Are they two peas in a pod?

Economic policy and foreign policy:

By Neville Ladduwahetty

The general practice of governments of most nation states is to treat Economic policies and Foreign policy as two separate components of their national interest. Consequently, while the field of economics is littered with economic specialists, the field of foreign relations is confined to a relatively few. Perhaps, the tendency to do so is because of the popular understanding that economics is driven by market forces, while foreign policy is driven by a different paradigm, that being how nations conduct their relations with other nation states, even in matters that could include economics. This has resulted in the two subjects being handled by most governments as separate branches.

For instance, the financial crisis that Sri Lanka is currently facing is due to a combination of misguided economic policies, one of which was the lowering of taxes, causing the internal economy to be seriously impacted to a degree that caused budget deficits, and inflation to skyrocket, as a result of printing money, and the other being indulging in indiscriminately excessive dollar borrowings, from readily available sources, to develop infrastructure projects, where the returns were mostly in local Rupees. These lending sources took advantage of their bilateral relations to tempt Sri Lanka, because the significance of the island’s strategic location was critical to further their geopolitical interests. What Sri Lanka is experiencing currently is primarily due to these factors.

BLURRING of ECONOMIC and FOREIGN POLICIES

The nexus between Economic Policies and Foreign Policy is manifesting itself most prominently with neighbouring India. In April 2022, Sri Lanka’s debt to India was USD 1.041 billion. Today, it is nearly USD 5 Billion. While the need for India to engage in Sri Lanka’s internal and external affairs is motivated by self-interest, the fact that it would impact on Sri Lanka’s economic dependence is indisputable. Furthermore, it would also be a fetter to Sri Lanka’s sovereignty and independence to further relations with other countries with the view to furthering Sri Lanka’s own interests.

Sri Lanka is currently seriously campaigning for the importance of “economic integration between Sri Lanka and India”. Whether such a policy has been approved by the President and the Cabinet of Ministers, who, incidentally, are Constitutionally “charged with the direction and control of the Government”, is not known. As an extension of this policy, “India’s Prime Minister Narendra Modi’s administration, since July 2022, has been exploring the possibility of bringing countries that are short of dollars into the Rupee settlement mechanism. Designating the INR as a legal currency in Sri Lanka has provided Sri Lanka much needed liquidity support to tide over its economic crisis amid inadequate availability of US dollars …” (Sunday Observer, May 7, 2023).

While designating the INR as the legal currency in Sri Lanka would be favourable to India, it would amount to Sri Lanka piling up stacks of Indian currency, through trade and tourism, not knowing what to do with it all, because the Indian rupee is not only a non-convertible currency but also because the distortion between exports from India being five times the exports from Sri Lanka to India, as stated herein. would seriously disadvantage Sri Lanka. For instance, “During the last 26 years the exports of India to Sri Lanka have increased at an annualized rate of 10.1%, from $397M, in 1995, to $4.87B, in 2021. In 2021, India did not export any services to Sri Lanka. In 2021, Sri Lanka exported $1B to India (https://oec.world › bilateral-country › ind › partner › lka)

The experience between India and Russia, in respect of oil exports from Russia, was no different. Russia realizing that they would be stuck with Billions of Indian Rupees, for bilateral trade with India, suspended negotiations “after months of negotiations failed to convince Moscow to keep Indian Rupees in its coffers. This will be a major setback for Indian importers of cheap oil and coal from Russia who were awaiting a permanent rupee payment mechanism to help lower currency conversion costs …. Russia is not comfortable holding rupees and wants to be paid in Chinese yuan.” (The Island, May 5, 2023).

“Since Russia’s invasion of Ukraine, on February 21, last year, India’s imports from Russia have risen to $51.3 billion, until April 5, from $10.6 billion in the same period in the previous year, according to another Indian government official” (Ibid). The fact that Russia is prepared to accept such a large outstanding debt, to be settled in Chinese yuan ,reflects the strength of the bilateral relationship between Russia and China, at the expense of India. This underscores the power of bilateral relationships that could at times influence economic issues and vis-a-versa.

Drawing a lesson from this Russian/Indian experience, Sri Lanka should test the strength of its relationships and explore settling its outstanding debts to China, India and Japan, in their respective currencies, instead of settling them in US Dollars.

THE SRI LANKAN EXPERIENCE

Although Sri Lanka, then Ceylon, started out with Foreign affairs being linked with Defence, Foreign relations came under the jurisdiction of an independent Ministry, with the passage of time, thereby causing economic policies and foreign policy to function under two separate Cabinet ministers. However, during the early stages of this separation, bilateral relations had a significant influence on the determination of economic priorities.

For instance, the impetus to manufacturing was initiated with the introduction of the steel and tyre factories, from Russia. The flour mill from Russia contributed to meet the food needs. Another was the textile mill, at Athurugiriya, from The German Democratic Republic (GDR). It was the strength of bilateral relationships that contributed to further the economic development of Sri Lanka. Likewise, the urgent power needs of Sri Lanka, in the late 1970s and 1980s, compelled the then government to initiate the Accelerated Mahaweli Programme. The Implementation of the programme depended on harnessing the needed funds.

To secure the funds, the late Gamini Dissanayake invited all the Ambassadors ,and local heads of aid missions in Colombo, to a detailed discussion because “the raising of foreign funds for the construction of the Projects and the implementation of the downstream development programmes”, presented themselves as the most formidable task. It was the bilateral relations with countries such as “the USA, the UK, Canada, the Federal Republic of Germany, Sweden, the Netherlands, Belgium, Kuwait, Saudi Arabia, Japan, and from international funding agencies, like the World Bank, through outright grants, such as from the UK, and soft loans that became the key for Sri Lanka to find the needed financial resources to implement the Accelerated Mahaweli programme.

These infrastructure projects did not impose financial strains on the economy, not only because the cost of funding was low but also the return on the investment, which was in the form of Dollar savings for power generation, was almost immediate. However, the more recently implemented projects were funded with high cost short term loans, where the return on investment was over too long a period to justify their viability. For instance, there are several grounds on which the network of expressways constructed can be justified, but not the funding through Dollar loans at high interest rates. Instead, they should have been funded through a gasoline tax, as was done in the U.S.A. following WWII, because at the end of the day, it is the user that foots the bill, similar to any Value Added Tax.

What was the motivation for the strategy adopted? Was it corruption, or was Sri Lanka tempted by the creditors into taking advantage of bilateral relations with a view to seeking a foothold in order to exploit its strategic location to pursue their own geopolitical interests? Whatever the reason, or reasons, the fact remains that the current crisis is because Sri Lanka was not astute enough to be aware of “Greeks bearing gifts.”

CONCLUSION

It is evident from the foregoing that Economic Policies and Foreign Policy do not work in isolation of each other. Instead, the material cited above demonstrate that Foreign Relations and Foreign Policy have a significant influence over Economic Policies even to the point of outwitting Economic Policies that have negative consequences. For instance, the offer of three 100 MW Nuclear Reactors, by Russia, is motivated by bilateral relations and certainly not by economic considerations, because it would amount to importing uranium instead of oil. The Light Rail Project, at a reported cost of USD 2.0 Billion from Japan, that has soured Sri Lanka/Japan relations, is similar in vein, because the loan is in Dollars and the benefits are in Rupees.

The clear reason for this is because Sri Lanka does not have an Economic Plan. If it had, Sri Lanka would be in sounder position to politely say NO to bilateral unsolicited offers, without an impact on Foreign Relations.

One guiding principle of such an Economic Plan should be that if the funding for a project is in International convertible currency, the return on the investment should be in the same currency, or, the equivalent reduction in imports should be in a convertible currency.

Not only does Sri Lanka NOT have an Economic Plan, she does not have a clear Foreign Policy either. There is no more talk of being Non-Aligned. There is not much talk of being Neutral, either. This vacuum is tempting all the major powers to seek a foothold in Sri Lanka because of its relevance to Indo-Pacific confrontations; a trend that would make Sri Lanka’s sovereignty and territorial integrity vulnerable. The lack of a clear Foreign Policy gives the opportunity for the Government to respond to each situation and to every offer, individually. Such an individualized approach not only allocates too much power to the President, and a few others close to him, but also could change with a change of Government. This approach is not in the best interests of Sri Lanka, particularly because of global uncertainties in terms of currency related economic issues, as well as the other maneuverings going on around Sri Lanka, arising from Indo-Pacific tensions.

The President has repeatedly commented on these tensions. The most recent being at the BMICH when he stated that Sri Lanka “doesn’t want to get caught between escalating US-China tensions…. We are now being asked to choose sides”. However, he had stated that Sri Lanka would not succumb to the pressures (Daily Mirror, May 11, 2023). If Sri Lanka is not to take sides and/or succumb to pressures, the policy to pursue vigorously the policy of “integrating” with India would be a contradiction.

The President’s recommendation has been to rely on a strengthened ASEAN in the coming decades. Reliance on a future strengthened ASEAN misses the most critical point that the strategic location of Sri Lanka is unique in comparison to that of other ASEAN countries. Consequently, the pressures on them would be significantly less and different to that of Sri Lanka. This fact alone requires Sri Lanka to develop its own policy as to how it handles these escalating tensions.

Therefore, it is imperative that clear bipartisan policies be developed in respect of the link between economic and foreign policy issues. In addition, because of this inevitable interplay between economic policy and foreign policy, the separate institutional arrangements that currently exist should be reformed and reorganized to include an overarching arrangement in order to foster greater integration between economic and foreign policies, when making decisions that impact on both sectors, and eventually, the country.