What triggered the economic catastrophe in Sri Lanka?

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admin November 4, 2021
Updated 2021/11/05 at 6:03 AM

In the face of rising food costs, a sinking currency, and fast dwindling foreign exchange reserves, Sri Lanka’s government declared an economic emergency. President Gotabaya Rajapaksa has called in the army to help handle the issue by rationing vital items.

Why is Sri Lanka’s economy in such a bad state?

The coronavirus epidemic has wreaked havoc on the tourist industry, which accounts for about 10% of the country’s GDP and generates foreign money. As a result, foreign exchange reserves have fallen from over $7.5 billion in 2019 to about $2.8 billion in July 2021. The amount of money that Sri Lankans have had to spend to acquire the foreign exchange needed to import products has increased as the supply of foreign exchange has decreased. As a result, the Sri Lankan rupee has lost roughly 8% of its value so far this year. Even basic food supplies are highly reliant on imports in Sri Lanka. As a result, the cost of food has grown in line with the depreciation of the Sri Lankan rupee. The government’s restriction on the use of artificial fertilisers in agriculture (in order to make the country completely organic) has exacerbated the issue by lowering agricultural output. The compulsory transition to organic farming is expected to halve tea and other crop production, resulting in an even greater food crisis than the current one.

What is the government’s plan to cope with the crisis?

The Sri Lankan government has accused speculators for the spike in food prices, blaming them for stockpiling vital supplies and declaring an economic emergency under the Public Security Ordinance. The army’s mission is to seize food supplies from dealers and distribute them to customers at reasonable prices. It has also been granted the authority to guarantee that currency reserves are only utilised to buy necessities. The government has refused to back down from its strong campaign for 100% organic farming, arguing that the short-term costs will be offset by the long-term advantages. It has also offered to provide organic fertilisers to farmers as an alternative. Furthermore, in early 2021, Sri Lanka’s central bank made it illegal for dealers to exchange more than 200 Sri Lankan rupees for an American dollar, as well as to participate into forward currency contracts.

Will the government’s approach to the crisis be beneficial to the economy?

The President’s push to turn all of Sri Lanka’s agriculture organic is expected to result in a major reduction in local food output and a further increase in costs. Furthermore, the government’s numerous measures to address the issue may exacerbate the problem. Food price caps, for example, might result in severe shortages if demand exceeds supply at the government-set price. Due to growing shortages, many have already had to line to acquire basic necessities. Army strong-arm tactics can have unexpected repercussions. When merchants’ supplies are confiscated, they have less motivation to introduce new supply to the market. This might lead to a severe shortage of supply and even higher costs for basic necessities.

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