International rating agency, Standard & Poor’s downgraded Sri Lanka’s credit rating to B, five levels below investment grade, citing mounting public debt and political and security concerns.
The announcement comes shortly after the government comfortably won a budget including raising external borrowing by 25%. Sri Lanka’s external debt amounted to $12 billion at the end of 2007, almost 40 percent of gross domestic product, according to the central bank.
The lower credit rating will make it more expensive and difficult for the island nation to borrow from international financial markets to fund expenses.
“Pressure on borrowing costs in Sri Lanka will rise,” and “Growth will suffer” said Gehan Rajapakse, general manager at Eagle NDB Co., the nation’s biggest mutual fund company.
Sri Lanka, weighed down by the cost of its military campaign against the Liberation Tigers of Tamil Eelam (LTTE), needs $2.1 billion in foreign borrowing for 2009, out of which $500 million would be on commercial terms. It also has to repay $1 billion on its external borrowings in 2009.
Standard & Poor’s said Sri Lanka’s debt-to-revenue ratio at an estimated 440 percent “highlights the high level of indebtedness and the relatively low fiscal resource base available to service it”.
“The ratings on Sri Lanka reflect high government and external indebtedness, weak revenue mobilization, political and security concerns, rising balance of payments pressures and the resultant decrease in foreign reserve cushion,”
“In the unfolding environment of slowing economic growth, unfavorable global economic and financial market conditions, it increases the stress on Sri Lanka’s debt service.”
Central Bank of Sri Lanka responded to the rating cut by declaring that Standard & Poor’s revised sovereign rating of Sri Lanka was misleading and that comments made about the country’s macroeconomic fundamentals were factually incorrect, logically untenable and grossly misleading.
According to Reuters, in the current scenario has limited options to pursue to raise funds. They are:
More Bilateral Loans
Sri Lanka can negotiate for more bilateral loans, especially from India, China and other friendly countries. But analysts expect it to get those on commercial terms instead of the current concessionary rates. Analysts also expect the government to strike a deal with Middle Eastern countries led by Iran to win postponements in payments for oil.
Sri Lanka could ensure maximum use of funds from donor agencies like the World Bank and Asian Development Bank for development projects. Analysts say that, in the past, Sri Lanka has not used concessionary loans allocated by the World Bank and ADB in full because of a lack of sound projects.
IMF Bailout
Most analysts and economists say Sri Lanka could seek conditional funding from the International Monetary Fund (IMF) for around $2 billion. But that is viewed as a last resort. The central bank has said the government would never apply for an IMF loan unless the international lender accepts the island nation's economic plans as they are.
But many analysts say the central bank's decision to depreciate the rupee was a move to bring it in line with one of the IMF's requirements for funding. The bank has said it allowed depreciation to help exporters.
Re-attracting Foreign Investors
Foreign investors in Sri Lanka's T-bill and T-bond markets, where returns are around 20 percent, withdrew in the face of the global financial crisis and over-valued rupee. If the central bank could ensure a stable rupee and attractive returns, foreign investors could come back.
But analysts said the ultimate outcome of an oil hedging deal, in which the supreme court suspended payments owed by the government to the five banks involved, will be critical in giving a signal to investors.
