DDR, CHINA AND THE SLOW- BURN ECONOMIC RECOVERY

Sri Lanka’s domestic debt restructuring (DDR) is impacting worker savings in pension funds disproportionately, according to a recent analysis by the Institute of Policy Studies – titled Sri Lanka’s Debt Restructuring Roadmap: Following the Evidence – authored by its Executive Director Dr Dushni Weerakoon.

The move left out the banking sector, and costs have been directed mainly at workers contributing to the Employers Provident Fund (EPF), managed by the Central Bank of Sri Lanka (CBSL). “Sri Lanka’s DDR treatment effectively showcases the immense influence a sovereign can exert over domestic legal and regulatory frameworks,” the report noted.

Under the DDR terms, pension funds must opt for a 30% haircut or face higher taxation of 30%, up from the prevailing 14%. Despite the challenging economic environment and substantial erosion of savings, EPF savers have been assured only a 9% return in the long term.

The next step is quickly bringing external creditors on board. However, with the inclusion of a DDR, the same treatment, a 30% haircut, is also offered for external debt restructuring (EDR). A complex creditor group and geopolitical wrangling pose potential risks to the sustainability of the debt, especially because China prefers deferral rather than reduction.

The report stressed, “Sri Lanka’s approach to DDR could serve as a test case in the face of ongoing economic recovery.” The nation’s economic output could decelerate its contraction, but a concerning slowdown in net exports, the only positive driver of growth recently, threatens recovery efforts. The IPS report concludes that speed in debt negotiations is crucial for Sri Lanka’s slow burn economic recovery.

Domestic debt restructuring is a tricky business. Governments often opt to shield banks as pivotal to maintaining economic stability. Shaky banks, integral to economic functions like lending and payment systems, could trigger a financial crisis. Argentina (2001) and Greece (2010) focused on banking stability in their debt crisis aftermath. On the other hand, superannuation funds, though significant for individuals, do not possess the same systemic risk. However, burdening them could strain retiree incomes, highlighting a tightrope governments walk between maintaining financial stability and securing citizen livelihoods.