In a report, Moody’s Investors Service said that on 10 September, Sri Lanka published details of its foreign currency (FX) reserves position, which was nearly $3 billion as of the end of August 2021, 43% lower than at the beginning of the year and around $600 million lower compared to the end of June.
Moody’s said that foreign exchange reserves covered less than two months of imports at the end of August, a credit negative. The reserves are also well below the Government’s annual external debt repayments of around $4-$5 billion through at least 2025.
The foreign reserves data points to a rising risk of debt default coupled with its limited external financing options and the ongoing pandemic-related lockdown weighing on the recovery of non-debt generating inflows It added.
Without sizeable external financing that is relatively secure and long term, we expect foreign exchange reserves to continue declining over the next two to three years,” Moody’s said.
To shore up FX reserves and gain financing support, the Government and the Central Bank of Sri Lanka (CBSL) have tapped project related multilateral loans, official sector bilateral assistance in the form of central bank swaps, commercial bank loans, divestment of some state-owned assets and most recently, calls for a new foreign currency term financing facility.
Some modest amount of inflows materialised in August, while Sri Lanka also received an International Monetary Fund Special Drawing Rights allocation of around $800 million.
However, Moody’s says such inflows are piecemeal and boost FX reserves only temporarily and marginally given the government’s external repayment schedule.
CBSL measures, such as the required sale of a share of all inbound remittances and export proceeds to the central bank, generate additional reserves, while measures restricting imports and outbound remittances and investment help retain some foreign exchange resources in the country.
Although these measures may be effective in the short term, they could weigh on economic activity and deter investment inflows.
Prospects for a swift increase in non-debt generating inflows through international tourism and foreign direct investment (FDI), including the Government divesting assets to nonresidents, are further constrained by Sri Lanka’s ongoing lockdown and the slow recovery in international travel.