Connect with us

Business

Can Debt-for-Climate and Nature Swaps help make Sri Lanka’s debt more manageable?

Published

on

Lakmini Fernando is a Research Fellow at IPS with primary research interest in Development Economics, Public Finance and Climate Change. She has expertise in econometric data analysis, research design and causal methodologies. Lakmini holds a BSc in Agriculture from the University of Peradeniya, a Master of Development Economics (Advanced) from the University of Queensland, Australia and a PhD in Economics from the University of Adelaide, Australia.

Sunimalee Madurawala is a Research Economist at the Institute of Policy Studies of Sri Lanka (IPS). She has over 15 years of research experience in the areas of gender, health economics and population studies. Sunimalee holds a BA (Economics Special) degree with a first-class and a Masters in Economics (MEcon) degree from the University of Colombo, Sri Lanka.

By Dr Lakmini Fernando and Sunimalee Madurawala

Sri Lanka’s economic crisis, fuelled by unsustainable debt and a default in 2022, left the country struggling to stabilise its economy. Its high climate vulnerability that disrupts livelihoods exacerbated the economic challenges. In the face of dual pressures from an economic crisis and climate vulnerability, the need for alternative approaches to financial recovery has never been more urgent. Therefore, debt-for-climate-and-nature (DfCN) swaps could be a possible option to lower the financial burden while addressing climate challenges.

The Need for Alternative Financing Options in Sri Lanka

Sri Lanka was forced to default on its external debt and seek a USD 3 billion bailout from the International Monetary Fund (IMF) in March 2023. Its total debt stock stood at USD 92 billion, with 40% being external debt in 2023. Sri Lanka’s debt portfolio is complex and its outstanding debt to China and India accounted for 18% of total external debt (59% of bilateral loans) in September 2022 (Figure 1). Amidst the conclusion of debt restructuring, Sri Lanka might benefit by opening to alternative financial instruments.

DfCN Swaps as an Alternative

DfCN swaps are a sovereign debt restructuring tool that helps (partial) restructuring of external debt in exchange for domestic investment in climate action. Well-designed DfCN swaps provide debtor countries the fiscal space to invest in climate adaptation and biodiversity sustainability.

With unsustainable debt and climate change identified as pressing issues for developing countries, Sri Lanka emerges as a priority country for DfCN swaps. Earlier, DfCN swaps followed a ‘piecemeal approach’ – implementing smaller, uncoordinated projects and managing funds through extrabudgetary channels. In contrast, recent swaps follow a ‘systematic approach’ – focusing on broader programmes instead of individual projects and providing budget support by channelling funds directly into debtor countries’ national budgets. This approach makes DfCN swaps more effective by mobilising larger amounts of funds, increasing debtor governments’ accountability, linking payments to performance, and aligning Nationally Determined Contributions (NDCs) and National Biodiversity Strategies and Action Plans (NBSAPs) in target setting.

Global Context and Debt Swap Options for Sri Lanka

DfCN swaps was first introduced in 1984 in response to the deteriorating tropical rain forests and mounting debt obligations in Latin America. Since then, many countries have adopted DfCN swaps to address both financial and environmental challenges.

In 2002, the United States (US) engaged in a bilateral swap with Peru, subsidised by NGOs such as The Nature Conservancy (TNC),

to protect over 1 million hectares of wilderness areas. The US has also engaged in similar swaps with Guatemala and Indonesia to protect tropical forests.

In 2015, Seychelles, pioneered a Blue Economy debt for nature swaps, converting USD 21.6 million of sovereign debt with Paris Club creditors to fund marine conservation. This is considered the world’s first debt swap for ocean conservation and climate adaptation.

Belize engaged in a ‘tripartite blue economy swap’ with the TNC in 2021, which reduced its external debt by 10% of GDP. TNC helped Belize to buy back USD 553 million of national debt borrowed from commercial creditors (30% of GDP) by issuing USD 346 million in blue bonds (10% of GDP). In response, Belize agreed to invest in marine conservation. This deal allows buy back of entire external commercial debt by TNC and Belize to invest USD 4 million annually on marine conservation until 2041 aiming to increase marine-protection parks from 15.9% of its oceans to 30% in 2040. Hence, this deal addresses the triple objectives of restoring debt sustainability, promoting sustainable development and enhancing climate resilience.

In 2023, Ecuador entered into the world’s largest DfCN swap, facilitated by Credit Suisse, buying back USD 1.6 billion of sovereign debt for USD 656 million in new sovereign debt. In return, Ecuador agreed to allocate USD 450 million in long-term marine conservation in the Galápagos Islands. The success of this deal was driven by several key factors: participation of academia, collaboration and consensus among multiple stakeholders including civil society and local governments, an innovative financing model, and government leadership.

The effectiveness of swaps depends on the ability to address several key challenges: political and macroeconomic stability to ensure long-term accomplishment; stable institutional structures to denote stability in planning and implementation; strong regulatory frameworks to cover both financial and environmental obligations; and knowledge/skills on swaps at every level of the public service. Accordingly, the success of DfCN swaps is dependent on the leadership role of debtor governments and a systematic approach in the designing and implementation of swaps.

Debt swaps are determined collectively by the respective parties involved, hence, it is difficult to predict the magnitudes of these swaps. However, following the three criteria proposed by Boland (2023) on the magnitude of debt, type of lending (whether it is a commercial or concessional loans) and interest of the creditors (considering the country’s track record), Sri Lanka may consider the following four creditors for a possible DfCN swap in the future (Table 1).

Way Forward

In addressing the triple challenges of high indebtedness, climate change and loss of nature, DfCN swaps can serve as an effective alternative fiscal instrument for debt-ridden Sri Lanka. Systematic planning and stringent government commitment and all relevant key stakeholders are crucial for its success. Also, addressing knowledge and skill gaps on debt swaps is crucial. With sufficient political and macro-stability, Sri Lanka could be ready to implement DfCN swaps potentially accelerating its economic recovery.



Continue Reading
Click to comment

Leave a Reply

Your email address will not be published. Required fields are marked *

Business

Budget 2025: A spectrum of reactions and perspectives

Published

on

By Sanath Nanayakkare

The 2025 Government Budget has begun to attract multiple comments from the corporate sector, academics, the government ranks and the Opposition. Reproduced below are a few of them.

First Capital Research’s analysts pointed out that the budget heavily leant towards social welfare and infrastructure development significantly increasing government expenditure.

“The already announced tax revenue measures and the digitalization drive are expected to boost Government Revenue allowing the Budget Deficit to be contained at 6.7% of GDP. A significant portion of increased government spending has been directed towards social spending with increased public sector salaries and pensions, coupled with higher allocation for assistance programs such as Aswesuma and other additional social benefits. While this ensures financial relief for many households, it also influences overall economic behavior in ways that will be felt across society. Efforts have also been made to support the lagging economy via public investments with spending targeted towards road construction, water projects, housing and city developments,” First Capital said.

“Despite the extravagant spending increases, a substantial increase in revenue is also planned with bulk of the revenue increase expected from taxes on vehicles while VAT on digital services, the imposition of corporate income tax on the export of services, and an increase in the corporate tax on cigarettes/liquor, and gaming is expected support to achieve the target. Further support is anticipated via digitalization and the expansion in the economy where the Government expects to provide a boost through spending on infrastructure, with the aim to balance spending with fiscal discipline while fostering long-term economic stability,” First Capital noted.

Government

“The Opposition was helpless when the President presented a progressive budget that brings good times for the people of this country. It was the most successful budget when looking back at the budgets presented in the past few decades,” Deputy Minister of Fisheries Ratna Gamage said.

“The government has delivered the best salary increments for state employees. The basic salaries of all state employees have increased across the board in significant amounts. Deputy Minister of Labour, Mahinda Jayasinghe said.

Academics

“Sri Lanka needs new technology-driven production economy. For that the contribution of the private sector is needed. The budget has not focused on that aspect,” Economist Professor Wasantha Athukorale said.

“There is some risk emanating from the increase of state employee salaries which will cost Rs. 300 billion within the next three years. This is more than what is collected from PAYEE tax. Dhananath Fernando of Advocata said.

Opposition

“The Budget represented the voice of the IMF, the sovereign bondholders and the scam-laden super-rich,” Peratugami Activist Pubudu Jayagoda said.

“The Budget presented by President Anura Kumara Dissanayake was the mother of all deceptions”, SLPP General Secretary Sagara Kariyawasam said.

“When state employees get their salary in April, they will realize that they have been taken for a ride by the government, SJB MP Marikkar said.

Janasetha Peramuna leader Ven. Baththaramulle Seelarathan said the government which came to power through the massive support of Buddhist monks., has not made an allocation in the budget for enhancing the quality of education at Pirivenas although other areas of education had allocations.”

Udaya Gammanpila , Leader, Pivithuru Hela Urumaya said that they have identified 12 projects that no allocations were set apart for, through the budget.

Referring to a popular verse about wearing someone else’s pants and strutting about, Gammanpila said,” “The essence of the Budget reveals that the President is confidently adopting Ranil Wickremesinghe’s policies as if they were his own.

Continue Reading

Business

‘Dependence on solar panels hindering national power grid stability’

Published

on

By Ifham Nizam

As Sri Lanka accelerates its transition to renewable energy, particularly through the widespread adoption of rooftop solar installations, it is encountering significant hurdles in maintaining the stability of its national power grid.

While the country’s commitment to sustainability aligns with global trends, the increasing reliance on intermittent sources like solar energy has introduced complex challenges, especially during periods of low industrial demand such as weekends and holidays.

A senior electrical engineer, speaking to The Island Financial Review, raised alarm over the escalating frequency fluctuations and instability in the power system, particularly on sunny Sundays when energy demand plummets. The high penetration of non-despatchable renewable energy (NCRE), such as solar power, has reduced system inertia, putting the grid at a heightened risk of failure during these low-demand periods.

He said one critical example was on September 22, 2024, when the national grid registered its lowest demand of 670 MW at 10:53 AM. To keep the grid stable, the Ceylon Electricity Board (CEB) had to curtail 160 MW of solar power and other NCRE sources between 10:00 AM and 3:00 PM. This action was taken to elevate the grid demand to 820 MW, thus ensuring the dispatch of higher-inertia power plants that provide more stability.

Despite these efforts, the CEB has warned that continued low demand could lead to more frequent instances of under-frequency load shedding (UFLS). In extreme cases, the instability could even result in the tripping of large thermal power plants, such as the Lakvijaya Power Plant in Norochcholai.

The CEB has identified a series of interventions aimed at mitigating these risks and ensuring the power grid remains stable:

New Tariff Structures for Industries: The CEB proposes incentivized electricity rates for industries during weekends and holidays to encourage higher electricity consumption, helping to balance demand fluctuations.

Hydropower as a Stability Solution: Large hydroelectric plants, including Victoria, Kothmale, and Samanalawewa, could be operated in synchronous condenser mode, which would allow them to provide reactive power support without generating electricity, bolstering grid stability.

Gas Turbine Generators for Inertia Support: The operation of the Kelanitissa Gas Turbine 7, with its high inertia, in synchronous condenser mode is being considered to provide further grid stability.

Fast Frequency Response and Energy Storage: Investments in energy storage technologies such as battery energy storage systems (BESS), flywheel storage, and fast-acting gas turbines are seen as critical for stabilizing frequency fluctuations quickly.

NCRE Control Desk Implementation: A dedicated monitoring and forecasting unit for renewable energy generation will help to manage the fluctuating supply of renewable energy more effectively.

Review of Spinning Reserve Requirements: The CEB is reassessing the adequacy of the current hot spinning reserve of 5%, considering the growing proportion of renewable energy on the grid.

Regulatory Framework for NCRE Curtailments: The establishment of a regulatory mechanism to control the dispatch of renewable energy, particularly from plants larger than 5 MW, will be essential in ensuring grid stability.

Optimization of Power Plant Operations: The CEB is exploring ways to optimize the operations of hydro and thermal power plants, particularly concerning their minimum operating power levels and ramp rates, to increase the overall inertia of the system.

Continue Reading

Business

Sri Lanka Bank’s Association welcomes budget as “Positive,” stresses importance of implementation

Published

on

Sri Lanka’s banks have welcomed the maiden budget of the new government, describing it as “positive” and one that seeks to maintain policy consistency, especially on the fiscal path.

In a statement, the Sri Lanka Banks’ Association (SLBA), which represents all licensed banks in Sri Lanka, commended the budget proposals presented to Parliament by President Anura Kumara Dissanayake in his capacity as Minister of Finance, Planning and Economic Development.

In particular, the SLBA commended the budget’s emphasis on digitization, the proposed establishment of Credit Guarantee Institute for Small and Medium Enterprises (SMEs), and the focus on export orientation, and said the key to achieving the envisaged outcomes would be effective and consistent implementation of the proposals in both “letter and spirit.”

Pointing out that the banking sector contributed about 10% of government revenues in 2024 and continues to play a significant role in the growth agenda of the country, the SLBA said the country’s banks remain committed to supporting the implementation of the proposals in the budget.

The Association noted that Point-of-Sale (POS) machines at every VAT registered business entity would lead to transparent business transactions in digitized form, reducing the use of physical cash, and that this would result in a greater percentage of cash-flows being captured in the banking channels.

“Increased digitalization of the financial economy would also increase investments from the financial institutions into digital infrastructure to drive online transactions, tighten anti-money laundering procedures, improve surveillance, and control cyber-crime,” the SLBA said.

It said the establishment of a credible Credit Guarantee Institute for the SMEs and establishing a development bank through the infrastructure of an existing state bank are positive steps that should enhance the segment’s capacity to secure credit and improve the quality of its relationship with the banking sector.

Continue Reading

Trending