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Moody’s to review Sri Lanka’s credit rankings as downgrading looms

The Moody’s rating agency has cautioned that it would downgrade Sri Lanka’s rating if its external debt repayments come at a significant cost.

The decision to place Sri Lanka’s ratings on review for downgrade is prompted by Moody’s assessment that the acute tightening in global financing conditions, fall in export revenue, and sharp slowdown in GDP growth as a result of the global coronavirus outbreak exacerbate Sri Lanka’s existing government liquidity and external vulnerability risks, raising risks of heightened financing stress and macroeconomic instability. Moreover, the economic and financial shock will further dim medium-term prospects for reforms that would meaningfully strengthen Sri Lanka’s fiscal and external position.

‘The rapid and widening spread of the coronavirus outbreak, deteriorating global economic outlook, and falling asset prices are creating a severe and extensive credit shock across many sectors, regions and markets. The combined credit effects of these developments are unprecedented. Moody’s regards the coronavirus outbreak as a social risk under its ESG framework, given the substantial implications for public health and safety’ -Moody’s said.

‘For Sri Lanka, the current shock transmits mainly through capital outflows, a marked local currency depreciation, wider risk premia and a sharp drop in GDP growth that raise the sovereign’s debt burden, liquidity pressures and cost of external debt servicing. This shock occurs at a time when Sri Lanka’s credit profile is highly vulnerable given low reserve coverage of large forthcoming external debt payments and very weak debt affordability. At the same time, Sri Lanka’s relatively robust institutions and governance strength compared to similarly rated peers and a sizeable banking sector may support the government’s access to funding at manageable costs.’

The review period, which may extend beyond the usual three-month horizon, will allow Moody’s to assess the capacity of the government to secure financing at manageable costs and in a way that does not further weaken the country’s external position and threaten macroeconomic stability. The review will also assess the likelihood of the government being able to stabilize its debt burden and restore better debt affordability once the most acute phase of the shock has passed.

Meanwhile, the ongoing global shock will significantly curtail demand for Sri Lanka’s textile and garment exports in major markets including the US and Europe, in addition to a domestic lockdown curbing domestic demand, which will only be partially buffered by income support from policy measures. Moody’s expects Sri Lanka’s economy to grow just 1.5% in 2020, with risks skewed to the downside. Weaker foreign exchange inflows from exports, tourism activity and overseas remittances will further weaken Sri Lanka’s already fragile external position, despite some relief from a lower imports bill.

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