Chinese Financial Assistance: Preference or Compulsion for Sri Lanka?

Sultana_Sri Lanka_Colombo_China

Written by Gulbin Sultana.

There was a violent protest in January 2017 against the Sri Lankan government’s proposed deal with the Chinese to develop a port and industrial zone in Hambantota area.  Large protests against the Chinese are not a common phenomenon in Sri Lanka. In 2013/14 the then-opposition party raised questions about the viability of the Narochchollai coal power plant due to its frequent breakdowns, but could not mobilise a mass protest. In fact after coming into power in 2015, the National Unity Government (NUG) faced criticism after suspending some Chinese projects. However, when the NUG decided to resume the suspended Colombo Port City project due to economic compulsion (as claimed by the government), major opposition against it arose from environmentalists and fishermen. But the government’s decision to hand over the land to a Chinese company on lease for 99 years for Hambantota Special Economic Zone faced bigger opposition. The protest was supported even by those who had previously facilitated Chinese investment in Sri Lanka. The protest therefore, should not be seen as opposition to Chinese investment in the island, but as a politically motivated protest against the current government. In fact, Chinese investment is often supported in Sri Lanka, even despite allegations that Chinese loans are largely responsible for the debt-ridden Sri Lankan economy.

Chinese Financial Assistance in Sri Lanka

The Mahinda Chinthana: Vision for a New Sri Lanka – A Ten Year Horizon Development Framework 2006-2016 prioritised the development of infrastructure facilities in Sri Lanka. However, the infrastructure development programme was boosted only after the end of the civil war in 2009. With the implementation of the government’s economic policy strategy (“Sri Lanka-the emerging wonder of Asia: Development Policy Framework”) after the war, the reduction of concessional financing due to Sri Lanka’s progression into middle income country status, and diminishing Western financial assistance, China emerged as the largest development partner. In 2003, China committed 2.3 per cent out of the total foreign financing (US$1058 million) in Sri Lanka. China’s commitment increased to 44.2 per cent in 2009. From 2005 to August 2013, the annual commitment made by China to infrastructure development was around US$800-1000 million with annual disbursement of these funds around US$600 million.

Chinese financial assistance to Sri Lanka comes from EXIM Bank of China, the China Development Bank (CDB) and the Industrial and Commercial Bank of China (ICBC) in the form of loans and grants. From 1971 to 2004, Chinese financial assistance was divided into 82 per cent in loans and 18 per cent in grants. However since 2005, grants have reduced. According to the External Resource Department of Sri Lanka Chinese assistance between 2005 and 2013 was composed of 98 pre cent of loans and 2 per cent of grants.

Chinese loans are granted under the Preferential Buyer’ Credit facility, Concessional Loan and Buyer’s Credit. Under Preferential Buyer’s Credit and Concessional loans, the interest rate is 2 per cent per annum and the repayment period is over 20 years including a 5 year grace period. The only difference between the two is the loan denominated currency: Chinese Renminbi (Yuan) for Concessional loans, and US Dollars for preferential buyer’s credit. Under Buyer’s Credit, the interest rate is floating and repayment period is over 15 years including a 3-4 year grace period. Therefore, between the two, the Sri Lankan government prefers to obtain Buyers Credit. However, as the funds available under the Preferential Buyer’s Credit facility and Chinese Government Concessional loans are limited, sometimes “EXIM Bank provides mixed credit blending Preferential Buyer’s Credit, Concessional loan and Buyer’s Credit for large projects and sometimes under only Buyer’s Credit.” As a result, the “interest rate has increased from LIBOR 2.4 per cent in 2011 to LIBOR 4 percent per annum.” This is one of the factors why Chinese loans are expensive.

Despite being costly, China became the largest development partner under the Mahinda Rajapaksa administration due to two reasons: firstly, China’s willingness to finance the demand-driven large infrastructure projects; and secondly, its willingness to disburse the loan amount without questioning the human rights records of the country. It was believed that as the Chinese loans were used to develop revenue earning assets such as ports, airports, power plants etc, debt servicing would not be an issue. Moreover, at a time when the international community was extremely critical of Mahinda Rajapaksa, maintaining close economic cooperation with the Chinese was considered an important strategic move.  Hence, Sri Lanka under Mahinda Rajapaksa extended its support to China’s silk route initiative to further deepen the strategic partnership. A flagship project, the Colombo Port City Project, was signed in September 2014, when President Xi Jinping visited Sri Lanka. Sri Lanka also facilitated further Chinese investment in the country by signing 27 agreements during the visit.

However, by 2014, disquiet about the negative implications of the growing Chinese footprint on the island began to grow. The then-opposition raised the question of the high levels of debt incurred due to the Chinese loans, but failed to gain traction in public debate. The then-opposition, nevertheless, pledged to review the Chinese projects if they came into power during the Presidential elections campaign in 2014. After the success of Sirisena in the presidential elections of January 2015, some of the Chinese projects were suspended — including the Colombo Port City Project.

Chinese investment under the NUG

However, the NUG later reviewed their decision, resumed all the suspended Chinese projects, and began negotiations with the Chinese government on new projects. The current government realised that cancelling the projects signed under the previous government would be a costly affair, as the Chinese company was asking for huge compensation. Secondly, the Chinese agreed to negotiate on the debt repayment servicing only if the government retracted its decision to cancel the Colombo Port City Project.  The NUG is now arguing that foreign investment is the only solution to transform loss-making enterprises into profit-making ventures and to come out from the country’s current economic mess. Even though Sri Lanka has approached other countries, the Chinese are the major contributors of foreign investment. Therefore, the NUG has “U-turned” on the Chinese policy announced during its election campaign and revised the Colombo Port City Project – known now as Colombo International Financial City project.  The government has also agreed to provide 15,000 acres of land to a Chinese company on lease for 99 years to develop the Hambantota Special Economic Zone (SEZ). It is believed that the development of the SEZ is important to make the Hambantota port a profit-making enterprise.

Opposition against the Chinese funded projects

However, the deal on Hambantota SEZ faced violent opposition. This was probably the first time any of the government’s proposed deals with the Chinese had met with such intense opposition. In the past, neither media reports on the losses incurred to the Ceylon Electricity Board due to the regular breakdown of the Narochchollai Coal power plant, nor the involvement of Chinese labour in the Chinese-funded project, nor the high interest rates on Chinese loans had caused any public protests in Sri Lanka. There has also been no protest against the proposed Free Trade Agreement between Sri Lanka and China – an agreement likely to further widen the trade gap between the two countries. Therefore, the recent protest against the Hambantota Port deal should be seen as politically motivated rather than as opposition against the Chinese investment in the country.

It should be noted that for Sinhala nationalists, the Chinese presence on the island is important to keep the country free from Indian and Western influence. It is believed by most Sri Lankans that the Chinese presence in the island is for purely economic reason and the Chinese do not have any ulterior motive in the country or in the region.

However, at governmental level, there is concern about the possible strategic clash between the great powers in the Indian Ocean, leading to government discussions about the need for a balanced foreign policy to avoid a situation where one power can dominate the region. Hence, while the government is negotiating more investment projects with the Chinese, it is also talking about the possibility of joint ventures with India and Japan. The politically important anti–India constituency is opposed to any economic deal with the Indians. Ignoring the protests against any deals with the Chinese involves little political risk; by comparison, ignoring protests against proposed deals with the Indians involves much greater political risk. In addition, past experience shows that even Sri Lankan leaders who are known for their pro-India approach favour balancing Indian influence. It can therefore be presumed that, despite their friendly overtures towards India, Sri Lanka is likely to see more Chinese presence and influence.

Gulbin Sultana is a researcher with the South Asia Centre of the Institute for Defence Studies and Analyses. All views expressed herein are those of the author. Image credit: CC by Dan Lundberg/Flickr.



Categories: China, Economics, Sri Lanka

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