Lenders should be responsible for the risks they take

Mr. Juan Pablo Bohoslavsky the United Nations Independent Expert on the effects of foreign debt and other related international financial obligations of States on the full enjoyment of all human rights, particularly economic, social and cultural rights, who was in Sri Lanka on a nine-day visit from 3-11 September 2018 issuing  a statement said that under the International Covenant on Economic Social and Cultural Rights, ratified by Sri Lanka in June 1980, States have the obligation to take steps towards the progressive realisation of economic social and cultural rights to the maximum of their available resources.

He said that while maintaining macroeconomic stability is an important concern, this aim should not prevent human rights assessments of these planned reforms, in line with international human rights standards and that neither the Government nor the IMF have conducted an ex ante human rights impact  assessment of the economic reforms implemented or announced.

He said that in market economies, lenders should be responsible for the risks they take. Otherwise, if they always get fully repaid regardless the interests charged in their operations (which in the cases studied here seem to cover a generous credit risk insurance), serious moral hazard problems are created.   And this is what in reality has happened: thousands of women without repayment capacity have been granted unfair, leonine loans.

He wanted the Government to establish an interest rate cap for all financial institutions and individual lenders operating in the microcredit business and also to pass and effectively  implement a robust and strict regulation including guidelines on how microcredit lenders have to assess the credit risk of their loans and regulate and restrict the actions they can take to collect the loans in line with international human rights standards.

End of Mission Statement- Sri Lanka, 11 September 2018.

United Nations Independent Expert on the effects of foreign debt and other related international financial obligations of States on the full enjoyment of all human rights, particularly economic, social and cultural rights, Mr. Juan Pablo Bohoslavsky, on his  visit to Sri Lanka (3-11 September 2018)

Today I end my official visit to Sri Lanka, which began on 3 September 2018. I would like to start by thanking the Government of Sri Lanka for its full cooperation before and during the visit. I wish as well to express my gratitude for all the information shared with me and the numerous insights and exchanges with various interlocutors. I also wish to thank the UN Country Team for the logistical support to the mission.

I would like to take this opportunity to highlight the constructive cooperation of the Government of Sri Lanka with the United Nations human rights mechanisms and with special procedures in particular. I commend that many of my colleagues mandate holders had the opportunity to conduct a visit at the invitation of the Government over recent years.

This visit has provided me with an important opportunity to witness some reforms and to examine how progress in the social and economic spheres has consolidated from a human rights standpoint. A cross-cutting objective of this visit was to understand how some recent economic and social policies aiming at promoting inclusive growth and enhancing economic development have translated into the realisation of economic social and cultural rights for all in Sri Lanka.

The visit had four related objectives: a) to examine the effects of public debt, structural adjustment, fiscal consolidation and other economic reform policies on the realization of human rights; b) to assess the efforts made by the Government to curb illicit financial flows; c) to analyse the effects of international development assistance and lending to Sri Lanka from a human rights standpoint, and; d) to study the efforts deployed by the Government to integrate human rights standards in the financial sector with a particular interest on micro finance.

Macroeconomics, finance and human rights 

Let me begin by highlighting what links debt, budget and human rights. Under the International Covenant on Economic Social and Cultural Rights, ratified by Sri Lanka in June 1980, States have the obligation to take steps towards the progressive realisation of economic social and cultural rights to the maximum of their available resources. The realization of these rights is tied to States’ available resources. That is, measures on public finances can have an impact on allocation to social spending with potential implications on all human rights including the rights to food, water, sanitation, adequate housing, health, access to justice, among others.1 

As end of the conflict and ensuing the reconciliation process provided the country with new economic opportunities, measures taken to boost growth and consolidate peace and democracy, have among other things translated in important public investment programme and economic measures.

The strategy chosen by the Government, as recommended by the International Monetary Fund (IMF), was to stabilize the economy by strengthening the fiscal and external sectors. In their views, external indebtedness would help achieve this goal. This strategy also included financing mega infrastructure projects that, jointly with stabilization of the economy, would create the enabling environment to promote sustainable growth. This explains why Sri Lanka’s public debt increased significantly over the last years. Foreign debt doubled between 2000 to 2009 and has continued growing ever since, at the end of 2017 it amounted to US$ 28.7 billion2. While debt to GDP ratio has declined from 86.2 per cent in 2009 to 77.4 per cent in 2017 but more onerous composition of the debt has to be considered.

Foreign direct investment and exports did not increase as projected, and GDP growth did not take off robustly. After three years of rapid growth in 2010-2012 due to a rapid development of the debt funded non-tradable sector, when GDP expanded at an annual average rate of 8,5%, GDP growth decelerated to 4,5% on average in 2013-2016. It is true that the legacy of these  borrowings worsened the foreign debt position heavily, and that some of the projects they financed have longer gestation periods, but debt keeps  growing nonetheless. In addition, a series of natural disasters, such as floods and droughts, have also affected GDP growth which recently decelerated from 4.5 per cent in 2016 to 3.3 per cent in 2017.

This Government has advanced strict measures to reduce fiscal deficit, aiming to reach the 3.5 per cent target by 2020. Significant efforts have been deployed by the Government to maintain macroeconomic stability and a range of reforms were adopted to serve that goal. Besides fiscal consolidation measures, there were also reforms on its social safety net programmes. Sri Lanka’s vision 2025 programme (launched in 2017) lays out a series of  announced measures for 2025 including deregulatory reforms impacting on land and the labour market.

In my view, while maintaining macroeconomic stability is an important concern, this aim should not prevent human rights assessments of these planned reforms, in line with international human rights standards.

Neither the Government nor the IMF have conducted an ex ante human rights impact  assessment of the economic reforms implemented or announced. This exercise is of paramount importance from a human rights standpoint when, for example, rationalizing  fuel subsidies and  social security benefits or when a more profit-oriented logic is introduced into public services or state-owned corporations. This is without saying that condoning loss-making can be equally deleterious to the enjoyment of economic, social and cultural rights.

The 3-year program supported by an IMF Extended Arrangement under the Extended Fund Facility of 1.5 billion USD has resulted in a number of reforms including measures aiming at lowering budget deficit and towards higher government revenue and stronger public financial management.

While some macroeconomic targets have been met, such as those set in relation to inflation rate and fiscal discipline, there are some gaps to be addressed from a human rights standpoint. As fiscal discipline was implemented and the social budget is considerably  underspent, social expenditures in particular need to be increased to avoid potential retrogression.

More specifically, recent reforms have resulted in rationalization in energy and farming subsidies, fuel price being now set with an automatic market based mechanism and the price of electricity is about to be deregulated along the same mechanism. I am concerned about the impact of such measures on the livelihood of fisher, farmers and rural communities’ households. It is my view that such cuts should at least be compensated through cash transfers targeting those in need and ensuring that they reach the beneficiary in a timely and efficient manner. Investments in rural economy should be directed in supporting the livelihoods of these small scale producers (technology transfer, market access, access to financial, physical and natural resources) so they will be resilient against these subsidy reductions targeting those in need.

Many of my interlocutors have underlined that historically Sri Lanka has had one of the highest human development index rating in the region. The Gini coefficient measuring income inequality in 1985 was 32,5 but in 2016 it has gone up to 39,8 in the country as a whole.

Today Sri Lanka’s human development index value is 0.766, positioning the country at 73 out of 188 countries in the world. 40 per cent of the population lives with monthly income equivalent to less than twice the poverty line3 , the current poverty line being Rs. 4,166 (USD 28.61) per person per month. There is also a disparity between urban, rural and estate population in this regard, with higher poverty rates in the rural areas. The prevalence of undernourishment in the country was of 22.1% in 2014-2016.4

In addition, close to two thirds of the working population in the country are employed in the informal sector5 . The country registers a 10 per cent of union membership rate. Weak trade unions have the potential to entrench income inequality and stagnation of workers’ wages in the bottom half of the labour market and trade unions lose the power to fulfil their traditional role of contributing to redistribution. 6  Only 20 per cent of the population benefit from the pension schemes7 and those working in the informal sector do not have access to the right to social security.

Having introduced free healthcare and educations schemes in the 1940s, the State has made particular efforts to ensure and maintain those important social policies over decades. However, I am concerned that despite the will to maintain such legacy (expenditure has been on the rising trend over the last years), some drawbacks were registered in the 2017 budget in the education and health sectors.8 More generally, Government recurrent expenditure (14,5% of GDP) is -even considering the implications of the conflict during those years- already relatively small if compared to its level at the early 2000s (more than 20% of GDP) or to that of other developing countries, and should not be subject to further cuts. Trying to achieve fiscal adjustment by reducing public expenditure in education, health and social transfers actually hinders long-term development and may have negative effects on social and economic stability.

I welcome the announced raise in expenditure on education and health in 20189 . Yet, it was brought to my attention that social spending has not always matched budget estimations in the past. Government has expressed its intention of engaging in public private partnerships in important social sectors such as health, education, etc. These efforts of public private partnerships should not replace the Government’s primary obligation of ensuring the economic, social and cultural rights equally among everyone and its obligation in allocating maximum available resources.

There is a consensus that a greater mobilisation of resources is needed. The Government has taken measures to broaden its tax base. Yet, high fiscal deficit remains and public finances are affected by limited reserves. I would like to highlight the adoption of the Inland Revenue Act in 2017, which contributes to simplify tax collection and expand the tax base. Similarly, I recognize efforts deployed by the Government to tackle existent discretion regarding tax exemptions. However, it is my view that further steps need to be taken in order to ensure that income and wealth taxes effectively and sufficiently generate public revenues while reducing economic and social inequality in the country.

I am concerned by the significant raise of the VAT tax rate, climbing from 11 per cent to 15 per cent in 2016, since the cost of such tax is borne by the poorest part of the population. In fact, revenue collection through VAT has seen an acceleration to 56.5 per cent in 2017.

When we look at the public budget today the debt repayment is the country’s most important expenditure with a significant amount of borrowing currently allocated for this purpose10 . With Sri Lanka graduating to middle-income status in 2012 a shift in the share of non-concessional foreign debt was observed and went from 7 per cent in 2006 to 50 per cent in 201211 , those loans having an important impact on debt servicing given their higher interest and shorter debt maturity. In addition, reserves have remained at moderate levels. Debt vulnerabilities of the country need to be managed with extreme care.

I recommend in this regard that debt sustainability analyses carried out by the Government and international financial institutions be based on a more comprehensive understanding of debt sustainability, incorporating human rights12 and the social and environmental dimensions of sustainability.13  Auditors General’s Department has at its disposal the technical standards to audit public debt produced by International Organisation of Supreme Audit Institutions (INTOSAI) based on the UNCTAD Principles on Responsible Sovereign Lending and Borrowing.

Social spending should not be cut in order to repay increasing debts if less harmful policy options are available.14 There are at least three –complementary- options that deserve to be considered. First, boosting domestic demand through various channels, including progressive tax reforms, expanding social benefits and increasing of minimum wages, among other measures; the resulting improvement in GDP growth would increase fiscal revenues. Second, opening the discussion on whether the military budget reflects   the fundamental changes the country has undergone in the last years, in particular in the fields of peace and economic development. And third, renegotiating the debt with creditors in order to expand the fiscal space to boost the domestic demand and generate revenues to ensure that nobody is left behind. Fiscal, monetary, economic and social policies need to be fully consistent.

Corruption, illicit financial flows and human rights

Corruption concerns human rights because it drains a sizable part of the State budget away from its social function. This is why it not surprising that empirical studies highlight the strong correlation between illicit financial flows and lower levels of economic development. The Sustainable Development Goal (SDG) 16.6 aims at the reduction of corruption and SDG 16.4 calls on States to significantly reduce illicit financial flows by 2030.

In the realm of preventing and combatting corruption, I commend the Government and the Parliament for having established in May this year special courts to handle cases specifically related to bribery and corruption in order to speed up cases that have dragged on sometimes for years. It is equally important to ensure that their members are appointed on a meritocratic basis, enjoy stability and are independent during their entire tenure, and that the courts are financially autonomous and not subject to political pressure or interference.

Illicit financial flows cover a broad range of phenomena including tax evasion, money laundering and corruption. The negative impact of such flows on human rights can be translated in a number of ways, the erosion of public finance and available resources being the one with the broadest impacts on human rights.15

In order to assess those impacts and design and implement adequate policies, estimations of illicit flows are needed. Yet, I learned during the visit that no study or official estimation of illicit outflows or inflows has been conducted to date in Sri Lanka. While I acknowledge that this is complex task (it is about estimating flows that deliberately circulate in the shadows), I urge the Government to conduct these studies in order to further curb illicit financial flows in line with the Sustainable Development Goals.

It has been estimated that the majority of all illicit financial flows in the world are related to cross-border tax-related transactions.16 These flows circulate mostly through banking and financial institutions.  Based on the principle know your client (being national or international), banks in Sri Lanka have the duty to report suspicious transactions to the pertinent authorities. However, because tax evasion is not considered a predicate offense in the country -therefore it cannot be the basis for money laundering-, banks have no duty to report suspicious transactions that could involve tax evasion of their clients. I urge the Government to close this legal gap and request help from the banks to improve tax collection.

Project financing and international development assistance

After the end of war in 2009, large-scale infrastructure projects have flourished over the country. Examples include the Colombo Outer Circular Expressway, Sampur power plant, the Hambantota port and Hambantota airport, all projects having been approved and launched in the late 2000s/early2010s. As of today, World Bank, Asian Development Bank, Japan, Korea, India and China’s project loans alone account for a total USD 19.3 billion or 48 percent of the total loans taken by the State.

During my visit, a number of concerns were expressed pertaining to whether and how the positive slipovers of these -and other- projects are capitalized by the country to boost inclusive development and address inequalities as well as to prevent their adverse consequences for human rights.

Let me take an example. The Urban Regeneration Programme, a project implemented since the early 2010s, intends to transform the city of Colombo into “a world  recognized city”17 and has implied the relocation of more than 50.000 families between 2010-2014 living in informal settlements and similar areas into new houses schemes.

In 2014, the Special Rapporteur on housing brought to the attention of the Government information pertaining to evictions of local populations in Colombo without due process. At the time, the Special Rapporteur highlighted that forced evictions have reportedly been carried out. Many families that have already been evicted have not been adequately compensated and alternative housing was not provided despite original promises to this effect. A recent study has highlighted various shortcomings in the implementation of the Involuntary Land resettlement policy, including the unavailability of the agreement in all national languages in the first phases of the implementation and issues related to compensation of people who lost their homes as a result of the eviction and resettlement.18

Respect for human rights and social inclusive economic growth are not in opposition, but can, to the contrary, reinforce each other. The economic importance of international human rights instruments is crucial: they help capitalise internally the expected spill over of foreign investment, ensuring that the positive aspects of the projects will truly benefit to the whole population, while preventing and/or minimizing their negative human rights effects which, in turn, reinforce the environmental and social sustainability of the projects.

What does the Sri Lankan law establish to ensure that only infrastructure projects that are on the benefit of the people and respect human rights proceed?

It was brought to my attention that the National Involuntary Resettlement Policy19 of 2001 provides certain provisions regarding consultation and compensations for affected communities. Sri Lanka has also adopted measures to assess the environmental implications of projects through the National Environment Act (as amended in 1988). However, there are shortcomings in the duration for public consultations, accessibility of the documentation because of location and language, and the inadequacy of post-EIA monitoring.20 Concerns on the social and environmental impact assessments conducted in projects such as Uma Oya and Port City questions the validity of the processes. Involuntary Land Resettlement Policy still remains just as a policy and not as a legal framework and rarely being used in current large-scale infrastructure development projects (eg: Uma Oya multipurpose development project, Port City).

The Sri Lankan legal framework does not establish the obligation to conduct a comprehensive and ex ante human right impact assessment of infrastructure projects.  I advise the Government to close this gap by passing a robust legislation on this matter based on existing international human rights standards.21 Enhancing transparency, consultation and participation of potentially affected people is essential. These procedural aspects of the process should also be established and duly regulated by law.

I commend the 19th Amendment to the Constitution to integrate the right to information. In this regard, I wish to highlight the importance of access of information in the context of infrastructure projects and welcome the establishment of the Right to Information Commission under the Right to Information Act, No. 12 of 2016.

All international lenders and donors I met in Colombo expressed concerns for the environmental and human rights implications of the projects they finance. However, none of them have in place a human rights impact assessment framework. Some mentioned “social” and “gender” impact evaluations conducted before taking the final decision on the projects but the legal standards against which the projects are assessed were not clear, and the result of these evaluations are not publicly available. Therefore, I advise international financial partners to establish more robust frameworks to assess the human rights implications of the projects, covering both substantive and procedural rights.

Microcredit and human rights

Microcredit has a long history in Sri Lanka which can be tracked back many decades ago.  This system has actually helped lift many people out of poverty by enabling borrowers their livelihoods. However, the number, frequency and seriousness of the lenders’ abuses I have found in the country call for an urgent State action.

I learned that while the universe of borrowers is broad, women in poor and war affected areas are specially targeted by microfinance financial institutions, which charge their loans with up to 220 per cent interest rate and apply compound interest. In this context, I would like to highlight that Sri Lanka has ratified the Convention on the Elimination of Discrimination Against Women in 1981, which provides the obligation to eliminate discrimination against women in the economic and social life (Arts. 13).

Because these lenders do not follow any particular guideline to assess the credit risks of these loans, combined with usurious terms, a very high number of women in the country default on their debts and get trapped in an exploitative financial system.

The mechanism has been designed to make huge profits and put on poor borrowers -women in particular- a heavy pressure on their shoulders. Some women get these loans to build their business, but many of them  do not succeed in their projects, which is unsurprising in the context of the absence of an enabling environment for micro and small enterprises (such as extremely high interest rates) coupled with very modest economic growth. Other women get these loans to cover basic consumption needs for them and their families. Some others borrow to roll over other loans. It is common to see women owing 3 or 4 loans to different lenders at the same time.

Collectors go to their houses to get paid, sometime on a daily basis. They can stay in their houses for hours until they get repaid. Women are at times exposed to psychological and physical violence by these collectors. It was brought to my attention that, in some cases, women were pressured by collectors to exchange “sexual favours” for instalments.22  I have learned of cases of borrowers who tried to sell their kidneys to repay the loans. Some leave their villages, suffer domestic violence as a punishment for the “contract breach,” or have to work much harder and more hours to earn sufficient money to repay the debts. Suicides committed by borrowers have been associated to this abusive microcredit dynamic.

The Central Bank regulates only those financial institutions that receive and manage deposits from the public. For them the Government has established a 35 per cent interest rate cap. However, a large part of the microcredit volume is channelled through non-regulated lenders who do not have any restriction in terms of the interest rate they can charge. Private (profit-driven) financial institutions are the most aggressive in loan pushing and the quickest in disbursing funds. The Microfinance Act No. 6 was enacted in 2016, which provides licensing requirements to carry out microfinance businesses. However, this law has not been implemented.

I welcome that the Government is implementing a program to write off the micro debts taken by women in certain regions affected by droughts, providing they are not higher than 100,000 rupees and are at least 3 months in arrears. However, one of the problems is that, given the pressure lenders can put on debtors, collectors do not usually allow for long delays in payments so a number of women, including the most vulnerable, may not find relief through this program. Besides, the microcredits practices described above and the abuses have not been limited to those regions.

In market economies, lenders should be responsible for the risks they take. Otherwise, if they always get fully repaid regardless the interests charged in their operations (which in the cases studied here seem to cover a generous credit risk insurance), serious moral hazard problems are created.   And this is what in reality has happened: thousands of women without repayment capacity have been granted unfair, leonine loans.

This situation highlights the importance of establishing a National Action Plan on Business and Human Rights as well for the financial sector, including all types of institutions and organizations engaged in financial businesses regardless they are officially registered as such.

I urge the Government to establish an interest rate cap for all financial institutions and individual lenders operating in the microcredit business and also to pass and effectively  implement a robust and strict regulation including guidelines on how microcredit lenders have to assess the credit risk of their loans and regulate and restrict the actions they can take to collect the loans in line with international human rights standards. Law should establish that usurious microcredits are void (or voidable) and provide victims the right to request the return of the money as compensation. I also urge the Government to declare a moratorium, until this legislation is passed, in order to prevent vulnerable groups -in particular women- from being exploited and abused by lenders.

There are obviously financial needs of these borrowers that have to be covered. This is a State’s responsibility because the poor cannot be forced to pay for public goods via private microcredit. On the one hand, public banks should expand their concessional credit lines to make them massively available for those in most need (even a normal interest rate would represent a dramatic improvement for poor borrowers). On the other, it is worth exploring cooperative financial initiatives to enhance the microcredit industry with a purely social goal. This is why I welcome that the Government has launched a pilot cooperative financial scheme in the North to provide credit to those in need and by charging reasonable interest rates. I recommend its expansion to all regions in the country.

The serious situation just described in the field of microcredit shows how relevant and timely the discussion around the legal status of economic, social and cultural rights in Sri Lanka is. If a debtor in desperate situation makes the case to a court and/or the National Human Rights Commission that the principle of pacta sunt servanda (often translated as “agreements (or promises) must be kept”) has to be reconciled with her economic and social human rights, such as the right to food and adequate housing, how would the case be solved in Sri Lanka?

While Sri Lanka has ratified the International Covenant on Economic Social and Cultural rights in 1980, these rights have not yet been explicitly integrated in the Constitution, which explains and reflects certain reluctance to acknowledge the enforceability of those rights.

On the one hand, Sri Lanka has committed through ratifying this Covenant to provide legal means to the rights holders to ensure there are fully enforceable. On the other, national jurisprudence has already acknowledged the enforceability of certain economic and social rights, such as the right to education. I advise the Government to support the constitution reform process in order to ensure inclusion of all economic, social and cultural rights in the national legal system, including their justiciability. I also recommend courts to take into account the human rights international legal obligations of Sri Lanka when taking decisions on economic and social rights in the country.

Information about the visit 

I have benefitted from discussions with the Minister of Foreign Affairs, the Minister of Finance, the State Minister of National Policies and Economic Affairs and with high level officials of the Ministry Development Strategies and International Trade, the Ministry of Social Empowerment, the Ministry of Welfare and Primary Industries, the Ministry of Justice, the Ministry of Labour and Trade Union Relations, the Ministry of Law and Order, the Ministry of Women and Child Affairs, the Ministry of Health Nutrition and Indigenous Medicines and the Ministry of National Integration and Reconciliation, and the National Human Rights Commission of Sri Lanka, among others. Additionally, I have met with the Auditor General, Attorney General, Governor of the Central Bank and the Secretary General of the Secretariat for Coordinating Reconciliation Mechanisms.

 I had the opportunity to meet with officials from the Financial Intelligence Unit, as well as the Commission to Investigate Allegations of Bribery and Corruption and the Police’s Financial Crime Investigation Division.

My programme also included meetings with Members of Parliament, representatives from the International Monetary Fund, the World Bank, the Asian Development Bank, cooperation agencies, private banks and lenders associations as well as civil society, trade unions and academics. I also had the opportunity to visit Katunayake.

I would like to express my gratitude to all interlocutors for taking the time to meet with me and for our open and frank dialogue. (OHCHR)

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