SRI LANKA LIKELY TO REQUEST IMF ASSISTANCE

C O N F I D E N T I A L COLOMBO 000244 DEPT FOR EEB/IFD/OMA, EEB/IFD/ODF, SCA/INS, AND SCA/RA STATE PLS PASS TO E.O. 12958: DECL: 03/04/2019 TAGS: ECON EFIN PGOV CE SUBJECT: SRI LANKA LIKELY TO REQUEST IMF ASSISTANCE REF: A. COLOMBO 215 ¶B. COLOMBO 61 ¶C. COLOMBO 22 ¶D. 08 COLOMBO 943 ¶E. 08 COLOMBO 821 Classified By: Ambassador Robert O. Blake, Reasons 1.4 (d) ¶1. (C) SUMMARY: The GSL appears ready to request IMF assistance to help cope with its otherwise looming economic crisis. IMF officials report that a formal invitation to begin negotiations could come from the government "within a couple of weeks." END SUMMARY It's bad... -------------- ¶2. (C) Sri Lanka's overall macroeconomic outlook continues its downward spiral. Exports and remittances are declining due to the global financial crisis. Attempts to raise foreign exchange through the sale of T-bills and T-bonds to the Diaspora and currency swaps with other governments have not produced the desired results. China and Iran, which the government privately assumed would provide all financial assistance needed, have not -- to our knowledge -- provided any new loans or other funds in recent months. The government is unlikely to raise money through international borrowing due to declining ratings and an overall lack of confidence by investors. Official reserves continue to dwindle, and currently total -- according to sources -- around USD 1.3 billion. (Note: The government requires approximately 800-900 million for loan service payments in 2009.) The trade deficit is rising and the likely forthcoming BOP crisis cannot be ignored. ...and we finally admit it. -------------- ¶3. (C) IMF's Brian J. Aitken, Deputy Division Chief, Asia and Pacific Department and his team arrived in Colombo in late February to undertake technical discussions with the GSL. Aitken reported to the Ambassador and Econ Chief on March 3 that, unlike in previous discussions with the GSL in August (ref e) and October, the government is "no longer officially in denial." He speculated that the government has privately conceded that there are no other alternatives. Central Bank Governor Nivard Cabraal publicly set the stage for a retreat from the GSL's vocal anti-IMF stance, telling Reuters on March 2 that quote if there is an option that the IMF is saying is on the table, that's something...we would look at. end quote. Discussions between the GSL and the IMF team have been very "warm and gracious," Aitken said, adding that the GSL's collegial attitude is a significant departure from the past. ¶4. (C) Although the IMF has yet to formulate what an assistance package and its conditions will entail, Aitken and IMF Senior Economist for the Asia and Pacific Department Ebrima Faal said they would like to ideally look to help the government rebuild reserves while addressing its underlying fiscal problems, including its departure from its own requirement under the 2003 "Fiscal Management (Responsibility) Act" that its budget deficit not exceed 5% of GDP. Aitken and the Ambassador agreed that significant cuts in military spending will be required, but Aitken said the IMF would not specifically tell the government to do so due to the sensitivity of this issue. Faal noted that the government will need to look closely at the overvaluation of the rupee, its state-owned enterprises, and its financial and banking sectors, especially in light of an increase in non-performing loans and low confidence in these sectors. Tread Cautiously -------------- ¶5. (C) Ambassador advised Aitken and Faal that, although the GSL excels at making promises, it has proven less effective at fulfilling them. Very few senior government leaders and advisors have any true grasp of economics; as such, they do not understand the importance of making prudent yet politically difficult decisions in the near term. Ambassador advised the IMF team to work closely with former Treasury Secretary PB Jayasundra, Minister for Export Development and International Trade GL Peiris, Senior Political Advisor Basil Rajapaksa, and Tourism Minister Milinda Moragoda to ensure the President hears and understands the severity of the situation. Aitken reported that the team is already working closely with Moragoda and Jayasundra, and is reaching out to others. ¶6. (C) The Ambassador also cautioned against getting out ahead of discussions in the press. Because of statements to date by the President and senior Cabinet members, the government will need to walk slowly back from its recent anti-IMF statements. He also cautioned that the timing of possible general elections sometime this year further complicates matters for the President. Aitken noted that the IMF will continue to keep the details of any possible deal private until the government is prepared to go public. He acknowledged that, due to local political conditions, it will be very hard for the government politically to acknowledge its needs for an IMF bailout. Aitken said IMF would be happy to let the government "sell" the deal domestically however it needs to do so. For example, IMF would be comfortable if the government chose to publicly state that it, as many countries, is benefiting by IMF programs that are helping those countries affected disproportionally by the global financial crisis. Comment -------------- ¶7. (C) The government needs help. It is a positive development that it a) finally recognizes it and b) will almost certainly turn to the IMF to receive it. Nevertheless, the government continues to maintain an unlikely 4-5% GDP growth estimate for 2009 and a hope that exports and remittances will perform better than is realistic. (Note: Fitch forecasts 3% GDP growth, and the Economist Intelligence Unit (EIU) 3.2%; Faal reports that IMF believes it will be closer to 2%. End note.) This calls into question whether he government is ready to make the deep sacrifics that will be necessary to facilitate IMF assisance. Economics aside, no matter how well the government sells the deal, it will suffer some political damage for returning to the IMF, and even more as it moves forth with implementation of difficult decisions. Post hopes the government is truly ready to move foward, but only time will tell. BLAKE