“Sri Lanka’s performance under the programme was satisfactory,” said International Monetary Fund (IMF) Senior Mission Chief to Sri Lanka Peter Breuer, speaking at the press briefing following the completion of the first review of the Extended Fund Facility (EFF) in December last year.
Sri Lanka met all of the IMF’s quantitative performance criteria for end-June 2023, except the one on expenditure arrears, while all indicative targets were met, except the one on tax revenues. Most structural benchmarks were either met or implemented with delay by end-October 2023.
“These macroeconomic policy reforms are starting to bear fruit and the economy is showing signs of stabilisation, with rapid disinflation, significant revenue-based fiscal adjustment, and reserves build-up,” Breuer said.
But Sri Lanka is yet to face its toughest challenge in the second review to be held in March in terms of newly-added commitments and completing the most important debt restructuring after two years of talks.
IMF prog. commitments for second review
Speaking to The Sunday Morning, Verité Research Lead Economist Raj Prabu Rajakulendran said that some of the commitments which had been extended after the first review included the estimating and publishing of direct costs imposed by tax incentives granted under the Strategic Development Projects Act and Board of Investment Act and the introduction of automatic indexation of all excise taxes to inflation, all of which were supposed to be completed in January.
According to him, another commitment that had been extended was the publishing of implementation plans for the Anti-Corruption Act by December 2023. “These are three main commitments that were not fulfilled earlier and their deadlines have been extended,” he said.
Other commitments that have received extended deadlines, according to the IMF staff report released after the first review, are on the submission of a new public financial management law that was pushed from December 2023 to the end of February.
Completion of the rollout of the Integrated Treasury Management Information System (ITMIS), expanding its coverage to all 220 heads (national Budget execution agencies) has been extended to end-March from its original deadline of end-September 2023.
Cabinet and Parliament approval for a full revision of the Banking Act in consultation with IMF staff has been extended to end-January from end-December 2023.
The IMF tracker by Verité Research showed that Sri Lanka had ‘met’ (with some delays) 60 of the 73 commitments due by end-November 2023. The 13 remaining commitments were ‘not met’. Of these 13, eight have been carried forward into the second term, or the period leading up to the second review. Five were irreversibly ‘not met’ and, therefore, cannot be carried forward.
New IMF commitments
Moreover, Rajakulendran said that 75 new commitments had been added after the completion of the first review in December.
Therefore, in addition to these 35 commitments (27 remaining initial commitments plus eight carried forward), with these new 75 commitments, the second term began with 110 commitments ‘pending’ on Sri Lanka’s IMF programme.
“This is the general way the IMF programme happens as it is a constantly-evolving programme. They usually set structural benchmarks until the next review; they don’t set all of the commitments in one,” he said.
He said that based on Sri Lanka’s performance in the first review in terms of meeting the commitments, the IMF then sets the next set of commitments for the next review.
Accordingly, some of the new commitments the IMF has imposed on Sri Lanka include the anti-corruption commission publishing the asset declarations for senior Government officials by July and publication of a Government action plan for implementing recommendations in the Governance Diagnostic report by the end of February.
The Government and Central Bank developing a detailed recapitalisation plan for the remaining four banks by end-February and enacting a comprehensive asset recovery law to harmonise it with the United Nations Convention Against Corruption in consultation with IMF staff by end-April are also some of the new commitments of the EFF.
Rajakulendran also said that the IMF wanted an in-principle agreement with the private creditors from Sri Lanka before the second review.
External debt restructuring
Sri Lanka was able to get in-principle agreements with its official creditors, including the Official Creditor Committee (OCC) led by India and Paris Club and China last year.
In October, China’s Export-Import Bank (EXIM) agreed to a preliminary deal to restructure $ 4.2 billion after extensive discussions as China wanted equal burden-sharing among creditors and was not keen on adhering to the Debt Sustainability Analysis (DSA) targets of the IMF.
In November the OCC agreed in principle to restructure $ 5.9 billion while the Finance Ministry said that the next steps would include finalising similar agreements with the remaining official bilateral creditors, including Saudi Arabia, Pakistan, Kuwait, and Iran, altogether representing a further $ 274 million of outstanding claims.
However, in October, Sri Lanka rejected a proposal by an ad hoc group of bondholders, organised by advisers including Rothschild & Co. which submitted a proposal to Sri Lanka that included taking a 20% haircut and issuance of new debt, including a so-called macro-linked bond.
The statement released by the Finance Ministry rejecting the bondholders’ proposal said that Sri Lanka invited the bondholder group to further engage with the country’s debt advisors under existing Non-Disclosure Agreements (NDAs) to move the matter forward in a reasonable and viable way.
In January, in an interview with TV Derana, State Minister of Finance Shehan Semasinghe said that it was uncertain whether an agreement in principle could be reached with the bondholders in time for the second IMF review in March but said that all requirements were expected to be completed by the time of the third disbursement.
He said Sri Lanka hoped to sign Memoranda of Understanding (MoUs) within the first quarter (Q1) with the official creditors, with whom Sri Lanka had already reached an agreement in principle.
Noting that the discussions with the bondholders were a “very complex” process, he said that therefore it could not be said that those discussions had been delayed. “In some instances, they said that they were ready at that moment [to complete the restructuring], but due to the policy of comparable treatment among creditors, we held back,” Semasinghe added.
Moreover, Financial Times reported quoting sources that debt negotiations with bondholders had not seen any significant progress since December even after the bondholders’ committee that included fund firms BlackRock and Amundi had complained about the lack of transparency and substantive engagement.
Accordingly, the people familiar with the bondholders’ thinking have told Financial Times that there has been no ‘real’ progress even after statements by the bondholders’ committee on the lack of transparency and substantial engagement, citing a lack of feedback from the Government of Sri Lanka about proposals on how to restructure the bonds.
The committee complained of “a significant lack of transparency” from Government creditors about details of the terms that they offered Sri Lanka as bondholders were looking for more details in order to formulate their own debt relief proposal.
However, at an event held last week by the Ceylon Chamber of Commerce (CCC), Central Bank Governor Dr. Nandalal Weerasinghe said that Sri Lanka would not agree with any debt relief proposal from bondholders that was not consistent with IMF’s DSA targets. “I don’t think we are going to agree to any solution that will not restore debt sustainability,” he said.
“We have been working very closely with them [private creditors]; there is already a lot of speculation in the market. I don’t think it is appropriate to comment on the speculation, but all I can say is that we are working in a very transparent and open manner and we have already announced the relief we want from commercial creditors,” Dr. Weerasinghe added.
Proposal by bondholders unrealistic
In response to an email query by The Sunday Morning, US-based independent think tank Council on Foreign Relations (CFR) Senior Fellow and former official of the Treasury Department Brad Setser said that Sri Lanka’s bondholders had not presented a realistic restructuring proposal to the authorities.
He said that the IMF’s constraints in Sri Lanka’s case were not very demanding, so there was ample space to work out a deal. “I actually hope Sri Lanka insists on a better deal than what the IMF requires – as the IMF’s parameters will leave Sri Lanka with far too much debt relative to its revenues and its export base,” he added.
Setser, who specialises in sovereign debt restructuring, said the proposal presented by the private creditors was not sufficient to achieve what Sri Lanka wanted. “The proposal would have significantly added to, not reduced, Sri Lanka’s debt burden,” he said, adding that the 20% reduction proposed was on the face value of the bonds but that Sri Lanka would have had to pay the missed interest on its old bonds, resulting in the country owing a lot more than the face value of the old bonds.
Moreover, he said that the interest on the new bonds would have been capitalised during the years of the IMF programme, which meant that the face value of the bonds would ratchet back up.
“In most scenarios, for the evolution of Sri Lanka’s GDP, the proposed new bonds would have had a much higher interest rate than the old bonds. It simply wasn’t a viable deal. And frankly, the macro linkage wasn’t symmetric and didn’t help mitigate any real risk – it simply assured that the coupon on the bonds would rise rapidly as Sri Lanka’s economy recovered,” he said.
Govt.’s March target for debt deal not possible
Responding to the Government’s target of March for the in-principle agreement with private creditors, Setser said that there had been no indications that a deal was close, although there may be more progress being made behind the scenes. “As of now, I wouldn’t expect the outline of a deal by March,” he noted.
Further, he said that the ball was mostly in the court of the bondholders to put a more realistic proposal on the table as the basic IMF parameters weren’t that complicated: “There needs to be agreement on the haircut of the face value of the existing bonds, on the new coupon, and when the new bonds come due and have to be refinanced.”
He added that there also needed to be an agreement on the treatment of ‘past due interest’ and, according to his calculations, the IMF’s parameters did not require any face value debt reduction as long as the coupon on the bonds stayed at around 6% and the bonds did not all mature between 2028 and 2032.
Banks seeking exemption from ISB restructure?
Speaking to The Sunday Morning, Attorney-at-Law Manjuka Fernandopulle, a lawyer specialising in sovereign debt restructuring and complex capital market transactions, said that banks were trying to get their ISBs paid in rupees or get exempted from the restructuring as in the Domestic Debt Optimisation (DDO).
“My understanding is that the banks were trying to get exempted from the ISB restructure. They have been advocating quite publicly either to get paid in rupees or to get exempted from the restructure like in the DDO,” he said.
However, he said such an exemption was unlikely since the foreign bondholders would not like it. Nevertheless, he said that the fundamental problem was that the Government had not given proposals to foreign bondholders.
Fernandopulle said that when private creditors met Sri Lankan Government representatives at the World Bank and IMF spring meetings in Marrakesh, private creditors had indicated what they wanted.
“The concrete proposal by the bondholders was rejected by the Government and the response was that it would get back but nothing has come back; there are no talks with the creditors and the Government,” he added.
On the possibility of the IMF team that will be in Sri Lanka soon helping the Government with the proposal to the private creditors, he said that although the IMF did not get directly involved in debt restructuring negotiations, there was a possibility that the Government was trying to road test its proposal while being solely reliant on the IMF and the advisors to get its act together.
Earlier this week it was announced that an IMF capacity development mission would be in Sri Lanka to provide technical assistance on fiscal issues at the request of the Government, which will be different from the programme review missions.
Restructuring 12 series of ISBs not easy
Fernandopulle said the Government should understand that private creditors were not one set as the official creditors and building up of consensus was required since restructuring 12 series of ISBs was not easy.
“I was told that until that consensus, you need another actor involved in it, another investment bank, and another set of lawyers because Sri Lanka has 12 series of ISBs to be restructured,” he said.
He added that other debt restructuring examples such as that undertaken in Zambia had only one or two series of ISBs while Sri Lanka had 12 and it was not an easy task to get all restructured.
He also noted that bondholders had no incentive to come to an agreement with a government that may not be in power in six months’ time. “I think the Government is underestimating the private creditors very much, as without the private creditors Sri Lanka’s recovery will be halted.”
When contacted by The Sunday Morning, State Ministers of Finance Shehan Semasinghe and Ranjith Siyambalapitiya declined to comment on the key reforms Sri Lanka should complete prior to the second review of the IMF.