Why is Sri Lanka saddled with Chinese debt?

(This story was originally published on April 6 and is being republished from Quintuplets’In light of Mahinda Rajapaksa’s resignation as Prime Minister of Sri Lanka, our file. )

Refugees have begun pouring into India as Sri Lanka continues to face one of its worst economic crises on record.

A total of 16 Sri Lankan nationals from Jaffna and Mannar districts arrived in Tamil Nadu earlier this week.

The main cause of the country’s economic collapse is a shortage of foreign exchange, which has led to a sharp reduction in imports of essential goods.

A decline in tourism and foreign direct investment, as well as the Sri Lankan government’s initial refusal to accept a bailout from the International Monetary Fund (IMF), were some of the key factors leading to the economic collapse. You can read about them in more detail here.

What, then, are the main features of this economic relationship? Is China’s offer to Sri Lanka better than India or Western countries?

Based on 2021 figures, China accounts for more than 10% of Sri Lanka’s $35 billion external debt, with about $4 billion owed.

It is Sri Lanka’s largest bilateral lender and fourth-largest overall lender, after international financial markets, the Asian Development Bank (ADB) and Japan.

One of the main reasons Sri Lanka has been taking loans from China for the past 15 years is that it seems to have calculated that Beijing is offering better deals than other countries such as India or the US.

For example, in the case of the Hambantota International Port (an example often used by analysts accusing China of debt-trap diplomacy), it is reported that Atlantic Organization In 2007, Sri Lanka first sought investment and loans from the United States and India, but was rejected.

Sri Lanka’s civil war ended in 2009 and, naturally, the economy took a hit, forcing the government to take loans from international lenders.

Hambantota did not generate the expected returns, forcing Sri Lanka to borrow another $757 million from China at 2 percent.

But these loans, along with those for the construction of the Colombo-Katunayake highway and the Matala airport, are project loans, which means the Sri Lankan government has no right to use the money to settle its existing balance of payments (BOP) ) problem (especially because of the heavy reliance on imports).

To resolve the balance of payments crisis, the Sri Lankan government received a US$1 billion loan from the National Development Bank in 2018. The loan was secured at the global benchmark US dollar LIBOR (London Interbank Offered Rate) 6-month rate and an interest rate of 2.56% per annum. It must be repaid within eight years.

Looking ahead to 2022, China’s ambassador to Sri Lanka, Qi Zhenhong, told reporters earlier this week that Beijing’s $1.5 billion in loans to deal with the current crisis “is in addition to the $2.8 billion in aid China has provided to Sri Lanka since 2020”. The outbreak of a pandemic. “

So it seems that Sri Lanka has turned to China because of the attractive deals offered by the latter. But are these deals really as good as they seem?

The term “white elephant” is used to refer to something that is expensive to invest but does not return well, making it a financial burden.

Critics of their economic relationship argue that China has shrewdly funded Sri Lanka’s white elephant project.

The most frequently cited case is that of the Hambantota International Port, where, as noted above, the Sri Lankan government received loans at commercial rates from the Export-Import Bank of China (EXIM Bank) between 2007 and 2016.

As of January 2015, a significant portion of Sri Lanka’s external debt was owed only to China. To repay the money, Sri Lanka decided in 2017 to privatize a majority stake in the port to a Chinese company called China Merchants Port Holdings.

The Chinese Communist Party-owned and controlled company closed its deal with the Sri Lanka Ports Authority in July 2017, after which the former took control of a 70 percent stake, essentially handing over control of the port and the surrounding 15,000 acres of land to China it.

In the end, Sri Lanka was forced to lease the facility to China for 99 years due to its inability to repay the loan to build the port.

Beijing denies any ulterior military motives for the port and claims it is part of its Belt and Road Initiative (BRI) aimed at helping Sri Lanka.

Another “white elephant” appears to be the Mattala Rajapaksa International Airport, which LCC Asia-Pacific founder Nicholas Assef calls “the emptiest international airport in the world”.

Not only does the airport do nothing to boost trade and tourism, but due to its remote jungle location it hardly serves as a local airport for intra-Sri Lanka travel.

Despite the controversies surrounding the Hambantota International Port, Sri Lanka continues to rely heavily on China given the latest US$2.5 billion loan application.

In early January, when the economic crisis led to food and fuel shortages, Sri Lanka’s central bank governor, Ajis Nivad Cabral, rejected an IMF loan, saying it was “not a magic wand”.

“At this point, there are other options than turning to the IMF,” he had asserted. This is a reference to China.

“They will help us repay … the new loan from China is to cushion our debt repayment to China itself,” Cabral was quoted as saying by Reuters.

Whether China is engaging in “debt trap diplomacy” to exploit the structural weaknesses of the Sri Lankan economy for personal gain is a separate question.

But based on the analysis of the past few years and these days, what we can be sure of is that Sri Lanka is happy to fall into China’s “debt trap”. Colombo could fall into Beijing’s trap for a long time until it finds an alternative way out of the economic crisis.