A Trail Of Hidden Debt Along The Belt And Road

A REPORT ON Belt and Road Initiative (BRI) funding crosses our desk. It comes from AidData, a development aid research centre at the US university William and Mary, which has compiled a database of China’s international development finance covering 13,427 projects approved between 2000 and 2017 worth $843 billion across 165 countries, of which some 140 have signed onto the BRI.

Among its findings are that China has used debt rather than aid to establish a dominant position as a provider of international development finance, and the political sway that comes with it. That is less of an eye-opener than the estimates that the loans extended to recipient countries — primarily low- and middle-income nations — are far more extensive than generally realised, to the tune of $385 billion of ‘hidden debt’.

The reason for this hidden debt — hidden in the sense that it is not captured by institutional debt monitoring mechanisms such as the World Bank’s Debtor Reporting System (DRS) — is that Beijing’s loans are increasingly going to state-owned companies, banks or other entities that benefit from implicit or explicit, host government guarantees. 

Thus the debt does not show up in counts of sovereign debt, yet the liabilities for the recipient governments do not magically disappear.

The true magnitude of the debt is one concern. By AidData’s estimates, 42 low and middle-income countries now owe China the equivalent of more than 10% of their GDP.

Factoring in their hidden debt could cause reassessments of credit ratings, potentially raising borrowing costs.

A third concern is that hidden dent complicates debt management. Recipient governments may not have a good handle on their debt service requirements. That may complicate making the interest payments and debt restructuring where necessary.

Five key points emerge from the report:

• the sheer growth of China’s overseas development finance since 2000, outspending traditional Western and multilateral providers by 2-to-1 or more (an average of $85 billion a year for China against the United States’ $37 billion, for example), and doing so with semi-concessional and non-concessional debt rather than aid;

• a transition from direct sovereign lending pre-BRI to lending to state-owned companies, state-owned banks, special purpose vehicles, joint ventures, and private sector institutions, which, as already noted, keeps the loans off the balance sheets of the governments in the recipient countries but still provide explicit or implicit host government guarantees;

• the increasingly central role of China’s state-owned commercial banks — including Bank of China, the Industrial and Commercial Bank of China, and China Construction Bank — have played in the transition, including organising lending syndicates and other co-financing arrangements that make it possible to undertake BRI mega-infrastructure projects (financed with loans worth $500 million or more);

• the growing use of collateralisation to offset increasing credit risk, allowing Beijing to pursue a high-risk, high-reward credit allocation strategy to secure energy and natural resources, with the loans secured against future export receipts, or, for infrastructure loans, physical assets; and 

• masking from international institutional monitoring, eg, the DRS, the extent of Chinese debt burdens on some recipient countries, estimated to be underreported by an average equivalent to 5.8% of their GDP, which is complicating international debt restructuring talks, which have become as much competitive as collaborative between China and Western donors and creditors of late as Chinese state-owned policy banks can restructure loans on their own terms outside the well-established forums of sovereign debt renegotiations.  

Nor do China’s loans come cheap. The average interest rate is 4.2%, with a repayment period of less than ten years, AidData says. By comparison, a lender like Germany, France or Japan would typically charge 1.1% with a repayment period of 28 years.

A further intriguing point to emerge is that more than a third of BRI infrastructure projects have encountered significant implementation problems—corruption scandals, labour violations, environmental hazards, public protests and the like. In contrast, non-BRI infrastructure projects are less troubled, as are BRI projects undertaken by the host country rather than China. That fits with widespread anecdotal evidence of local resentment when China ships in everything from raw materials to labour.

Whether such concerns amount to a tipping point in a BRI backlash is moot, and may provide only a slither of an opening for the two new Western counters to the BRI, the United States’ Build Back Better World Initiative and the EU’s Global Gateway Initiative.

China may well now have a sufficiently firm foothold in development finance that it will not be dislodged by rival and not necessarily wanted offers of sustainable and transparent financing and good governance. A tweak to Beijing’s messaging,already being rehearsed — no vanity projects and cleaner and greener projects — may suffice.