China’s “debt trap diplomacy” played a role in the crises in Pakistan and Sri Lanka. But that’s not the cause

JTwo neighboring countries, Pakistan and Sri Lanka, have taken on huge infrastructure projects financed by Chinese debt, have descended into economic crisis and are now caught up in political turmoil. In a third country, Myanmar, the Chinese returned after the military coup 14 months ago and are pushing economic corridor projects.

In the Maldives, too, Chinese-funded projects and loans have risen and fallen with changes in government. Estimates of the Maldives’ debt to China vary widely – opacity is typical because China has a history of hiding loans as trade credits or channeling them through special purpose vehicles. And Chinese debt is not cheap; interest rates seem to be about three times what other countries charge for bilateral aid.

The Americans have coined a term for this phenomenon: “debt trap diplomacy”. The successful country in the region, Bangladesh, has been wary of Chinese-funded projects. Despite having a larger economy than Pakistan, Bangladesh’s exposure to Chinese debt-financed projects is less than a quarter of Pakistan’s. Nepal too was cautious. Among the countries in the region, those in turmoil are those most exposed to Chinese debt.

And yet, putting all the blame on China would be a mistake. In Pakistan and Sri Lanka, long-term economic mismanagement has been the main problem, leaving them vulnerable to the fallout from Covid and the war in Ukraine.

Pakistan’s mismanagement of its economy, with 13 International Monetary Fund (IMF) loans over 30 years (most loan programs being canceled mid-term for non-compliance with loan conditions), is well known. The IMF’s latest $6 billion loan is also on hold, and China has to deal with Pakistan’s demands to intervene. It refused to change the onerous terms of its project loans but, as a de facto lender of last resort to a client state, reluctantly footed the bill when others, like Saudi Arabia, turned away. . Pakistan, for its part, is not shy about playing loan junkies: Imran Khan recently requested a last-minute rollover of $4.2 billion given in the form of “trade credit”. Even though China agreed, Khan demanded more than doubling the credit limit. China is Pakistan’s largest creditor.

Read also : Praise for Imran, blame for India – how Chinese experts spin the crises in Pakistan and Sri Lanka

For all of this, Sri Lanka’s story is the most glaring, with the tax-to-GDP ratio falling by a third in three years as rates were cut. Inevitably, the country’s credit ratings suffered, budget deficits soared to an astonishing 14% of GDP, and the renewal of foreign loans (misused to fill budget gaps) went from difficult to impossible, which led to the currency crisis and currency collapse.

Bizarrely, the Rajapaksa clan embarked overnight on organic farming nationwide while banning chemical fertilizers. Buoyed by the endorsement of organic farming champions like Vandana Shiva, the government has ignored evidence that organic farming is just a shop solution for those with the budgets for expensive foods. Faced with a disastrous harvest, he has retraced his steps, but no longer has the money to import fertilizers. The grain is shipped from India and, yes, from Bangladesh.

What is China’s role and responsibility? Like a shrewd lender, he stepped in where he saw an opportunity and chose his targets carefully. Projects and loans went to resource-rich or strategically placed countries, 70% of which did not have a good credit rating or any credit rating, and therefore had little or no alternative sources of external financing. He protected his interests by holding the project assets as collateral, taking over a number of them. Lending was therefore followed by asset grabbing. Co-opting political leaders (like the Rajapaksa family of Sri Lanka) was a necessary component of the strategy.

Yet China exacerbated but did not primarily cause the problem, the roots of which lay in broken politics and economic mismanagement in borrowing countries. Chinese loans may even have solved some problems, such as persistent power shortages in Pakistan. But without associated reforms, even good projects become financial cornerstones. This is why privately financed infrastructure projects are often a bad idea, and foreign financed projects with expensive loans much worse. If you are stupid enough to undertake such projects, why blame Beijing?

By special arrangement with Business Standard

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