Beijing's diplomacy unravels

Pandemic reveals flaws at the heart of infra lending plan

Before Covid-19 spread from Wuhan to the world, many developing countries had begun to think of the People’s Republic of China as their first choice for development partnerships or financing. Yet one fallout of the pandemic has been to reveal that the entire broader outreach to the world masterminded by President Xi Jinping contains fundamental flaws. In spite of the new rhetorical aggression that defines Xi-era Chinese diplomacy, the fact remains that its development partnerships have run into severe road-blocks, even in those countries that were most vulnerable to Beijing’s offers of capital investment and aid.

 

Covid-19’s economic effects have been felt most harshly in those countries that are credit-constrained — which are already burdened by debt or for various reasons struggle to access capital markets in order to borrow their way through the pandemic. Many of these countries are those which were targeted by Beijing’s lending agencies. Recent work by Germany’s Kiel Institute for the World Economy noted that about half the debt to China was not publicly recorded. For the 50 countries that are the most indebted recipients of Chinese direct lending, the stock of their debt to China was on average 40 per cent of the total reported external debt. In addition, according to the Kiel IWE economists, “China’s state-driven lending abroad typically involves relatively high interest rates and short maturities, in contrast to the mostly concessional lending terms of other official lenders such as the World Bank or OECD governments”. Further, Chinese “aid” focuses on hard infrastructure. According to work by the AidData collective at William & Mary College in the US, “nearly 90 per cent of China’s overseas spending focuses on infrastructure”.

 

This explains why the Belt and Road Initiative, for example, gained popularity. The world was starved of infrastructure finance, as most traditional lenders focused on “softer” infrastructure such as education and health; and those that did lend to infrastructure avoided countries that were conflict-ridden or had excessive political corruption or very low transparency. Chinese lending had no such problems. This model of development diplomacy had run into problems even before the pandemic. For one, politically preferred infrastructure projects may not be those that provide a reasonable return to Chinese lenders. But if, on the other hand, Beijing arm-twisted countries into accepting terms that secured a return on its capital, then the projects themselves would run into trouble over time. This is the case, for example, with the thermal power plants that comprise a vast majority of the spending in the so-called China-Pakistan Economic Corridor, which is less a “corridor” and more a set of coal-burning plants that guaranteed a return on equity of between 17 and 20 per cent.

 

The pandemic’s effect on government finance in indebted countries, meanwhile, has forced many of them towards renegotiation. And here it is difficult to either convince Chinese state lenders to re-examine their returns, or to get Western or multilateral lenders to bail out Chinese bondholders. It may or may not be the case that Chinese state lenders set countries up for debt traps. But intent does not matter if, during a crisis, the presence of heavy Chinese debt makes it difficult to access bailouts from elsewhere. Mr Xi’s model for growing Beijing’s global influence is broken, and he will need to take it back to the drawing board.