Sri Lanka—Assessment of the Risks to the Fund and the Fund’s Liquidity Position

This paper discusses a request from the Sri Lankan authorities for a Stand-By Arrangement (SBA). The proposed SBA (of 400 percent of quota or SDR1.65 billion) would aim to smooth adjustment to the external shock that has hit the country, restore health to the country’s public finances, allow for greater exchange rate flexibility, address weaknesses in the financial system, and protect the most vulnerable from the burden of the needed adjustment. In addition, the IMF program will provide a basis for the authorities to approach donors for supporting a longer-term reconstruction program.

Abstract

This paper discusses a request from the Sri Lankan authorities for a Stand-By Arrangement (SBA). The proposed SBA (of 400 percent of quota or SDR1.65 billion) would aim to smooth adjustment to the external shock that has hit the country, restore health to the country’s public finances, allow for greater exchange rate flexibility, address weaknesses in the financial system, and protect the most vulnerable from the burden of the needed adjustment. In addition, the IMF program will provide a basis for the authorities to approach donors for supporting a longer-term reconstruction program.

1. This note assesses the risks to the Fund arising from the proposed Stand-By Arrangement (SBA) for Sri Lanka and its effects on the Fund’s liquidity, in accordance with the policy on exceptional access.1 The authorities are requesting a 20-month SBA with access of SDR 1,653.6 million (400 percent of quota). The arrangement would have a flat purchase schedule with the first purchase of SDR 206.7 million (50 percent of quota) upon approval, followed by seven purchases as shown in Table 1. Access during the first year would reach about 250 percent of quota and the last purchase under the arrangement would be available in March 2011.

Table 1.

Sri Lanka: Proposed SBA—Access and Phasing

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Source: Finance Department.

Starting in September 2009, purchases will depend on the completion of a review.

I. Background

2. Sri Lanka had several Fund GRA and PRGF arrangements over the last thirty years (Table 2). Access under these arrangements ranged from SDR 100 million to SDR 413.4 million. The authorities’ last program—supported by a blend PRGF/EFF arrangement—aimed to build on the progress made under the previous SBA, by accelerating economic growth while reducing poverty. The key elements of the program involved strengthening public finances, reforming the financial sector, public enterprises, the labor market and the trade regime, and improving macroeconomic policy instruments and institutions. As of end-May 2009, Fund credit outstanding to Sri Lanka under the GRA is about SDR 60.3 million (or 15 percent of quota), and Fund credit outstanding to Sri Lanka under the PRGF is about SDR 30.7 million (or 7 percent of quota) (Figure 1). All obligations to the Fund have been met in a timely manner.

Table 2.

Sri Lanka: IMF Financial Arrangements, 1981–2015

(In millions of SDRs)

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Source: Finance Department.

GRA starting from 2009 includes emergency assistance and extended arrangements.

As of end-December.

Figures under the proposed program in italics. Assumes repurchases on an obligations basis.

Figure 1.
Figure 1.

Sri Lanka: IMF Credit Outstanding, 1979–2009

(In millions of SDRs)

Citation: IMF Staff Country Reports 2009, 310; 10.5089/9781451823615.002.A003

Source: Finance Department.

3. Sri Lanka’s external debt is just above the median across recent exceptional access cases, with public sector debt accounting for the largest share. At end-2008, Sri Lanka’s total external debt stood at 44.2 percent of GDP, of which almost three-quarters was owed by the public sector (Table 3), mainly to bilateral and multilateral institutions (Figure 2). Private sector external debt, at 11.5 percent of GDP in 2008, is mainly short-term. Sri Lanka’s public external debt as a ratio of GDP is higher than that in several recent exceptional access cases though not among the few highest (Figure 3, Panels A and B).2 Reflecting the country’s debt stock, Sri Lanka’s external medium and long-term debt service ratio to exports of goods and services is also somewhat higher than the median across recent exceptional access cases (Figure 3, Panel C).

Table 3.

Sri Lanka: Total External Debt, 2005–2009 1/

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Source: Sri Lankan authorities and IMF staff estimates.

End of year unless otherwise indicated.

Staff projections for end-2009.

Figure 2.
Figure 2.

Sri Lanka: Composition of Total External Debt, end-2008

(In percent)

Citation: IMF Staff Country Reports 2009, 310; 10.5089/9781451823615.002.A003

Source: Sri Lankan authorities and IMF staff estimates.
Figure 3.
Figure 3.

Debt Ratios for Recent Exceptional Access Arrangements 1/

Citation: IMF Staff Country Reports 2009, 310; 10.5089/9781451823615.002.A003

Source: Sri Lankan authorities and IMF staff estimates, and World Economic Outlook.1/ For arrangements approved since September 2008, estimates as reported in each staff report on the request of the Stand-By Arrangement. Ratios generated using end-2008 data, except for Guatemala for which projected end-2009 data were used. Asterisks indicate PRGF eligible countries.

4. Public debt is high and about 39 percent is owed to external creditors. Total public debt has dropped from about 102 percent of GDP in 2004 to about 81 percent at end-2008, which, however, is the second highest ratio among recent exceptional access cases (Figure 3, Panel D). Over the past four years external debt of the public sector has declined by about 10 percentage points of GDP to 32.7 percent in 2008.

II. The New Stand-By Arrangement—Risks and Impact on Funds Finances

A. Risks to the Fund

5. Access under the proposed arrangement would be higher than in previous arrangements under the GRA for Sri Lanka and would surpass the annual access limit.

  • If all purchases were to be made as scheduled, Sri Lanka’s outstanding use of GRA resources would rise to about 61 percent of quota upon approval, to 251 percent of quota during the first year of the arrangement, and then peak at about 401 percent of quota in March 2011.3 In terms of quota, this projected peak exposure would be slightly lower than the median peak exposure in the recent exceptional access cases (Figure 4).

  • If all purchases under the proposed SBA are made, GRA credit outstanding to Sri Lanka would be equivalent to 6.5 percent of GDP and about 60 percent of gross international reserves by 2011 (Table 4). The peak ratio in terms of gross reserves would be the second highest of recent exceptional access SBAs (Figure 5, Panel C), though around the median when expressed in terms of GDP.

  • In terms of SDRs, the projected peak GRA exposure of SDR 1,659 million would be almost four times higher than Sri Lanka’s previous peak in Fund credit outstanding reached in the early 1980s. While significant, this potential exposure, would, however, be much lower than in a number of recent exceptional access cases (Figure 6, Panel A).

Figure 4.
Figure 4.

Fund Credit Outstanding in the GRA around Peak Borrowing 1/

(In percent of quota)

Citation: IMF Staff Country Reports 2009, 310; 10.5089/9781451823615.002.A003

Source: IFS, Finance Department, and IMF staff estimates.1/ Peak borrowing ‘t’ is defined as the highest level of credit outstanding for a member. Repurchases are assumed to be on an obligations basis.
Table 4.

Sri Lanka—Capacity to Repay Indicators 1/

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Sources: Sri Lankan authorities, Finance Department, World Economic Outlook, and IMF staff estimates.

Assumes full drawings.

Repurchases follow the obligations schedule.

Includes surcharges and service fees.

Staff projections for external debt, GDP, gross international reserves, and exports of goods and services, as used in the staff report that requests the proposed SBA. For July 2009, projections for external debt, GDP, gross international reserves, and exports of goods and services are as of end-December 2008.

Figure 5.
Figure 5.

Peak Fund Exposure and Debt Service Ratios for Recent Exceptional Access Cases

Citation: IMF Staff Country Reports 2009, 310; 10.5089/9781451823615.002.A003

Source: Sri Lankan authorities and IMF staff estimates, and World Economic Outlook.1/ Asterisks indicate PRGF eligible countries.
Figure 6.
Figure 6.

Exceptional Access Levels and Credit Concentration

Citation: IMF Staff Country Reports 2009, 310; 10.5089/9781451823615.002.A003

Source: Finance Department.1/ Does not include FCL arrangements. Asterisks indicate PRGF eligible countries.2/ Credit outstanding as of July 10, 2009 plus the first purchase under the proposed arrangement with Sri Lanka.

6. If all purchases under the proposed SBA were to take place as scheduled, debt service ratios to the Fund would be within the range of other exceptional access cases, though higher than the average of these cases, and the share of the Fund in Sri Lanka’s external debt service would also be large. Sri Lanka’s projected debt service to the Fund would peak at about SDR 762 million in 2014, and be about 78 percent of total public external debt service (Table 4). Peak debt service to the Fund as a share of exports of good and services, at about 8.3 percent, would be among the highest recent exceptional access cases (Figure 5, Panel D).4

B. Impact on the Fund’s Liquidity Position and Risk Exposure

7. The impact of the proposed arrangement on the Fund’s liquidity and credit risk exposure is relatively modest.

  • The proposed arrangement would reduce Fund liquidity by about 2 percent (Table 5). Commitments under the proposed arrangement would reduce the one-year forward commitment capacity (FCC), which currently stands at SDR 91.5 billion, by about SDR 1.65 billion.5

  • If the first purchase is made, Fund credit to Sri Lanka would represent only 0.9 percent of total GRA Fund credit (Figure 6, Panel B), making Sri Lanka one of the smaller users of Fund resources. The share of the top five users of Fund resources of total outstanding credit would decrease by a few percentage points to about 83 percent (Table 5).

  • In the event Sri Lanka were to fully draw on resources available under the proposed SBA, the Fund’s burden sharing mechanism would be able to handle arrears on the charges accruing to Sri Lanka’s GRA obligations.6 Charges on the GRA obligations would equal about SDR 4.4 million in 2009, about 15 percent of the current estimated residual burden-sharing capacity (Table 5). The impact on the Fund’s burden sharing capacity of potential arrears from this arrangement would be expected to decline to the extent the demand for Fund resources continues to expand.

  • Potential GRA exposure to Sri Lanka would be small in relation to the current level of the Fund’s precautionary balances. After the first purchase, Fund credit to Sri Lanka would be about 2.9 percent of the Fund’s current precautionary balances (Table 5), and the total access amounts to about 23.3 percent of current precautionary balances.

Table 5.

Sri Lanka—Impact on GRA Finances

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Sources: Sri Lankan authorities, Finance Department, World Economic Outlook, and IMF staff estimates.

The Forward Commitment Capacity is a measure of the resources available for new financial commitments in the coming year, equal to usable resources minus undrawn balances under existing arrangements plus repurchases one-year forward minus a prudential balance. The FCC is determined on basis of available quota resources and resources available under bilateral borrowing arrangements. In addition, the Fund has access to SDR 34 billion under the NAB/GAB borrowing arrangements.

A single country’s negative impact on the FCC is defined as the country’s sum of Fund credit and undrawn commitments minus repurchases one-year forward.

As of end-April 2009.

Reflects total Fund credit outstanding plus the first purchase by Sri Lanka.

Burden-sharing capacity is calculated based on the floor for remuneration at 85 percent of the SDR interest rate. Residual burden-sharing capacity is equal to the total burden-sharing capacity minus the portion being utilized to offset deferred charges and takes into account the loss in capacity due to nonpayment of burden sharing adjustments by members in arrears.

III. Assessment

8. The proposed Fund-supported program with Sri Lanka intends to support the authorities’ economic program during a period of large external adjustment. The proposed access aims at providing immediate relief to Sri Lanka’s acute short-term balance of payments pressures. The proposed arrangement would also support the authorities’ program of fiscal retrenchment while ensuring the availability of resources for reconstruction spending, greater exchange rate flexibility, and financial sector reform and social protection, while smoothing the necessary adjustment to the external shock that has hit the economy.

9. There are substantial risks to the program that could affect Sri Lanka’s capacity to repay the Fund. The amount of depreciation required to meet the reserve targets over the next several months could exceed what the government might consider politically acceptable if market conditions worsen. It is also critically important that fiscal adjustment be sustained, implementing difficult measures now to offset the decline in revenues and to reign in spending in order to achieve the targeted deficit this year. Besides, the economy remains vulnerable as weaknesses in the financial sector are likely to increase as the economy slows, particularly if Sri Lanka’s trading partners were to experience a more rapid growth slowdown than currently expected. Finally, a sudden withdrawal of non-resident foreign exchange deposits from the banking sector, although unlikely at this point, would put pressure on reserves and could jeopardize the program’s reserve targets.

10. Overall, financial risks associated with the proposed arrangement for Sri Lanka are considerable, though the still comparatively small scale of access in absolute terms would contain the potential adverse impact on the Fund’s finances. While potential Fund exposure to Sri Lanka would be smaller than in a number of recent exceptional access SBAs, Fund exposure in terms of the stock of reserves and debt service to the Fund as a share of total external debt service will peak at levels that are higher than those in many recent exceptional access cases. However, the authorities’ commitment to implementing firmly the program and to responding promptly to changes in economic conditions, together with Sri Lanka’s track record of servicing external obligations, provides comfort that financial obligations to the Fund will be met in a timely manner.

1

See IMF Concludes Discussion on Access Policy in the Context of Capital Account Crises; and Review of Access Policies in the Credit Tranches and the Extended Fund Facility. Public Information Notice (PIN) No. 03/37; available via the internet: http://www.imf.org/external/np/sec/pn/2003/pn0337.htm.

2

The exceptional access cases used as comparators in this paper are the SBAs approved since September 2008.

3

Amortization payments to the Fund are calculated assuming that all repurchases are made as scheduled, i.e., each purchase is repurchased in eight quarterly installments, beginning in 3¼ years after each purchase and ending after 5 years.

4

Debt service to the Fund is calculated assuming that all repurchases are made as scheduled, i.e., each purchase is repurchased in eight quarterly installments, beginning in 3¼ years after each purchase and ending after 5 years. As for level-based surcharges, they are calculated according to the current schedule: 100 basis points for credit outstanding over 200 percent of quota and 200 basis points for credit outstanding above 300 percent of quota. The new system of surcharges, which applies to credit outstanding above 300 percent of quota, will go in effect on August 1, 2009, subject to grandfathering at the member’s request.

5

The FCC is the principal measure of Fund liquidity. The (one-year) FCC indicates the amount of GRA resources available for new financing over the next 12 months. See Borrowing by the Fund—Operational Issues (available via the internat at: http://www.imf.org/external/np/pp/eng/2009/061709.pdf).

6

Under the burden-sharing mechanism, the financial consequences for the Fund that stem from the existence of overdue financial obligations are shared between creditors and debtors through a decrease in the rate of remuneration and an increase in the rate of charge, respectively. The mechanism is used to compensate the Fund for a loss in income when debtors do not pay charges. The Executive Board has set a floor for remuneration at 85 percent of the SDR interest rate. No corresponding ceiling applies to the rate of charge.

Sri Lanka: Request for Stand-By Arrangement -Staff Report; Staff Supplements; Press Release on the Executive Board Discussion; and Statement by the Executive Director for Sri Lanka
Author: International Monetary Fund
  • View in gallery

    Sri Lanka: IMF Credit Outstanding, 1979–2009

    (In millions of SDRs)

  • View in gallery

    Sri Lanka: Composition of Total External Debt, end-2008

    (In percent)

  • View in gallery

    Debt Ratios for Recent Exceptional Access Arrangements 1/

  • View in gallery

    Fund Credit Outstanding in the GRA around Peak Borrowing 1/

    (In percent of quota)

  • View in gallery

    Peak Fund Exposure and Debt Service Ratios for Recent Exceptional Access Cases

  • View in gallery

    Exceptional Access Levels and Credit Concentration