In the past two decades China has invested unmatched resources into the African continent, exploiting underutilized opportunities and markets. China, the world’s largest creditor, has granted 148 billion USD in commercial and concessional loans to African countries, now holding 60% of the world’s poor country debt. As of December 2020, eighteen African countries are at risk for high debt distress, a figure that has doubled since 2013. Evidently, Chinese investment has come at a cost, and it’s one African countries must now pay back with interest.
The Debt Trap
The inherent issue in debt sustainability for developing countries is an inability to pay debts without structural transformation, and the inability to transform economies without huge investments in infrastructure and human capital. This unfortunate predicament places nations in a vulnerable position in which they must accept unfavorable agreements that may leave them highly indebted. For example, the Mombasa-Nairobi railway in Kenya, funded by Chinese investment, loses 9.2 million USD every month. As a result, Kenya has not been able to effectively repay its loan.
The failure of the Mombasa-Nairobi railway, along with similar failed projects, has triggered accusations from the West that the Chinese are engaging in “debt trap” diplomacy, in which one country becomes deeply indebted and loses some degree of sovereignty to its’ creditor. Moody’s, one of the world’s top credit and bond rating agencies, has warned: “Countries rich in natural resources, like Angola, Zambia, and Republic of the Congo, or with strategically important infrastructure, like ports or railways such as Kenya, are most vulnerable to the risk of losing control over important assets in negotiations with Chinese creditors.”
Accusations of “debt trap” diplomacy are supported by the fact that Africa receives a disproportionate share of Chinese development assistance in loans, in comparison to other regions. China invested 18 billion USD in foreign direct investment (FDI) in Latin America in 2017, versus only 3 billion USD in FDI in Africa in 2017. The total amount of all investments in Latin America was 200 billion USD, double that of the 100 billion USD in Africa. Moreover, Africa has nearly double the population of Latin America, making the per capita rate of capital transfers, on average, one-fourth the rate awarded to Latin America. The implication here is that the Chinese are offering proportionally more loans to Africa, whereas more favorable FDI, and higher amounts of assistance in absolute terms, are being directed more heavily to other regions.
However, to suggest Africa’s debt crisis is solely the result of Chinese lending is a gross oversimplification. The reality of the situation is much more complicated and the full picture remains unclear. Before discussing the other factors contributing to debt distress, it’s essential to acknowledge that complete information is not available due to the non-transparent nature of Chinese lending and the Chinese government. According to the Centre for Economic Policy Research, as of 2016, nearly half of Chinese loans may be unreported, a supposed 200 billion USD (Note: 200 billion USD represents hidden debt from all debtors, not just Africa). Further complicating the picture is that the Chinese distribute commercial and concessional (low interest, extended repayment period, often government to government) loans primarily from the same three state run banks: the Export-Import (Exim) Bank of China, the Chinese Development Bank (CDB) and the Agricultural Bank of China (AgBank). Having the same banks make both concessional and commercial loans (rather than development banks making concessional loans, and commercial banks making commercial loans, as in the West), again makes it difficult to determine the exact debt figures. Furthermore, knowing whether a loan is commercial or concessional is vital as it will determine the payment and refinancing options available to the debtor.
How China Does Debt…
The Chinese do not follow international norms for debt defaults and renegotiations, however they do provide debtors options, especially on concessional loans. They have up until this point only canceled interest free loans, for a total of about 3.4 billion USD (out of 148 billion USD total) in 94 separate cases, between 2000 and 2019. Unlike Western countries and international organizations, the Chinese do not cancel entire portfolios of loans, but instead renegotiate each loan on a case by case basis. It is common for Chinese creditors to enter into public private partnerships (PPP) or extend the timeframe of repayment, but uncommon for them to cut interest, principle, or engage in refinancing. Chinese creditors have not taken part in asset seizures or enforced payments through courts up to this point, despite clauses included in loan agreements mandating arbitration.
Yet, there exists a popular misconception that Chinese creditors have repossessed assets. This notion was highly popularized through the media coverage of Sri Lankan port, Hambanthota Harbor’s, transition to Chinese ownership. In reality, Sri Lanka’s predicament was instead exemplative of how debt distress represents a systemic problem within the financial system, rather than solely a Chinese problem.
The port’s sale was not a repossession but a competitive process in which a Chinese company bought a 70% share of the port at market value. Moreover, the Sri Lankan’s inability to repay their loan was not related to irresponsible lending by the Chinese. Chinese loans represented only 10% of Sri Lanka’s total loans and 60% of the Chinese loans were concessional loans. Sri Lanka’s debt crisis actually originated when the country entered “middle income” status and started borrowing high interest commercial loans. By 2017, Sri Lanka had 39% of GDP tied up in high interest debt, including Eurobonds (see Eurobonds section). A similar situation has taken place in Laos, where a Chinese company will now own the majority of what should’ve been the state electric grid. PPPs, such as these, are not particularly beneficial to debtor countries and do not represent poor inclusive growth. Many countries decide to restructure loans instead.
In Africa, the Chinese have historically been charitable in their rescheduling and renegotiation of loans. By the end of 1998, China had rescheduled 2.65 Billion USD worth of loans, sometimes up to 10 times, with only 14% being paid back. China has even restructured debts in healthy economies, restructuring Ethiopian debt when the economy was growing at 8% and Djiboutian debt when the economy was growing at 7.5%. Additionally, China has implemented integral changes to encourage sustainable debt repayment. In some cases, Chinese creditors have mandated that 25% of export revenue from China goes to refinancing Chinese loan payments. As well, the Chinese use a loan insurance agent, Sinosure, that requires existing loans are paid before new ones will be insured.
Both PPPs and debt restructuring are preferable to defaults, which downgrade debtors credit and make it more difficult to attain loans in the future. For this reason, only 22 of the 77 eligible countries have accepted G-20 assistance for debt relief (as of 2020). Many countries prefer to unilaterally negotiate, so they do not lose the market access that they have worked so hard to gain.
Eurobonds: The Real Problem
While Chinese loans are a significant contributor to African debt distress, the greatest contributor may be Eurobonds. Eurobonds are issuance of sovereign debt denominated in a foreign currency. In 2017, 31% of Africa’s debt was denominated in bonds, 17% in China, and only 5% in Paris Club countries (The Paris Club is an association of Western creditor countries). Years of low interest rates in Europe and North America have meant that many African countries can continue to take out greater amounts of debt on the bond market. Ghana, for example, has extracted 1 billion USD in bonds denominated in euros, despite having one of Africa’s worst performing currencies. Twelve countries in Sub-Saharan Africa alone, have taken out 12 billion USD in sovereign bonds. These bonds, unlike government to government loans, cannot be re-negotiated, making them a huge financial liability. In order to mitigate this problem and handle debt in a more sustainable fashion, countries should instead issue debt in their national currencies, which are inherently backed by state assets, and issue them with the greatest possible maturity.
Why Do We Care About Debt?
Yet all this begs the question, why are developing nations allowed to take on unsustainable levels of debt? Well, lenders are incentivized to issue non-viable loans in order to attempt to collect interest, repossess collateral, or exert future political or economic influence. For example, between 1980 and 2017 banks collected 4.2 trillion in interest alone from developing countries. To put this in perspective, this is a greater sum than all the aid given to developing countries in that same period. As well, creditors almost always have more intimate knowledge of the market and the associated risks than debtors. The asymmetrical information and power relationship between creditors and debtors is reminiscent of the gambling colloquialism: the house always wins. With this in mind, it’s curious that the narrative surrounding debt distress is that of shame and irresponsibility on the borrower, rather than on the creditor. Blame should be leveled against creditors, Western, Chinese, or otherwise, that make non-viable loans.
And still there is another underlying premise here to reconsider: What’s so wrong with high levels of debt anyways? High levels of indebtedness, along with lower levels of growth, are becoming the global norm, especially in developed countries. The debt to GDP ratio in France is 98%, in the U.S. it is 104%, and in Japan it reaches an astronomical 237%. These debt figures are greater than most African countries that are considered highly indebted. For example, Djibouti, which is considered at risk for high debt distress by the IMF, has debt at just 77% of GDP.
Developed and developing countries are treated differently with regards to debt for a number of reasons. In developed countries there is a greater sense of consumer confidence in the government’s abilities to pay back their debts. Developed countries often issue debt in their own currency, and most of the debt is held domestically rather than abroad. Regardless, allowing some countries to hold significant debts freely, while assigning stigma to others, reinforces existing inequalities within the global financial system. A double standard such as this may ultimately impede development and cooperation much more than arbitrarily selected benchmarks for “high debt distress.”