Sri Lanka’s debt crisis tests China’s role as financier to poor countries

Sri Lanka’s debt crisis tests China’s role as financier to poor countries. By Alexander Saeedy.

As Sri Lanka’s foreign-exchange reserves began to dwindle under a mountain of debt early in the Covid-19 pandemic, some officials argued it was time to ask for a bailout from the International Monetary Fund, a politically fraught move that traditionally comes with painful austerity measures.

But China, Sri Lanka’s largest single creditor, offered a tempting alternative: Skip the IMF’s bitter medicine for now and just keep adding on new debt to pay off the old, according to current and former Sri Lankan officials. Sri Lanka agreed, and soon $3 billion in new credits poured in from Chinese banks in 2020 and 2021.

Now that plan has blown up, plunging Sri Lanka into chaos. Amid crushing debt and sky-high inflation, the country has run out of US dollars to pay for imports of basic goods, leaving citizens waiting for hours to buy fuel and major cities scrambling to keep the lights on. …

China does not lend like other countries — it has a different purpose:

For more than 60 years, sovereign-debt restructurings have been co-ordinated by the Paris Club, an informal association of 22 major creditor countries, mostly Western and some in Asia, including the U.S., France, Germany, Japan and South Korea.

Often working in tandem with the IMF, the Paris Club has signed 433 agreements with 90 countries, restructuring more than $583 billion of sovereign debt since it was created in 1956. Often, these restructurings involve pain for both borrowers and lenders, who often end up taking a haircut on some portion of their loans.

China isn’t a member of the Paris Club, partly because it wasn’t a major creditor nation until the mid-2000s. Since then, it has gone on a lending binge to support its strategic Belt and Road Initiative. Today, World Bank data show that China by itself has more loans outstanding to low-income countries than all the members of the Paris Club combined.

China typically takes an unorthodox approach to debt restructuring, disregarding the common wisdom in the West that debts of struggling borrowers should be written down to sustainable levels based on existing and forecast government revenues. Beijing often fights to get every dollar originally promised by borrowers, extending the length of the loan but leaving the principal intact.

Many victims:

In addition to Sri Lanka, the African nations of Zambia and Ethiopia, both major Chinese borrowers, are now restructuring their debts. Other developing countries, including Kenya, Cambodia and Laos, also have a high share of their debts from China and looming maturities that economists aren’t sure they can pay. …

As Zambia teetered on the edge of default in the fall of 2020, the Chinese government tried to offer the country new financing to help make payments on infrastructure loans, even after the country told creditors it planned to trim its existing debts …

Promises in Sri Lanka:

Sri Lanka, positioned along critical shipping lanes and long a focus of competition for great powers, found it easy to tap Chinese money. …

Over the past decade, billions in Chinese lending financed a diverse array of projects, including roads, power plants, railway extensions, a port, an international airport and a cricket stadium. Some, like the Lakvijaya Power Plant about 80 miles north of Colombo, helped provide electricity for the first time in Sri Lankan history to some of the country’s most rural, underdeveloped areas. But many of the other projects haven’t been as successful as the government had hoped.

The cricket stadium has hosted few international events since it was built for the 2011 Cricket World Cup. The airport, built to accommodate one million international visitors, runs at a loss. In April and May, no commercial flights landed there.

And the deepwater port in Hambantota didn’t make enough revenue to service its debt. As it struggled to repay the loan, the government in 2017 granted a Chinese state company a 99-year lease on the facility. Critics in Sri Lanka called this an example of “debt-trap diplomacy,” meaning loans were granted to make the country dependent on Beijing.

“The problem is we haven’t seen any benefits from all the infrastructure, ” said Akila Lakruwan, a 20-year-old retail assistant selling household appliances in Hambantota. In recent months, the store has only been getting about 10 per cent of the customers it usually does, he said, as consumers tightened their belts due to the economic crisis. “The pitch was that every youth would get a job, we were expecting these projects would give us jobs, but it never happened.”

Kabir Hashim, the former investment minister and a current opposition politician, said the country had to turn to international bond markets to help pay off Chinese loans because the government had borrowed for projects that generated little return. “It’s like a vicious cycle,” he said. …

Some Sri Lankan leaders remain wistful about the old days of easy money. “The Chinese had deep pockets and they were at any given moment willing to lend — that’s a stark difference between the rest,” said Ravi Karunanayake, Sri Lanka’s former finance minister. “The question is how successfully you negotiate with them.”

Those who can create credible currency out of thin air end up owning the world, and debt is their lure.