IMF backs Sri Lanka’s financial sector stability in potential DDR scenario

• The Fund’s Asia and Pacific Department Director says IMF with the govt. will “flesh out a strategy” soon to safeguard financial sector in DDR scenario 
• Hints that DDR was included in SL’ debt restructuring plan before the approval of IMF programme

Krishna Srinivasan

The International Monetary Fund (IMF) plans to support the government to come up with a strategyto safeguard financial sector stability in a potential domestic debt restructuring (DDR) scenario, a top official of the Fund said.
“… when you restructure domestic debt, you have to make sure that you also safeguard financial stability. So, these are issues on which the government is currently working and we’ll flesh out a strategy on that, hopefully very soon. That’s the next step,” IMF Asia and Pacific Department Director Krishna Srinivasan said during the Regional Economic Outlook on Asia and Pacific Press Briefing held in Hong Kong this week.

He hinted that domestic debt restructuring was included in Sri Lanka’s debt restructuring plan before the approval of the IMF programme given the significant challenges on the path to debt sustainability.

“In terms of restructuring, as you all know, the debt in Sri Lanka was assessed to be unsustainable. And that’s why, before the programme could be approved, there had to be a path towards restoring sustainability. And that includes restructuring debt to all creditors - private creditors, official creditors, and to some extent, domestic debt, for the simple reason that debt sustainability is quite a big challenge in Sri Lanka,” he added.

The government is expected to come up with a comprehensive debt restructuring framework this month. The Central Bank recently revealed that Domestic Debt Optimisation (DDO) on a voluntary basis would be included in the country’s debt restructuring strategy.

Commenting on economic recovery, Srinivasan highlighted that unlike previous IMF programmes, the current IMF programme put Sri Lanka on the path to prosperity as the successful implementation of it is directly linked to debt sustainability following the country’s default on external debt.

“The next step for them is to embark, to make good faith efforts to reach a debt agreement with their creditors - private creditors, official creditors and so on. In terms of growth outlook itself, we had a contraction of 8.7 percent 2022. We have growth contracting at 3 percent in 2023 and then making a mild recovery. 

But, the issue will be for Sri Lanka to implement the programme well so that debt can be made sustainable, which is a big difference from previous programmes, and the country can be put on the path to prosperity,” he elaborated. 

The IMF expects the current programme, which is lying on revenue-based consolidation, to bring in macro-economic stability while curtailing inflation.

Although, inflation has slowed down from record high levels last year, the IMF officials noted that inflation has to come down durably.

“…inflation has come down, albeit from high levels. So, this is again work in progress. Inflation has to come down durably because let’s not forget, inflation is the worst kind of tax on the poor and the vulnerable are hurting the most. And so, you want to get inflation under control. And so that’s something which, again, in terms of monetary policy, with support of fiscal policy, has to bring inflation down to levels which are reasonable,” he said.

However, Srinivasan noted that the current IMF programme is a very comprehensive one going beyond fiscal consolidation to addressing critical reforms required to support the country’s economy.

“It addresses governance and corruption issues in Sri Lanka. It’s the first country in Asia which has had a deep diagnosis on the issue of governance and corruption and that will feed into the programme going forward. It’s also a programme where we have a floor on how the country should support the poor and the vulnerable. And to make sure that the fiscal support they provide is temporary and targeted to the people who need it most. So, it’s a very comprehensive programme and the fiscal consolidation by itself will not be enough,” he added.