Debt restructuring: JDX collapse offers Sri Lanka a lesson

Although Sri Lanka is in the process of nearing the end of its external debt restructuring process, unlike that of Jamaica’s during its first domestic debt restructuring process (JDX) – the failures of JDX offers a lesson to Sri Lanka on the risks of wage bill slippage, SOE debt assumptions and slow growth, First Capital Research said in its recent Economic Update report.  

“While the JDX reduced the interest bill by about 3.5% of GDP, this “breathing room” was quickly consumed by slippages in public sector wage costs,” the report said, referring to the lack of fiscal discipline maintained in the middle of its 27 month IMF Stand-By Arrangement.

“The Government failed to meet its primary balance target for 2011 (5.3% of GDP) as the primary balance shrunk to 3.1% of GDP,” the report stated, explaining the background to the fiscal slippage which occurred.

Further, the report detailed the takeover of State-Owned Enterprise (SOE) debt: “In 2010, the Government took over the debt of several large State-owned enterprises to facilitate the gradual privatisation of these entities. Moreover, throughout 2010, the Government also recorded previously unrecorded ‘skeleton’ debts and issued debt to settle interest arrears to the Bank of Jamaica.”

“The Government continued to guarantee loans for public entities, which further inflated the debt burden. By 2012, government-guaranteed debt had risen to approximately 9.0% of total public debt.”

Lastly, the report added that stagnation in growth, brought on by limited capital investment, subdued export demand and stifled private sector growth as further reason for the failure of the first debt restructuring process that had begun in January of 2010, and further economic shrinkage. 

“Constrained capital infusion, weak external demand for Jamaican exports and crowding out hindered economic growth. In fact, in 2012 the Jamaican economy shrank by 0.6%”

“The report reasoned that Jamaica’s first debt restructuring process – a par exchange with no principal haircut – did not reduce the amount of money owed, as it had resorted to lowering interest rates and extending its loan repayment term, in addition to the Government overspending and slow growth.”

“The JDX did not include a principal haircut. Reduced rates and extended maturities did little to address Jamaica’s debt woes, especially given their lack of fiscal discipline and economic growth. At the end of 2012, the overall debt stock had inflated beyond its pre-restructuring level, demanding further action.”

However the report states that Sri Lanka, unlike Jamaica, has been capable of redirecting its excess funds towards wealth management, rather than a centralised banking structure, such as Jamaica’s Treasury Single Account.  

“Unlike in Jamaica, Sri Lanka so far has managed to re-direct a large chunk of this surplus cash into the private banking system. This is because most of the Treasury’s cash balances are parked at state banks (while Jamaica had a Treasury Single Account), which is then lent to the private banks through the repo market.”

Nonetheless, it cautioned that Sri Lanka might be on the same path of risks down the line, as its Public Financial Management Act (PFMA) of 2024 mandates the establishment of a TSA, thereby heightening the risk of Sri Lanka mirroring the circumstances experienced by Jamaica post its National Debt Exchange (NDX).

“However, the Public Financial Management Act (PFMA) of 2024, stipulates that Sri Lanka too adopt a Treasury Single Account (TSA). If a TSA is established within the CBSL (similar to Jamaica having one at the Bank of Jamaica), there is a possibility that the transmission of treasury cash surpluses to the financial system will be impaired, hindering private sector credit growth.”

“If this backdrop materialises, Sri Lanka is expected to tread on a similar path to post-NDX Jamaica.”

Sri Lanka’s Ministry of Finance earlier in April announced that its growth projection for Sri Lanka in the year ahead is to moderate at a low 2.9% for 2026, thereby making debt repayment concerns a pressing matter looking ahead.

Source: The morning