China's Belt and Road Initiative: Benevolent Lending or 'Debt-Trap Diplomacy'?

A recent AidData report revealed that 165 countries owe at least $385 billion to China.

(This article was originally published on 1 October 2021. It is being republished from The Quint's archives in light of Sri Lanka's catastrophic economic collapse, and its loan request from China to resolve the crisis.)

On 29 September, a research lab at the College of William & Mary in Williamsburg, Virginia, called AidData, published a report titled Banking on the Belt and Road: Insights from a new global dataset of 13,427 Chinese developmental projects. And it has taken the world by storm.

The report says that 165 countries owe at least $385 billion to China that they had initially borrowed in order to finance developmental projects, reported The Guardian.

The four-year-long research also claims that the Chinese have strategically played down debt numbers while reporting to international institutions like the World Bank, The Guardian added.

In this explainer, we decode what exactly the Belt and Road Initiative (BRI) is and what the AidData report really means, and how China conducts its 'debt-trap diplomacy'.

So, What is the BRI? 

The BRI is the foundation of President Xi Jinping's foreign policy through which China is trying to establish connections with more than 100 countries in the world. The BRI was officially launched by Xi in 2013, and was added into China's constitution in 2017, The Economist reported.

The establishment of these links depends on massive financial investments made by China in the developmental projects of partner countries.

The projects revolve around the improvement of physical infrastructure in these countries in order to open trade routes and transport corridors that approximately correspond to the historic Silk Road routes that consisted of both land and sea corridors connecting the East and the West to each other.

In short, the objective of the BRI is to connect China with countries all around the world “physically, financially, digitally, and socially”, according to a UNDP report.

The BRI network covers 40 countries in Sub-Saharan Africa, 34 in Europe & Central Asia (18 belong to the EU), 24 in East Asia, 17 in Middle East & North Africa, 19 in Latin America & Caribbean, and 6 in South East Asia, according to a report by the International Institute on Green Finance, a Chinese non-profit think tank.

India is not covered by the BRI network, but Pakistan is.

What is the AidData Report Saying?

The fundamental argument of the extremely statistical report curated by AidData is that while China has been financing the developmental projects of more than 100 low-income and middle-income countries (LMICs); information about its loaning operations have been kept secretive and vague.

The problem with the Chinese unwillingness to reveal authentic information about its lending operations is that LMICs have found it impossible to accurately "weigh the costs and benefits of participating" in the BRI, as argued in the executive summary of the report.

Consequently, governments of BRI countries will end up being completely unaware of the amount of money (not going to be small) that they will owe to China in the future when contracts expire.

The report focuses on multiple aspects of the BRI such as implementation problems of infrastructure projects, risk-reward balancing by lenders, and the scale of China's financing program for foreign projects.

But for the purposes of this explainer, we shall only focus on the huge debts that LCIMs have amassed, and whether they are underreported to international institutions.

Firstly, the report notes that "42 countries now have levels of public debt exposure to China in excess of 10% of GDP."

In simple words, 42 BRI countries owe more than 10 percent of their GDP to China, money they had borrowed for developmental projects.

Secondly, nearly 70 percent of China’s foreign loans are provided to its own "state-owned companies, state-owned banks, special purpose vehicles, joint ventures, and private sector institutions", and not central government institutions of the partner LMICs.

This policy creates two problems: China's actual loan amounts are much larger than what is estimated to be by organisations that are responsible for surveillance of loans, and LCIMs end up underreporting their debt amounts to the World Bank's external debt reporting system.

Both problems have the same source, which is that a huge portion of the loans do not make it to the balance sheet of the central government of LMICs.

This is because the above-mentioned Chinese state-owned enterprises are the ones that are actually dealing with the money, while they simultaneously "benefit from explicit or implicit forms of host government liability protection", the AidData report added.

It is this underreporting that has led AidData to conclude that LMICs belonging to the BRI have a "hidden debt" problem, with unreported debts amounting to approximately $385 billion.

Where is the Benevolence? It's a Debt-Trap

It is these predatory loan policies that have led to accusations being levelled against China of practicing debt-trap diplomacy.

The phrase started being used when Sri Lanka lost its financial capability to repay the money it had borrowed from China to finance the Hambantota Port Development Project.

The story goes that the Sri Lankan government took loans at commercial rates from the Export-Import Bank of China (EXIM Bank) to construct the port from 2007 to 2016.

But the port hardly attracted any ships and had been long predicted to fail as a business venture.

By January 2015, 10 percent of Sri Lanka's external debt was owed to China. Therefore in 2017, the former decided to privatise a majority stake of the port to a Chinese company.

In July that year, the China Merchants Port Holdings Company, owned and controlled by the Chinese state, completed a deal with the Sri Lanka Ports Authority after which it controlled a 70 percent stake, essentially handing over control of the port to China and the 15,000 acres of land surrounding it, The New York Times reported.

Montenegro is facing a similar crisis. The country has taken loans from China to build a highway that would link the Adriatic port of Bar to the Serbian capital of Belgrade.

The loans are estimated to be valued at 1.3 billion euros but have pushed the country's debt from 63 percent of its GDP in 2012 to nearly 80 percent in 2019, reported Financial Times.

The terms and conditions of the loans give China the right to use Montenegro's land as collateral if the latter were to default on loan repayments.

Another possible case study is Maldives, which owes 78 percent of its foreign debt to China, The Wire reported.

In summary, while the Chinese argue that they are aiding poorer nations by loaning money and capital that other possible lenders refuse to loan, critics accuse China of immersing their partner countries in immeasurable debt and then taking over assets (like ports) as collateral when (not if, it is only a matter of time) the partner defaults.

The Larger Picture 

While some articles published by Chatham House and The Atlantic seek to portray China's debt-trap diplomacy as a myth by arguing that the BRI only has economic ambitions, and that the debt distress of partner countries is a product of their own shambolic internal economic system, they completely overlook how strategically China decides to invest in BRI countries.

"The only way to justify the investment in Hambantota is from a national security standpoint — that they will bring the People’s Liberation Army in", former National Security Advisor Shivshankar Menon told the New York Times.

The Hambantota Port is after all just another pearl in China's String of Pearls – a network of Chinese naval facilities along sea routes that range from the Mainland China to the Horn of Africa – and its acquisition by China has major security implications for India, whose shores are only a few miles away from Hambantota.

In fact, even Sri Lankan officials have said that during negotiations with China that the Hambantota Port being a strategic asset was widely discussed, The Wire added.

Given everything that has been happening recently in the Indo-Pacific regarding QUAD and AUKUS, it is crystal clear that the region is one where major powers of the world are competing for influence.

With the aggressive foreign policy of Xi Jinping, China will seek to do the same, and its predatory actions in debt-ridden Sri Lanka are a warning sign for the whole world of what could culminate into a Chinese-specific form of economic neo-colonialism.

Xi seems to be following a theorem proposed by the second US President John Adams, who said that a nation can be enslaved in two ways – by sword or by debt.

(With inputs from AidData, the International Institute on Green Finance, UNDP, The Guardian, The Economist, the Financial Times, the New York Times, and The Wire.)