Chinese Debt Traps and Ways to Get Out of It

Five years ago, Chinese president XI Jinping declared his flagship foreign policy, the Belt and Road initiative ( BRI), an ambitious plan to develop trade routes connecting China with the rest of the world. Currently, total BRI investment is estimated to be more than one trillion dollar, which is more than eight times the size of the Marshal plan ( an American initiative enacted in 1948 to provide foreign aid to Western Europe) . Unlike the Marshall Plan, which was mainly aid in the form of grants that did not have to be repaid, China lends the amount as a loan with commercial interest rates. When it was initially launched, China claimed it to be the ‘Golden opportunity‘ to ‘revitalize‘ the region.  But, now many countries doubt China’s intentions.

True that the BRI provides vital infrastructure funding to developing countries, but there is no denying the fact that it also leaves many with unsustainable debt. BRI has raised serious concerns about debt sustainability in developing countries. A recent report by the Centre of Global Development found that eight BRI recipient countries namely —Djibouti, Kyrgyzstan, Laos, the Maldives, Mongolia, Montenegro, Pakistan, and Tajikistan—are at a high risk of debt distress due to BRI loans.

These countries are all set to face rising debt-to-GDP ratios which will go beyond 50 percent, with  at least 40 percent of external debt owed to China once BRI lending is done.  These countries will need help and support BRI loans and will likely turn to the IMF and others. Pakistan is already discussing about an IMF bailout , where China has invested $62 billion  in infrastructure and energy projects. The amount is equivalent to one – fifth of Pakistan’s total GDP.

After carefully scrutinizing the multiple aspects of the BRI, the IMF has constantly warned of unsustainable debt levels, predatory lending, and the lack of transparency when it comes to project. Keeping this in view The IMF will now request greater clarity on foreign currency payments which ideally should include the detail of BRI debt restructuring or reassessing proposed infrastructure investment to see if they are financially sound. If not much, it at least will be needing to see the terms of BRI loans to complete the necessary debt sustainability analysis.

This is where countries like Bhutan and Nepal need to be extremely cautious. Falling for these too-good-to-be-true infrastructure development loans could easily land them in trouble.

However, China now understands that now it has no choice but to reform BRI lending terms to address international and domestic concerns. After Malaysia’s decision to cancel two large Chinese-funded projects, Beijing launched a publicity blitz to defend the BRI.

Now, China can demonstrate its commitment to addressing concerns about the BRI by forming partnership with the IMF in order to improve lending practices. The two have already opened channels of communication and expertise sharing in 2022.  China also unveiled its International Development Cooperation Agency in April in order to put BRI decision-making under a single agency, a decision the IMF appreciated.  The next steps will be to strengthen these channels and come up with targeted pilot reforms to boost confidence on both sides.

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