Citi Says Sri Lanka Needs Debt Restructuring as Signaled by IMF

(Bloomberg) -- Sri Lanka will have to undergo debt restructuring as strongly suggested by the International Monetary Fund in order to secure financing from creditors, according to Citigroup Global Markets.

The prescription follows IMF’s observation that fiscal consolidation efforts alone to pare debt to safe levels would be too large to be economically and politically feasible. While the IMF didn’t specify what a safe level is, Citi sees reduction to a 79.7% public debt ratio witnessed between 2010-18 as a good benchmark from 119% level last year.

“The government will likely need to secure private creditor participation in debt reduction,” Johanna Chua, chief economist for Asia Pacific at Citigroup, wrote in a report to clients.

While the South Asian nation has already allowed its exchange rate to weaken and raised borrowing costs, Citi sees room for more policy tightening given low interest rates throughout the pandemic led to an import boom. That added to pressure on an economy that was turning fragile after Covid cut-off foreign exchange earnings from tourism, even as reserves were running out on account of debt repayment, including $500 million in January. 

In its Article IV consultation report released Friday, the IMF said Sri Lanka faces “solvency” issues. Its “debt overhang” will  impede growth and threaten its macroeconomic stability.

Sri Lanka will also need fiscal/macro adjustments and divestments, in order to mobilize sufficient financing from official sources, including the IMF, Citi’s Chua said.

Citi’s estimate of a 10% principal haircut, up to 20-year maturity extension and 42-28% coupon cut may now be “too conservative” as the public debt ratio has worsened and the local currency has depreciated more than expected, she said.

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