuel, pharmaceuticals, steel, textiles (mainly fabric and yarn), food products and automobiles.