Anura Kumara Dissanayake’s Challenges: Reviving Sri Lanka’s Economy and Strengthening Relations with India

By Gadde Omprasad

Anura Kumara Dissanayake’s (AKD) election as President of Sri Lanka comes at a critical juncture for the country, raising pertinent questions about his approach to addressing the nation’s pressing economic challenges and managing its foreign relations, particularly with India. Sri Lanka is still recovering from a severe economic crisis, marked by inflation, rising debt, and unemployment, despite some signs of stability and growth. Understanding the current economic situation is crucial to evaluating how AKD will navigate these issues and what his leadership might mean for Sri Lanka’s future trajectory.

As per the latest World Bank estimates, Sri Lanka will record a moderate growth rate of about 2.2 per cent in 2024 after a serious economic problem in the last two years, which indicates a steady recovery. This growth rate is expected to continue at 2.5 per cent in 2025. However, the country still needs to control inflation and create employment opportunities as the economic downfall has pushed more than 27 per cent of its population into the below-poverty line category. The covid 19 pandemic and the subsequent economic chaos have resulted in closing down many Micro, Mini and Small scale enterprises (MSMEs), which particularly employ women workforce. This sector accommodates about 25 to 30 per cent of the total women workforce in Sri Lanka, which constitutes about 35 per cent of the labour market. Small and medium-sized enterprises (SMEs) form a significant portion of Sri Lanka’s economy, with over one million SMEs representing nearly 75 per cent of all businesses. Spread across various sectors, these enterprises are estimated to contribute around 45 per cent of total employment in the country. Many of these enterprises, especially those dependent on imports or exporting markets, were affected by high inflation rates, fuel shortages, and disruptions in supply chains, resulting in increased operational costs, reduction in demand and job losses. Though the unemployment rate has been gradually reduced from about 6 per cent two years ago to about 4.5 per cent at the end of the first quarter this year, it still needs to get back to the earlier times.

The country has recorded a steady improvement in its foreign exchange reserves from about 1.8 billion USD during the mass protests and overthrow of the Rajapaksa government in July 2022 to about 5.58 billion USD at the end of July 2024, indicating there has been a positive impact of the measures taken by Ranil Wickremesinghe government. The external debt also has been steadily maintained, if not reduced, from 34.8 billion USD in April 2022 to 37.40 billion USD, as per the figures released by Sri Lanka’s Ministry of Finance. However, these figures would change if we include gross total external debt in current prices from 51.2 billion USD in June 2022 and 55.4 USD at the end of the first quarter. Wickremesinghe government was successful in negotiating with countries like China, India and Japan to restructure the loans up to 10 billion USD and allowing the country to secure bailout packages from international multilateral institutions, which provided it with space to spend on domestic infrastructural projects. Sri Lanka’s current account recorded a surplus of USD 237.2 million in December 2023, indicating stronger external balances. Foreign Direct Investment rose by USD 96.3 million in March 2024, boosting economic growth, while direct investment abroad expanded by USD 7.2 million. Foreign portfolio investment increased by USD 44.9 million, reflecting confidence in Sri Lanka’s markets.

At the same time, inflation rates were under control, from a staggering 60 percent in June 2022 to about 6 percent in January 2024. Given Sri Lanka’s fragile economic situation, even a moderate 6 per cent inflation rate could have deeper impacts on its recovery and overall stability of the economy. Though it looks lower than the hyperinflation recorded earlier, given the country’s economic challenges, which include high debt levels and foreign exchange shortages, the country still continues to suffer from the increased cost of living. Essential goods like food, fuel and medicines have become strained, putting pressure on the lower-income population. To control inflation, the Central Bank of Sri Lanka, in its meeting held on 26 September 2024, just three days after the swearing-in ceremony of AKD, decided to maintain the existing interest rates of 8.25 per cent on deposits and 9.25 per cent on lending. This can encourage savings due to the relatively attractive return for depositors, but it may make borrowing expensive, discouraging both consumer spending and business investment. While these rates might help control inflation by reducing demand for credit, they can also slow economic growth as businesses face higher borrowing costs. The narrow margin between deposit and lending rates suggests limited profitability for banks, potentially affecting their ability to expand credit.

While AKDs party adopted a hardline against India in the past, the new government will not be able to adopt a similar policy. India has emerged as Sri Lanka’s important foreign aid contributor. During the economic crisis India assisted Sri Lanka with more than 4 billion USD, a figure higher than IMF and China. India and Sri Lanka are also part of the India-Sri Lanka Free Trade Agreement (ISFTA). The trade volume between the two countries has been consistently in between 4 to 6 billion USD largely skewing towards India with about 2.6 billion USD. More than 52 per cent of India’s exports to Sri Lanka are essential items, including fuels, cotton, pharmaceuticals, fabrics, sugar and boats. India is one of Sri Lanka’s largest trading partners, playing a significant role in Sri Lanka’s exports. Key exports from Sri Lanka to India include textiles, rubber products, spices, and tea. Given the nature, structure and proximity of India to Sri Lanka, it is imperative for the new government to maintain and strengthen friendly relations between the two countries.

As Sri Lanka embarks on a new chapter under AKD’s leadership, his ability to strike a balance between domestic economic reforms and effective foreign relations, particularly with India, will be of utmost importance. Though he promised to renegotiate with IMF for a better deal for the 2.9 billion USD package, given the hardline IMF historically adopted, it’s not going to be easy. With India’s significant role as both a trade partner and a provider of financial aid, maintaining and strengthening bilateral ties will be crucial for Sri Lanka’s economic stability. The new government’s policies, especially towards India, will thus shape not only its political trajectory but also its prospects for economic recovery and growth.

Gadde Omprasad is an Associate Professor at the Centre for South Asian Studies, School of International Studies, Jawaharlal Nehru University, New Delhi. The views expressed here are personal.