The Pulse

China in South Asia: Loan Shark or Lender of Last Resort?

Is it accurate to characterize China’s lending practices in South Asia as predatory?

By Akhil Ramesh for
China in South Asia: Loan Shark or Lender of Last Resort?

Sri Lankan prime minister Ranil Wickremesinghe, center, watches the land that was reclaimed from the Indian Ocean for the Colombo Port City project, on the Galle Face sea promenade in Colombo, Sri Lanka, Tuesday, Jan. 2, 2018. The Port City project was initiated as part of China’s One Belt One Road initiative.

Credit: AP Photo/Eranga Jayawardena

Chinese President Xi Jinping’s flagship connectivity project, the Belt and Road Initiative, is both highly ambitious as well as contentious. Though popular with benefactors in developing nations such as Pakistan, Sri Lanka, Cambodia, and Philippines, the initiative has mostly garnered bad press in the West.

From former U.S. Secretary of State Rex Tillerson’s address at the Center for Strategic and International Studies in 2017 to the comments of U.S. Vice President Mike Pence at the Asia Pacific Economic Cooperation summit (APEC) in 2018, criticism of China’s Belt and Road projects have revolved around the nature of contracts and alleged predatory lending or perceived “loan shark” practices. But, are Chinese practices really as predatory as portrayed in Western media?

Western Multilateral Lending in South Asia

Since the 1980s, Sri Lanka and Pakistan have relied on the International Monetary Fund (IMF) to sustain their economies. Over the past several decades, the two South Asian economies have approached the IMF over loans on multiple balance of payment crises. For many economies of the world, the IMF has acted as the lender of last resort and bailed out economies in times of crises. South Asia is no different.

The region has a history of poor fiscal and account management, starting with India’s financial crisis in the 1990s. In 1991, IMF’s bailout of the Indian economy included caveats of the country opening its markets to foreign companies and investors. Among the conditional terms were structural reforms, which would drastically change the way the historically socio-capitalist economy would be managed, including divestiture of state-owned firms.

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One could argue that these structural reforms benefited the United States, which continues to serve as the largest donor to the IMF with the highest vote share in the organization at 16.52 percent, as of 2019. With the opening of India’s markets, American companies had enhanced access to the world’s third largest market.

Fast track to Sri Lanka’s fiscal crisis in the twenty-first century and there is a similar scenario with limited borrowing options. After having its IMF loan applications rejected, due to the economy not meeting the threshold of fiscal discipline, Sri Lanka was left with no choice but to pivot to China, which was willing to lend to a country facing twin current and fiscal account deficits.

Chinese State Lending

China has taken advantage of this dearth in investment and lending available to Sri Lanka, Pakistan and other frontier markets. And the economies of Sri Lanka and Pakistan have benefited from these loans in the long term if not in the short term. Nevertheless, the lending practices of the BRI’s primary funding institutions—the China Export and Credit Insurance Corporation and a few other China-led development banks—have come under scrutiny for their structuring, i.e., loans at market interest rates with a short payback period.

Sri Lanka, and other developing economies in the region, take on these commercial interest rate loans only after exhausting all their options in the international financial markets. From a $500 million international sovereign bond (ISB) issued in 2007, Sri Lanka went on to amass $15.3 billion in debt from subsequent ISB issues and foreign currency term financing facilities over a decade. In fact, Chinese loans comprise about only 10 percent of Sri Lanka’s total external debt; Sri Lanka’s largest bilateral lender is Japan, not China. Over 40 percent of Sri Lanka’s debt is owed to multilateral institutions.

One project often cited as an example of China’s predatory lending practices is the Hambantota port in southern Sri Lanka which was handed over to the Chinese. Western media feared the port would be converted into a Chinese military base like in Djibouti, Africa, though the agreement between Sri Lanka and China clearly states that the port will not be used for military purposes. Even in this case, the recent investment of $3.85 billion in an oil refinery by an Omani and Singaporean joint venture near the port question the validity of predatory arguments; Chinese lending has in fact led to win-win situations through the multiplier effect, debunking the claim that the port will not generate economic value. While Sri Lanka has benefited with increase capital flow into the region, China has protected its loans through collaterals.

Another case of Chinese lending is the Gwadar port in Pakistan’s Baluchistan province, which has long been a neglected region with most investments and capital flowing to Punjab. In 2010, Baluchistan contributed a meager three percent to Pakistan’s economy, but now with the Chinese infusion of capital, it has become one of the fastest growing provinces of the country. Saudi Arabia’s plans of building an oil refinery worth $10 billion by the Gwadar Port proves that the Chinese lending model has once again led to mutually successful deals.

In both cases, the health of Sri Lanka and Pakistan’s economies prior to Chinese lending often goes uncited. Sri Lanka does face a debt crisis, but it is not a product of Chinese loans—both Sri Lanka and Pakistan accumulated debt primarily through bond issuances and foreign currency term financing facilities in the past decade. Chinese debt on top of this could be argued as fuel to the fire but not the instigator itself.

On balance, Western multilateral lending practices and emphasis on structural reforms have turned socio-capitalist markets like India, Pakistan and Sri Lanka—historically marked by partial state intervention—into more free market economies. At the same time, China’s practices have given life to otherwise neglected regions of the developing world, such as Baluchistan and Southern Sri Lanka. With that said, it would be unfair to characterize or isolate China’s lending practices as predatory.

Akhil Ramesh is a foreign policy analyst based out of New York. He has conducted extensive research on the political and economic environments of the Asia Pacific, with a particular focus on South Asia. He has worked for premier risk consulting and nonprofits in New York City.