Sri Lanka is grappling with its worst economic crisis since its independence. Soaring prices, shortages of essential goods, and crippling international debts led to widespread protests last year, forcing the president to flee the country. The International Monetary Fund (IMF) has stepped in with a $3 billion loan to help stabilize the situation. But what exactly led to this crisis, and what’s happening in Sri Lanka today?
In early 2022, Sri Lankans faced power cuts and shortages of basic necessities like fuel. Inflation soared to 50% annually. These hardships ignited protests in Colombo, the capital, which quickly spread nationwide. The country’s foreign currency reserves dwindled, making it impossible to import essential fuel for transportation and medical services.
Fuel shortages triggered dramatic price hikes for petrol and diesel. In June 2022, the government implemented a two-week ban on petrol and diesel sales for non-essential vehicles. Restrictions on fuel sales remain in place today. Schools were forced to close, and people were encouraged to work from home to conserve dwindling supplies.
Sri Lanka’s inability to purchase essential imports stems from its depleted foreign currency reserves. In May 2022, the country defaulted on an interest payment on its foreign debt for the first time in its history, damaging its reputation with lenders and hindering its ability to borrow money on international markets.
Amidst the turmoil, President Gotabaya Rajapaksa resigned in June 2022. Prime Minister Ranil Wickremesinghe assumed the role of acting president and declared a state of emergency. While the mass protests have subsided, the new president faces the daunting task of addressing the severe financial crisis. Sri Lanka owes substantial debts to China and India, approximately $7 billion and $1 billion respectively. Both countries have agreed to restructure these loans, providing Sri Lanka with more time for repayment. This agreement paved the way for the IMF’s $3 billion loan, supplementing a $600 million loan provided by the World Bank last year.
The Sri Lankan government plans to raise funds for debt repayment by restructuring state-owned enterprises and privatizing the national airline. In early 2023, new income taxes were introduced for higher earners, ranging from 12.5% to over 36%. Other taxes were also increased to cover essential purchases like fuel and food.
The government attributes the economic crisis to the COVID-19 pandemic, which severely impacted Sri Lanka’s tourism sector, a major source of foreign currency. The 2019 Easter bombings, which deterred tourists, were also cited as a contributing factor. However, many experts point to Mr. Rajapaksa’s economic policies as the root cause.
Following the end of its civil war in 2009, Sri Lanka prioritized domestic goods over foreign trade. This resulted in low export income and a growing import bill. The country now imports $3 billion more than it exports annually, leading to the depletion of its foreign currency reserves. Mr. Rajapaksa’s 2019 tax cuts further exacerbated the situation, reducing government revenue by over $1.4 billion annually. In 2021, the government’s attempt to address foreign currency shortages by banning chemical fertilizer imports and promoting organic farming led to widespread crop failures, forcing the country to import food and worsening the already dire situation.
