Debt ‘reprofiling’ only option for bilateral loans

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Sri Lanka will present proposals for the restructuring of Sri Lanka’s nearly 26 billion dollar foreign debt to bilateral and commercial creditors for the first time on the 23rd (Tomorrow) , with a greater emphasis on China’s responses to Sri Lanka’s debt restructuring measures, a top government official told Finance Today.

He further stated that these presentations will be made online for bilateral and commercial creditors on two separate occasions via financial adviser Lazard and Legal adviser Clifford Chance LLP.

Meanwhile, financial experts from Sri Lanka and outside have stressed to Finance Today that it will be challenging to convince Sri Lanka to agree to give a ‘haircut’ or debt reduction on its bilateral loans.

They emphasised that China’s resistance to doing so is the main factor causing this.

According to sources, Lazard, the financial advisor to Sri Lanka’s debt restructuring process, is confident that the required, minimum 75% consent of external commercial debt holders captured by the Committee of Creditors will agree to one of several scenarios involving a mix of minimum 30 % ‘haircut,’ lower rates, and longer duration on the aggregate $51 billion of external debt owed by Sri Lanka that is not being serviced.

China recently entered into debt restructuring agreements with Ecuador and Zambia, there was no mention of a ‘haircut’.

‘If China does not agree to a ‘haircut’, the same procedure will have to be followed for other bilateral loans,’ experts said.

As a result, these parties stated that the government will need to convince bilateral lenders such as China, India, and Japan to consent to the debt restructuring process in Sri Lanka by implementing debt ‘re-profiling’ measures.

According to analysts, re-profiling is similar to rescheduling in that the period for payments is extended but the debt’s value is not reduced.

It might include, for example, substituting two-year debt for five-year debt, modifying the ‘profile’ of the yield curve and providing the debtor extra time to repay.

Accordingly, they pointed out that in order to achieve debt sustainability in Sri Lanka, measures will have to be taken on bilateral loans based on the Net Present Value (NPV) of debt with longer maturity period and lower interest rates.

According to the IMF, to properly assess and evaluate the debt sustainability of any country, it is important to cover all debt, irrespective of origin, that pose a risk to its public finances.

In accordance with the current discussions with the IMF, the currently high debt ratio (Debt to GDP %) needs to be reduced to a minimum below 100 per cent level from the current 138%, both in the short and medium term, in order for Sri Lanka to achieve the level of debt sustainability it needs. Also, over the next ten years (2023-2032) this key ratio will have to decline to 80 per cent.

Lazard and Clifford Chance will use an IMF/World Bank Debt Sustainability Assessment (DSA) Model to assess the need for debt treatment during this upcoming creditors meetings. They have reportedly been provided with several scenario analyses that include variables such as targeted growth, minimum required debt reduction, composition of debt reduction, etc. on achieving future debt sustainability of Sri Lanka.

For that, economic growth, exchange rate, interest rate, inflation and primary account surpluses should show clear progress.

The key parameters of the treatment will be enshrined in a Memorandum of Understanding (MoU) between the Paris Club Members such as Japan and EU non-Paris Club Members that comprise both India and China.

Sri Lanka may consider restructuring all of its bilateral loans, ISBs, and Treasury Bill/Bond holdings of the Central Bank of Sri Lanka in order to reach its IMF debt sustainability level within the next ten years (2023-2032), global capital market experts, revealed to Finance Today.

They indicated that by 12 April 2022 all outstanding debt obligations in Sri Lanka subject to this classification would indeed be restructured accordingly.

According to already finalised IMF DSA, the IMF has focused primarily on restructuring only the Treasury Bill/Bonds Holdings of the CBSL on the principle that debt should be restructured on an equality basis with the participation of both foreign and local parties in order to achieve debt sustainability in Sri Lanka.

A clarification, sourced from the Government, is required here on the USD 51billion. Total Commercial Debt subject to restructure is put at USD 14.5 billion. It comprises USD 12.5 billion of ISBs issued by Sri Lanka and USD 1.4-2 billion of other debt obtained from commercial lenders such as the Chinese Exim Bank.

Government sources also clarified that the External Public Debt subject to restructuring is put at USD 33.67 billion from which USD 9.38 billion is due to Multilateral Agencies such as World Bank, IMF and ADB.

Such debt, government sources clarified that multilateral loans are not subject to restructuring as they carry mandatory repayment in full and carries no discounts.

It also learnt that all foreign loans taken by Sri Lanka after April 12, as well as all short-term Central Bank swaps and obligations payable to the Asian Clearing Union shall not be restructured under any circumstance.

All local Treasury Bills and Bonds, as well as Sri Lankan Development Bonds (SLDBs), are not subject to restructuring. However, maturing SLDBs are already being settled in local rupees.

Thus, total external debt attributable to the Central Government is USD 24.29 billion to which must be added an amount of USD 1.4 billion being Chinese commercial debt obtained for the plant in Norochcholai thereby increasing it to USD 25.69 billion.

It should be noted that the $25.69 billion excludes commercial debt on the balance sheets of other State-Owned Enterprises.

Of the USD 25.69 billion noted above, 26% amounting to some USD 6.8 billion comprises debt owed to China indicating the size of the grip held by China on Sri Lanka.

According to sources, in order for the IMF Executive Board to approve Sri Lanka’s already announced economic adjustment package, bilateral lenders must support the debt restructuring process 100 per cent.

Sri Lanka has reached a staff-level agreement (formal arrangement) with the IMF, offering access to 2.9 billion dollars over a four-year period. The agreement is a step toward persuading international creditors and investors to return to the country with a sustainable debt level, robust Macroeconomics and governance environment.

By Ishara Gamage