Bangladesh's $200m loan to Sri Lanka hangs in balance

People shout slogans against Sri Lanka's President Gotabaya Rajapaksa and demand that Rajapaksa family politicians step down, during a protest amid the country's economic crisis, at Independence Square in Colombo, Sri Lanka, April 4, 2022. REUTERS file photo

Although the government has taken extraordinary steps in an effort to remain current on all of its external indebtedness, it is now clear that is no longer a tenable policy.

— Sri Lanka's finance ministry

When Bangladesh agreed to provide $250 million to Sri Lanka last year, little did it think that it would become a side character in the horror show that is unfolding in the island nation.

But that is exactly the position Bangladesh finds itself in after Sri Lanka yesterday announced defaulting on its entire $51 billion of external debt -- an extraordinary move taken to preserve its scarce foreign currency reserves for essential food, fuel and medicine imports.

In March, Sri Lanka's foreign currency reserves plummeted to $1.94 billion, just enough to foot a month's import bill, but analysts estimate the usable amount is about $500 million, reports The Financial Times.

The Sri Lankan government was due to make a $36 million interest payment on a 2023 dollar bond on April 18, as well as $42.2 million on a 2028 note, Bloomberg-compiled data show. A $1 billion sovereign bond is maturing on July 25. Now, payment for all is suspended.

Sri Lanka's finance ministry said the suspension was a "last resort" as keeping up with repayments had "become impossible".

In short, the island country with an $80 billion economy is teetering on bankruptcy, thanks to an alchemy of tax cuts, foreign currency-denominated debt pile-up and unforeseeable circumstances like the global coronavirus pandemic and Russia's invasion of Ukraine.

And its only way out of the economic, financial and political meltdown -- which has caused widespread misery for Sri Lanka's 22 million people and has compelled them to take to the streets in recent weeks -- is to get help from the International Monetary Fund, which it was wont to as recently as February.

When formal talks begin on Monday during IMF's annual spring meetings for a bail-out package, Bangladesh will find a seat at the table as debt restructuring would most definitely be a lynchpin of the programme.

As per the currency swap agreement with Sri Lanka, Bangladesh was supposed to receive an interest payment of LIBOR + 2 percent were the amount returned in three months.

LIBOR, the acronym for London Interbank Offer Rate, is the global reference rate for unsecured short-term borrowing in the interbank market as a benchmark for short-term interest rates. The three-month LIBOR averaged around 0.53 percent in 2021.

Had Sri Lanka paid back in six months, the interest amount would have been LIBOR + 2.5 percent. But it failed to. Subsequently, Sri Lanka, which has a year to repay the loan, has assumed a higher interest rate.

"It would be wise of Bangladesh just to demand the principal amount back at the earliest," said Zahid Hussain, a former lead economist of the World Bank's Dhaka office.

Bangladesh was supposed to provide $250 million in exchange for an equivalent amount of Sri Lankan rupees, but it ended up providing $200 million seeing the worsening economic crisis in the South Asian nation.

"If Sri Lanka says that we will give you LIBOR + 4 percent if you take the money after two years, it would be wise to turn down the offer. That would never materialise given Sri Lanka's financial position," he said, adding that the IMF is unlikely to provide its own funds to repay loans.

Sri Lanka has previously entered into 16 relief programmes with the IMF and has stayed the course for only half of those.

The country's foreign debt to GDP ratio is to the north of 60 percent and the total debt to GDP ratio is more than 100 percent.

Not just that, its external debt carries high-interest rates and has short repayment tenure, according to Hussain.

In its statement yesterday, Sri Lanka's finance ministry said creditors were free to capitalise any interest payments falling due after 5 pm local time at an interest rate not higher than the normal contractual rate applicable to the credit.

Capitalisation is the addition of unpaid interest to the principal balance of a loan. The principal balance then increases and more interest is accrued over the life of the loan.

Or, creditors can choose to receive repayments in Sri Lankan rupees.

The latter option would have been acceptable had the Sri Lankan rupee not plunged to a record low to become the world's worst-performing currency -- worse than the currency of Russia, which is facing a cocktail of economic sanctions from the west.

The Bangladesh Bank though remains unruffled.

"We are not concerned yet -- Sri Lanka still has time to pay back," BB Spokesperson Md. Serajul Islam told The Daily Star yesterday.

Prime Minister Sheikh Hasina though called for caution when it comes to foreign debt even though it is far below risky levels.

Following a presentation yesterday on "offshore tax amnesty" and "a review of Bangladesh's macroeconomy against the backdrop of Sri Lankan economic crisis" by the National Board of Revenue and the finance division, she directed all concerned to take necessary measures so that Bangladesh could maintain its current position regarding foreign debt.


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