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In 2018, US Vice-President Mike Pence accused China of using its debt-trap diplomacy to lure vulnerable nations into borrowing from it and then seizing their strategic assets. These accusations have been criticized by many politicians and economists alike. This article attempts to analyze various aspects of Chinese debt policies in detail.


With its foreign loans surpassing USD 5.6 trillion, China is undisputedly the world’s biggest lender accounting for almost 67% of the world’s official debt. Its loan book is bigger than that of the World Bank and the International Monetary Fund combined.


China achieved this feat by ignoring a fundamental principle in the business of lending i.e., “the borrower’s repaying capacity”. By extending loans to financially stressed and debt-ridden countries, China expanded its loan book. The Chinese government claims its lending to be a ‘global public good’ for the larger global cause of laying the foundation of a robust world economy. However, neither the borrowing countries could develop their economies nor could they pay back the high interest on these loans, but what China gained was the control over various strategically important locations in the borrowing countries.


A crucial example is Sri Lanka’s Southern port of Hambantota which was handed over to China as the Sri Lankan government had failed to meet its repayment obligations. The interesting part is that Sri Lanka’s economy was never strong enough to pay back a loan of USD 5 billion, which raises suspicions over China’s real motive over lending to the island nation. In 2021, Laos was forced to hand over control of its National Power Grid to an undisclosed Chinese company as it defaulted on its debt payments. In 2011, China was awarded the Pamir mountains in Tajikistan in return for debt forgiveness. The list goes on.


The People’s Republic of China argues that the borrowing countries were already in huge debt to the Western countries and Chinese loans account for a small percentage of the borrowing country’s total debt. Moreover, they claimed that the Chinese government never forced any country and that the debtor countries willingly accepted all the terms and conditions. Regarding the Hambantota port, China argues that the Sri Lankan government was planning to construct a port at Hambantota in 2003 but due to a civil war and financial constraints the idea was dropped. India and the US had denied financial assistance to Sri Lanka for building the port due to which it had to approach China. Thus, China was the lender of last resort, and has contended that Chinese banks are ready to restructure the repayment schedule of the loans for the benefit of the debtor country.


HOW CHINESE LENDING IS DIFFERENT FROM TRADITIONAL LENDING

  1. Confidentiality Clause: Since 2014, all Chinese loans bring with them a confidentiality clause that restricts the borrowing country from publicly revealing the existence of the loan thereby creating a “hidden debt” problem. This goes against the principle of public debt which holds the Government accountable for its actions.

  2. Collateralisation of Official Lending: Usually when a country defaults on its loan payment then the lender which is usually The World Bank or The IMF coordinates with the debtor country and chalk out other solutions which will help them to improve their financial strength. However, Chinese loans demand collateral i.e., in case of default China can take over an asset of the country which is usually of high strategic value.

  3. Loans at Commercial Rates: Loans that are offered for ‘development assistance’ are usually given at concessional rates which reduce the financial burden of the borrowing country. Contrary to this, Chinese loans are given at commercial rates which makes it difficult for the borrowing country to repay them.

  4. Stablisation Clause: This clause allows China to claim immediate and full repayment of the loan if it feels that a change in the laws of the borrowing country adversely affects the interests of China, thereby restricting the political freedom of the borrowing country and impinging their sovereignty. This ensures that the foreign policies of the borrowing countries are synced with the interests of China.

  5. Less Transparency: China has stayed away from the Paris Club (The Paris Club is a group of officials from major creditor countries whose role is to find coordinated and sustainable solutions to the payment difficulties experienced by debtor countries.) thereby avoiding the need to be transparent about its dealings and ensuring debt sustainability in the debtor country. Further, the loans come with a No Paris Club Clause which exempts the debt from being restructured in the Paris Club.

A lot of these terms and conditions appear to be unusual and suspicious considering the fact that these loans were given for “development assistance”. No lender country has ever imposed such authoritarian control on a borrowing country for a loan given, specifically for development purposes.


WHAT IT MEANS FOR INDIA

China’s famed project One Belt One Road (OBOR) Initiative has always been a cause of concern for India. The Belt and Road Initiative (BRI) is a strategy to develop a trade and infrastructure network across Asia, Africa and Europe. The OBOR includes China- Pakistan Economic Corridor (CPEC) which passes through the disputed region of Pakistan- Occupied- Kashmir (PoK) which India claims as its own. The implementation of such projects will further strengthen Pakistan’s claim over the area. India has openly criticized the project, citing it as China’s attempt to complete its “String of Pearls” which is a network of ports that China is building that can encircle and contain India.


In response to this, India is developing Chabahar port in Iran which can give India direct access to Afghanistan, Central Asia and Europe. After sensitive negotiations with Nepal, India was able to derail Chinese investments and at the same time force Bangladesh to thwart Chinese investment in Sonadihi and Chittagong ports. It is also rumoured that New Delhi interfered in the internal politics of Bangladesh to curtail Chinese influence. However, the underlying question is whether India will be able to stop the BRI through these short-sighted political interferences?

It is expected that in the long run, China’s huge economy will overshadow these minuscule attempts by India to foil the BRI. China has huge foreign exchange reserves with a high current account surplus whereas India, already a struggling economy, is riddled with huge fiscal and current account deficits. The hostile interference of New Delhi in the internal politics of Nepal and Bangladesh has developed an anti- India environment in both countries. The country needs major reforms to take its rightful place in the world economy but any attempts at reforms are countered by omnipresent politics. Therefore, the South Asian countries will have to turn towards China as India cannot support them financially.

Thus, India has neither political nor economic power to counter the BRI. At its best India can involve itself with the BRI and have more say in its policies. India should focus more on developing its economy as it does not have the financial backing to put up an opposition.


REACTION OF OTHER COUNTRIES

China’s cunning debt-trap policy is now slowly backfiring as many countries are now realizing the adverse effects of China’s loans. Chinese companies have been blatantly ignored by the governments of many developing countries for various infrastructure projects.


Take the example of Manila which awarded the contract of its first-ever subway system worth $556 million to Japanese companies instead of Chinese companies which are known to supply cheaper equipment in both high speed and standard rail projects. Even though the Philippines and China share a very close relationship the key projects are being handed over to Japanese companies and the Chinese debt trap policy is to be blamed for the fallout.

Earlier in 2020 Jakarta was favouring Japan to build the Jakarta- Bandung High Speed Railway instead of China. Malaysia also refused the bids offered by Chinese companies for the construction of economic zones, hotels, luxury housing and other projects worth $10 billion giving a big blow to China.


Due to Australia’s critical remarks over China’s draconian policies, China raised duties on Australian wines up to 212% and hundreds of Australian wine containers are stuck on Chinese ports as they are unable to get clearance from the Chinese authorities. This has erupted in a trade war between the two countries.


CONCLUSION

From the above discussion it is clear that while China is giving loans to financially stressed countries for their growth and development, its strict terms and conditions also restrict the borrowing country’s political and economic freedom. Countries such as Pakistan, Sri Lanka, Laos, Mongolia, etc. are heavily burdened with China’s debt and have been forced to accept ridiculous conditions made by the Chinese Government. While countries like the US, Australia, India, Japan and UK, etc. are fighting hard against China’s dominance, it is still difficult to conclude whether such attempts will be successful. The wisest approach would be for all the countries to work alongside each other and figure out their differences, otherwise, a global trade war will ultimately hamper the economic activities and endanger livelihoods around the world.


By Tarun Jindal

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