Planned Sri Lanka debt talks hailed by IMF after ‘successful’ first round of talks

ECONOMYNEXT – The Washington-based International Monetary Fund has welcomed Sri Lanka’s planned negotiations with creditors after the island suspended repayments and said initial talks with a team led by Finance Minister Ali Sabry and Central Bank Governor Nandalal Weerasinghe were “fruitful”.

Sri Lanka on April 12 suspended payment of foreign debt and said it would negotiate with creditors.

“The IMF team welcomed the authorities’ plan to engage in a collaborative dialogue with their creditors,” the lender’s head of mission in Sri Lanka, Masahiro Nozaki, said in a statement.

Sri Lanka is likely to need a reform-backed expanded financing facility, with debt restructuring as a prerequisite announced by officials. (IMF program in Sri Lanka could be 400% plus EFF quota: BC Governor)

The IMF has declared that Sri Lanka’s debt is unsustainable (cannot be repaid only with macroeconomic adjustments such as rate hikes and tax hikes) after being shut out of capital markets and that it needs to be restructured (due extensions/haircuts) which will reduce the gross amount needed for financing for a few years.

Finance Minister Sabry said on Friday he planned to appoint legal and financial advisers within the next 15 days. Sri Lankan officials were also briefed at the IMF by Lee Buchheit, an expert on defaults in Latin America.

Sri Lanka’s sovereign bond holdings fell from US$5 billion to US$14 billion following two currency crises between 2015 and 2019 as the country was unable to buy dollars to settle foreign loans.

Now the country is scrambling to secure “bridge financing” for imports despite breaking the peg, taking billions of dollars in consumer loans, analysts say.

The country lost access to capital markets in a third soft peg crisis from 2020 to present.

There is a billion dollars maturing in July 2022, but the absence of foreign exchange reserves or the possibility of buying dollars against rupees after two years of money printing have broken the credibility of the soft anchoring of the central banks (flexible exchange rate) and triggered currency shortages.

The central bank itself is leveraged in dollars, including for short-term swaps.

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“Going forward, the IMF team will support Sri Lanka’s efforts to weather the current economic crisis by working closely with the authorities on their economic program and engaging with all other stakeholders to a quick resolution to the crisis,” Nozaki said.

The IMF’s first talks focused on “recent economic and financial developments in Sri Lanka, the need to implement a credible and coherent strategy to restore macroeconomic stability, and the importance of stronger social safety nets to mitigate the impact negative impact of the current economic crisis on the poor”. and vulnerable,” Nozaki said.

The poor are hit hardest when Sri Lanka’s soft or flexible exchange rate – which is neither a clean float with an internal anchor nor a credible hard anchor with an external anchor – fails.

The rupee crashed from 203 to 340 to the US dollar from March to April 2022 and nationwide inflation hit 21% in March before the effects of the depreciation fully spread through the economy .

The Rupee plummets whenever money is printed through aggressive open market operations to target an output gap (stimulus) and/or to sterilize currency sales (print money for keeping rates low after the central bank has financed imports or other outflows) and the country ends up in the IMF.

The failing peg has so far led to 16 IMF programs since the establishment of the intermediate regime in 1950 under a law designed by an American money doctor in the style of the Banco Central de la República Argentina with extensive sterilization powers, open market operations and a central securities bank.

A currency crisis or currency shortage can only take place in a soft/flexible exchange rate with conflicting pegs and is impossible in a float or hard peg with a single currency peg.

Sri Lanka attempted to float the currency in March or “suspend convertibility” after foreign exchange reserves supporting the peg were lost to sales of sterilized currencies.

The attempt failed and the rupee fell sharply and currency shortages persisted due to a surrender rule (weak side convertibility) which forces the monetary regime to be an anchor and prevents clan floating from taking place.

Policy rates were also low at 7.50%, but have since been raised to 14.50%.

Yields on treasury bills have risen to around 20%, which can bring in more money from private savings to pay the salaries of state employees and also help roll over maturing debt in paper form. , to reduce money printing. (Colombo/April 23/2022)