You have likely heard the news, Sri Lanka has declared bankruptcy. And that makes Bangladesh Bank nervous because Sri Lanka’s central bank (CBSL) owes Bangladesh Bank $250M. Today we are going to discuss this topic.

Let’s talk about the initial deal between Bangladesh and Sri Lanka. It was a currency swap- a very specific kind of loan. Under this deal, Bangladesh gave Sri Lanka USD 250M. And Sri Lanka gave Bangladesh LKR 50B at LKR200/USD exchange rate. But there is a catch. After 6 months they were supposed to have the exact opposite transaction. Meaning 6 months later, Bangladesh would return LKR 50B to Sri Lanka while Sri Lanka would return $250M.

Why did Bangladesh do it? Firstly, Sri Lanka is a friendly neighboring country in need. So Bangladesh extended a helping hand so they can get some breathing room from their low foreign currency reserve and high debt obligations. This would also let Bangladesh signal its economic power to the outside world.

Secondly, Bangladesh Bank keeps its money in US treasury bonds which pay a meager 1-1.5% interest rate. On the other hand, Sri Lanka would be paying a 2.7% interest rate on the loan. So it was more beneficial for Bangladesh.

Until Sri Lanka declared bankruptcy. Now the question arises- will they be able to pay Bangladesh back? The likely answer is- not very soon. When a country goes bankrupt, its loans are usually restructured. But it takes time. If it were structured treasury bonds of Sri Lanka, then it might have happened faster as many other investors are in the same boat. However, Bangladesh had a customized deal with Sri Lanka. So what happens now depends on bilateral negotiations between these two countries. For now, Sri Lanka has big lenders after them and they need to be bailed out, preferably by the World Bank, IMF, China, India, Japan, or some other big economic power. And once they have started the process of straightening things out, then they might be able to negotiate a deal with Bangladesh. This means we cannot completely write off the chances of Bangladesh taking a big loss on these loans. Time will tell better.