Explainer: How Sri Lanka came to brink of collapse

Interns' Corner

Sri Lanka is facing an economic crisis which has left the country in a shambles. The population of 22 million, struggling to buy food and petrol, is blaming the government’s economic mismanagement, coupled with fallout from the Covid-19 pandemic, for what has become an existential crisis.

At the weekend, protesters overran the offical residence of the president but rather than ransacking the building, they could be seen picnicking on the lawns, making use of the private gym and swimming in his pool. The president has promised to resign by today, July 13, to break the standoff. With the country teetering on the brink of collapse, the economic crisis is in danger of spiralling into a humanitarian disaster with the potential to create a surge of refugees to surrounding countries, including Australia.

Why is Sri Lanka broke?

In 2019, the Sri Lankan government took on large debts to slash taxes. When the Covid-19 pandemic hit in early 2020, income from its main economic driver, the tourism industry, dried up due to closed borders and almost no international air travel. As a result, its foreign currency reserves were rapidly depleted. In April 2022, the country preemptively defaulted on US$51 billion in foreign debt. Sri Lanka now imports goods worth $3 billion more than the value of its exports every year, leaving a foreign currency shortfall.

What does chemical fertiliser have to do with it?

In April 2021, President Gotabaya Rajapaksa implemented a ban on importation and use of chemical fertilisers, claiming the move would make Sri Lanka the world's first fully organic country. The ban was intended to increase the income of farmers by introducing more sustainable farming methods and removing the cost of imported government-subsidised fertilisers, with an end result of producing organic produce with a greater market value. However, the ban was introduced suddenly, with little consultation, and led to nationwide protests by farmers as rice production fell by 40-50 per cent. Under pressure, the government backed down in November 2021 and reversed the ban. By then, the damage was done.

Why is there a massive petrol shortage?

Sri Lanka is unable to finance oil imports because of its shrinking foreign reserves. In late May, the government said it barely had enough fuel left in the country to last another day. It has limped on since then by issuing bans on petrol sales that are non-essential to conserve the few reserves it has left for emergency situations. On June 21, all government schools were shut down and state institutions are operating with skeleton staff to reduce the need to commute and to preserve oil. The Government called on individuals to surrender whatever gasoline they had stashed away to try to build up a reserve until more oil could be shipped in and the Prime Minister proposed a token system to ration fuel stock. The scheme failed due to the sheer lack of supply.

Lines to purchase fuel stretch as far as 2 kms from petrol stations, with people having to push their cars just to get the chance to fill up, with many going home empty handed. At least 16 people have died waiting in these lines in the capital Columbo.

The rise in oil prices internationally has also been a factor. Sri Lanka's Central Bank will only be able to supply US$125 million to purchase fuel, with hundreds of millions still owing on previous shipments. Sri Lankan officials have reached out to Russia in search of discounted oil.

How has the Sri Lankan Government responded?

As the crisis deepened, the Government imposed bans on non-essential fuel use and offered rice handouts to hungry citizens. The government closed urban schools and some universities. It gave civil servants every Friday off for three months, to conserve fuel and allow them time to grow their own fruit and vegetables, as supply shortages mean they can no longer buy their own.

In April it preemptively defaulted on its foreign debt repayments and has sought an economic bailout from the International Monetary Fund. The IMF has said it will not resume dialogue until the political turmoil is resolved.

President Rajapaksa, who has reportedly fled to The Maldives and expected to resign as soon as today, has forecast the inflation rate in Sri Lanka could rise to more than 60 per cent.

How are other countries responding?

India, Sri Lanka's nearest neighbour, has promised US$4 billion in loans, swaps and aid. That includes urgently needed drugs and medical aid, 400 metric tonnes of urea under the credit line to support farmers and 400,000 million tonnes of fuel through a $500 million credit facility.

China has offered humanitarian assistance totalling 500 million RMB (A$109 million) including supplies of medicine and rice. China is one of Sri Lanka’s top two bilateral creditors, along with Japan, with Chinese loans making up about 10 per cent of the island’s external debt. (The money was borrowed under China’s Belt and Road Initiative, a global infrastructure development strategy which has seen memoranda of understanding signed with 147 countries. In 2017, Sri Lanka formally handed over the deepwater port of Hambantota to China when it was unable to repay a BRI- project debt.)

Australia's (boat-focussed) support

Australia has had diplomatic ties with Sri Lanka for 75 years. The two countries share a history of cooperation in trade and investment, education, sport, culture and development.

In the current crisis, Australia has so far provided $50 million in financial aid: an immediate $22 million to be given given to the World Food Program (WFP) for emergency food assistance, with a further $23 million over the 2022/23 financial year; and $5 million to UN agencies dealing with the crisis. The WFP says nearly nine of 10 families are skipping meals while 3 million Sri Lankans are receiving humanitarian aid.

In the past decade, irregular immigration has become a key focus of bilateral relations. In 2013, then prime minister Tony Abbott gifted two Bay Class patrol boats to Sri Lanka to help combat people smuggling in the Indian Ocean, providing the Sri Lankan Navy an enhanced search-and-rescue capacity. This year, Australia has provided medical equipment, food, technical support and health-related services to support the country’s immediate needs. The new Treasurer Jim Chalmers said it was vital for Australia to meet its aid contribution responsibilities. He went on to explain that the economic troubles and social unrest may lead to an increase in asylum seeker vessels.

With the new government in power, people smugglers have told would-be asylum seekers that policies have changed and those arriving by boat will be allowed to stay in Australia. The police has not changed under Labor. The new Home Affairs Minister Clare O'Neil, visited Sri Lanka in her first week in office to emphasise the message. “Here in Sri Lanka I have a very simple message: if you attempt to enter Australia by boat you will be immediately sent back. Australia’s border protection policies have not changed.”

What happens next?

Blame has been cast upon the ruling Rajapaksa family for the crisis, with allegations of political nepotism (Gotabaya Rajapaksa's brother Mahindra previously held the presidency) and corruption long plaguing the political family. Today is the day President-in-hiding Gotabaya Rajapaksa has reportedly said he will resign from office. (He reportedly fled the country this morning bound for The Maldives with the resignation still pending.) Prime minister Ranil Wickremesinghe has similarly committed to resign as soon as a new government can be formed. Protesters at the presidential residence remain sceptical and have pledged to continue to occupy the building until the resignation is official.

The challenge for Sri Lanka is that removing the political leadership will not erase its insurmountable foreign debt or magically mend its collapsed economy. President Rajapaksa may be gone but ordinary Sri Lankans will continue to pay a very high price.

Update: President Gotabaya Rajapaksa, who fled the country on July 13, finally resigned from office after landing in Singapore (via The Maldives) on July 14.


©2019 UNSW Sydney All Rights Reserved.
Logo for Hamburger menu