A renewed Sri Lankan engagement

As the island nation recovers, India's goodwill gesture has helped it regain some of the ground lost to China

A recent visit to Sri Lanka provided an opportunity to gauge the severity of its economic crisis, the strength of its recovery process, and the outlook for its future. India has played a significant role in enabling the country to manage its economic crisis, and this has created opportunities for expanded political, economic, and security engagement between the two countries. It has improved public sentiment towards India.

Sri Lanka has not yet recovered from its recent economic crisis. Its economy had contracted by 8 per cent in 2022, and this year, the contraction will continue, but at a slower rate of 3.5-4 per cent. An International Monetary Fund (IMF) package has been extended with the first tranche of $330 million having been disbursed. There does not appear to be a shortage of food, fuel, and other essential supplies, at least not in Colombo, but they are unaffordable for the poorer sections of society due to reduced incomes and inflated prices. There has been a significant rise in unemployment, with half a million jobs lost in the past three years.

The IMF rescue package entails the removal of subsidies, which has badly hit low-income categories. According to one estimate, over 4 million people have fallen below the poverty line since the crisis began. This is a sizeable proportion of the country’s total population of 21 million. While the IMF credit offers some relief, the economy must begin to grow again to service its debts even after some “haircuts” are agreed upon by private creditors and other debts are rescheduled. The IMF package with its multiple conditionalities, will impose even greater hardship on the most vulnerable sections of the population.

India has extended timely and substantial support to Sri Lanka during the past two years. In 2022, its total assistance was about $4 billion. A $500 million line of credit was extended to supply petroleum products, which helped ameliorate the acute shortage of fuel. The Reserve Bank of India made a currency swap of $400 million available to the Central Bank of Sri Lanka, while another $1 billion credit facility was extended to meet urgent requirements of food, medicines, fuel, and industrial raw materials. India has also agreed to defer payments of around $2 billion due to it under the Asian Clearing Union. To help in the recovery of agricultural production, a $50 million line of credit was extended for the procurement of fertilisers from India. These add up to an unusually prompt and generous rescue package, even while China proved to be a more reluctant and somewhat stingy partner to Sri Lanka in its moment of crisis. India has leveraged its role as a good Samaritan to regain some of the ground lost to China in recent years.

In 2000, Sri Lanka was the first country in South Asia with which India concluded a free trade agreement. Bilateral trade increased from about $600 million then to $6.2 billion today. The success of the agreement opened the door to a more ambitious Economic and Technology Cooperation agreement. However, this has not been concluded so far due to opposition both from political and business constituencies who fear Indian dominance over the island nation’s economy. Nevertheless, negotiations on the proposed agreement resumed last month after a gap of five years. There are better chances of it being concluded in the changed atmosphere of bilateral relations.

Tourism has been a key component of Sri Lanka’s economy, and it was badly hit first by the Covid pandemic and then by the political unrest that roiled the country in 2022. But tourism is recovering at a steady pace, with Indian tourists leading the way. India is the largest source of tourists for Sri Lanka with 1,23,000 arrivals in 2022 and over 200,000 this year up to September. The inauguration last week of a ferry service between the northern Sri Lankan port of Kankesanthurai and Nagapattinam in Tamil Nadu will no doubt add to the number.

The two countries have been considering other connectivity links for several years, including power grid connectivity and the construction of a petroleum product pipeline. It has been announced that a power transmission line may be laid between Mannar in Sri Lanka and Madurai in Tamil Nadu.

Colombo is the most important transshipment port for India-origin and India-bound cargo. Currently, India-related cargo constitutes 60 per cent of Colombo’s transshipment volume. Even though India itself is developing various ports as transshipment hubs, it is estimated that projected increases in cargo traffic will still require the use of Colombo as a transshipment port. The Adani group financed Vizhinjam port in Kerala has just been inaugurated even as the group is building a massive container terminal at Colombo. The Adani group is the majority shareholder in the under-construction Western Container Terminal, which will begin its first phase operation next year. It has the capacity to handle 5.65 twenty-foot equivalent unit (TEU) containers per annum.

On the eastern side is the Colombo International Container Terminal, which is 85 per cent owned by the China Merchant Port Holdings, a Chinese state-owned enterprise. It has a daily turnover of 24,000 TEUs, of which 65 per cent is India-related.

The port facilities at Colombo are impressive, and once the planned expansion and upgrades are implemented, it will become one of the most modern and efficient ports in the region and the world. The port’s business appears to be somewhat insulated from the rest of the economy and continues to grow, thanks to the continuing expansion of India-related cargoes.

India is now the third-largest source of foreign direct investment into Sri Lanka. ITC is constructing a tall multi-use skyscraper in Colombo, providing hotel services, residential apartments, and commercial space in the heart of the capital. Indian Oil is investing in developing a petrochemical complex in Trincomalee where it already manages an oil tank farm dating from the Second World War.

Sri Lanka may still be in the throes of an economic crisis, but it appears to be on the road to recovery. India’s profile has expanded, even as China appears to be stepping back from the frenetic expansion we saw over the past decade. India needs to maintain this momentum.

The writer is a former foreign secretary, and honorary fellow at Centre for Policy Research