Sri Lanka faces a likely collapse in tourism following Easter Sunday bomb attacks on churches and hotels, which would deal a severe blow to the island’s economy and financial markets, and potentially force it to seek further IMF assistance.
The International Monetary Fund extended last month a $1.5 billion loan for an extra year into 2020, a key step in keeping foreign investors involved in what so far this year has been a top-performing frontier debt market.
But with growth, and therefore state revenues, now likely to slow significantly, the budget targets agreed with the IMF may have to be reviewed, and the government is expected to resist pressure for any spending cuts before elections expected later this year.
There is even a possibility that more IMF money may be needed if foreign investment falls, adding to the hard currency gap left by plunging tourism receipts.
“If growth slows a lot more and the budget deficit assumptions need to be reassessed, then they’ll have to sit down and negotiate something more feasible,” said Alex Holmes, Asia economist at Capital Economics.
The Sri Lankan stock index dived 2.6 percent on Tuesday in its first day of trading after the attacks that killed more than 300 people, while the heavily-managed rupee held steady.
Tourism is Sri Lanka’s third-largest and fastest growing source of foreign currency, after remittances and garment exports, accounting for almost $4.4 billion or 4.9 percent of gross domestic product (GDP) in 2018.
A fall in tourism receipts is bound to weaken the rupee over time. The central bank, whose coffers are too light to defend the currency through interventions, is likely to have to raise interest rates.
This, in turn, would choke lending, hurting consumers and the investment plans of local businesses, while also making it more costly for the government to seek funding from foreign investors via bond markets.
“The central bank may be forced to hike rates again this year,” said Win Thin, global head of currency strategy at Brown Brothers Harriman (BBH).
“With foreign reserves very low right now, the central bank cannot actively support the rupee.”
After falling 16 percent against the US dollar last year to record lows, the rupee had gained 4.6 percent this year as of last week.
Sri Lankan bonds have been among the best performing globally, only bettered by Argentina and Chile. But the main stock index has lost about 10 percent.