•  Senior economist Dr. Nishan de Mel says paying down debt won’t improve the country’s sovereign rating, instead it could trigger further downgrades
• His claim sparks immediate pushback, particularly from investor and financial market participants 
• They warn of full blown economic and financial sector meltdown from a default 
• CB last week said it earmarked funds to settle US$ 500 mn sovereign bond falling due on Jan.18

Contradictory as it may sound, senior economist Dr. Nishan de Mel said the settlement of the dollar bonds would plunge Sri Lanka and its people into further abyss and therefore the government should default on its debt come due next week, as debt repayment neither solves the current shortages of essential items nor would raise the country’s junk credit rating. 
Dr.de Mel, who is the Executive Director at Verite Research, an economic research and policy think tank based in Colombo made this bombshell statement considering the litany of essential commodities, which are running short of supply due to the prevailing foreign exchange crunch, which is causing untold misery to the people as the forex shortage is now spilling over into the country’s energy and medical drugs procurement sectors. 

According to him the repayment of the US$ 500 million sovereign bond due on January 18 could compound these problems, as it will dry out the country’s already thin reserves. 
“Consequences of default are credit rating downgrades. But, the worst has already occurred. Further downgrades will have lesser marginal impact.  But, running down reserves (by paying debt) will have a much larger negative impact on the economy, and result in downgrades in any case,” Dr. de Mel tweeted during 
the weekend. 

 “Saving the US$ 500 million, can prevent these pharmaceutical shortages for a significant period. I hate to sound alarmist, but paying it could literally kill people, due to the lack of drugs,” he stressed. 

The Central Bank last week said it had already allocated funds to settle the upcoming bond due on January 18.
 Dr.de Mel during an interview with a popular YouTuber noted that the timely settlement of the dollar bonds is futile at this point from the sovereign rating point of view, as the rating agencies in their analysis of a country’s solvency, “are not looking at from the rear view mirror, but from the front windscreen,”—meaning, a nation’s ability to meet future foreign liabilities considering its external reserve assets. 

In Sri Lanka’s context, this ability is impaired and therefore, according to Dr.de Mel, settlement of dollar bonds would result in further rating downgrades as he predicts the country’s reserves to fall down to zero in six months, potentially bankrupting the country’s economy. 

He said an early default would not necessarily bring the country into an economic bankruptcy but an early bankruptcy would result in default. 

However, investors and financial market participants balked at Dr.de Mel’s idea of default as they warned that triggering a default would send shockwaves across the financial markets and the economy, and the long-term repercussions on the investor confidence would be disastrous. 

“Any suggestion that once you default, new credit lines will miraculously open is fantasy. IMF “reforms” will also be a tough pill to swallow. Defaulting is not a solution. Please stop this narrative,”Tweeted Sharad Sridharan, an Emerging Markets investor and co-founder at Ataraxia Capital, an asset management firm with offices in Australia, in response to De Mel. 

“You can’t simply default and think the IMF will give you money.  That’s a false narrative. There are bilateral loans also which will also tighten the curve. Default is not a solution,” he added.
Another responded saying that resuscitating the economy and meeting debt obligations aren’t mutually exclusive. 

While Dr.de Mel agreed that the two aren’t mutually exclusive in ideal times, he is of the view that in the present context with ‘CC’ level credit rating and usable reserves hovering at less than one month of imports, Sri Lanka needs to choose between, “suspend debt payments” or “sucker punch in the economy.”