Foreign debt obligations: The challenging task of strengthening external reserves
The repayment of about US$6 billion of foreign debt this year is a challenging task. Inadequate foreign reserves, widening of the trade deficit, downside risks to inward remittances from Arab countries, and threats to booming tourism owing to higher costs of air travel could incapacitate the country’s repayment of the foreign debt.
Trade balance
The trade balance and balance of payments are facing several downside risks. Exports could decrease, import expenditures could rise, and worker remittances and earnings from tourism—the country’s main sources of foreign earnings—could dip. Consequently, meeting foreign debt obligations could be onerous.
External reserves
At the end of 2023, foreign reserves are estimated at around US$5 billion, an increase from US$3.6 billion at the end of November. Strengthening external reserves is imperative to meet debt repayment obligations this year.
Inadequate reserves
The US$5 billion reserves included a currency swap arrangement with China of about US$1.5 billion in Yuan that cannot be used for debt repayment. In addition, there are other essential requirements for imports. This underscores the need to strengthen our foreign reserves significantly.
Risks and uncertainties
Furthermore, there are several risks and uncertainties in the balance of payments. While the trade balance is likely to widen, the strengths in the balance of payments are likely to weaken the foreign reserves.
Several global developments could affect the trade balance and balance of payments adversely this year. Among them are the likelihood of a widening trade deficit and uncertainties in inward remittances from workers in insecure countries in West Asia. The tourist boom that the country is experiencing could also be affected if travel becomes insecure and the costs of travel rise sharply.
Trade balance
The trade balance, which widened last year to US$4.7 billion owing to a fall in exports and an increase in imports, is likely to widen further this year. An increase in shipping costs could affect exports as well as imports.
Shipping
Our exports and imports could be adversely affected by steep increases in freight rates on westbound cargo. This, in turn, will affect shipping in the East as ships and containers are delayed while passing around Africa to avoid Houthi attacks in the Red Sea.
The sailing time of exports from Colombo to Europe and the United States East Coast has increased by around 12 to 14 days as ships bypass the Suez Canal. Rates to some European ports have increased by as much as $2,000 to $3,000 for a 20-foot container. This has resulted in the doubling of some freight costs.
Containers
Although the costs of import containers from East Asia have not increased as much so far, as ships are strung around Africa, it will take longer for them to turn around and return to East Asia. This will reduce ship calls, and containers will remain at sea for longer.
Trade deficit
The trade deficit that widened to US$ 4.7 billion last year owing to a decrease in export earnings and an increase in import expenditure is likely to widen further due to the continuing global recession, higher shipping costs, and disruption of supply chains.
Imports
On the other hand, import expenditure is likely to increase owing to the higher costs of shipping and insurance.
The liberalisation of some imports last year may have to be revoked to somewhat reduce import expenditure.
Two strengths
The two strengths of the balance of payments last year were inward remittances and earnings from tourism. These two brought in nearly US$7 billion and wiped away the widened trade deficit of about US$4.7 billion. Consequently, the external reserves increased to about US$5 billion. These sources of foreign earnings face uncertainties this year.
Remittances
Over one-half or more of inward remittances are from migrant workers in the region, vulnerable to death and destruction due to the expansion of the Israeli-Palestinian conflict. Workers from Israel and Lebanon are returning. Meanwhile, workers leaving for the region have declined. Such fleeing for security could affect inward remittances adversely.
The other half
The other half of remittances from South Korea, Japan, and Western countries are not likely to be affected. Yet a decrease of about US$ 2.5 billion would be a severe strain on the balance of payments at a time when the trade deficit is expected to widen much.
Tourism
Tourism, the other source of strength for external finances, could be adversely affected by threats to air safety and higher costs of air travel.
Earnings of nearly US$ billion last year signalled a revival of tourism that was expected to boom this year. But there could be another setback due to dangers in air traffic through the war zone and increased air fares owing to higher fuel prices.
On the other hand, people fleeing from Russia and Ukraine and rich Arabs seeking security could boost tourism. Furthermore, many tourists are from India, China, and East Asia.
Ways and means
In this economic context, ways and means have to be found to strengthen the country’s external reserves. International assistance would undoubtedly be needed to tide over the current international setbacks.
Recapitulation
Although the details of the repayment of the restructured foreign debt obligations are yet unknown, indications are that this year’s foreign debt repayment obligations would be in the region of US$ 6 billion. This compares with foreign reserves of only US$5 billion at the end of last year.
Therefore, there has to be a significant improvement in the balance of payments to enable foreign debt obligations. However, the current global conditions are hardly conducive to an improvement in the balance of payments and external reserves.
Concluding reflection
Amidst the current state of the economy and global conditions, an erosion of the country’s foreign reserves is likely. Therefore, international assistance would be needed to repay foreign debt obligations and meet the country’s essential import needs.