Political turbulence, foreign debt limits and the Covid-19 pandemic have all come together to slow down Chinese investment in Pakistan as Beijing holds off on projects under the $62 billion China-Pakistan Economic Corridor (CPEC), including a $6.1 billion railway renovation plan. Here's a Deep Dive into the CPEC crisis
Political turbulence, foreign debt limits and the Covid-19 pandemic have all come together to slow down Chinese investment in Pakistan as Beijing holds off on projects under the $62 billion China-Pakistan Economic Corridor (CPEC), including a $6.1 billion railway renovation plan.
The recent controversy is surrounding the Main Line 1, or ML-1, railway project, the largest in China’s Belt and Road Initiative (BRI) in Pakistan, as Beijing is hesitant to finance it at the 1 per cent interest rate requested by Islamabad. With 2,655km of track, it connects Karachi in the South to Peshawar in the North. It also includes dualisation and upgrading of the railway track from Peshawar to Karachi.
Pakistan has now decided to seek $2.7 billion in loan out of the total estimated Chinese financing of about $6.1 billion.
The ministry of railways was in favour of making the request for full financing of $6.1 billion but due to overall debt sustainability fears, they decided to request for the loan across three phases, subject to China’s ratification.
Reports indicate that the Pakistan railways would find it difficult to continue paying salaries and pensions to its employees without a cash injection from the federal government. Federal minister for railways Sheikh Rashid Ahmed claimed that ML-1 will provide jobs to 150,000 people in Pakistan. But this claim has been contested by critics, experts and the opposition.
The financial breakdown is for Pakistan to invest 10 per cent of the project cost as equity and to bear the remaining 90 per cent through a Chinese loan under the CPEC framework. Only Chinese companies are entitled to bid on the project, according to government sources.
The first phase is scheduled to start from January 2021. However, after the indecision showed by Beijing on agreeing to terms requested by Pakistan, the ML-1 project looks unlikely to start on schedule. Experts believe that Beijing is employing its typical delaying tactics in order to get a better deal. Chinese authorities have also conveyed that the interest rate could be higher than the 1 per cent Pakistan is asking for.
This project is not a “Chinese investment” but a project backed by “Chinese loans”. Economists monitoring CPEC progress opine that China wants to ensure that projects are viable enough to make financial sense even under tighter conditions. They have been reluctant to slash interest rates on new or existing projects both in Pakistan and globally.
Abdul Basit, an associate research fellow at Singapore’s S. Rajaratnam School of International Studies and a former research analyst at Pakistan Institute for Peace Studies, spoke exclusively to India Today on the overall debt situation of Pakistan and the strategic nature of the Pakistan-China relationship.
“The CPEC and specifically the ML-1 project were negotiated, re-negotiated, suspended and re-commenced. There were differences between the two nations across various stages. The primary difference has been around the rate of interest of these loans. China, I feel, is playing the hardball but will eventually provide the monetary assistance. China will indulge in some posturing to get a better deal as Pakistan cannot get a loan from anyone else in the current diplomatic and financial climate.”
Against this backdrop, Pakistan has secured a temporary debt relief of $3.2 billion under the G-20 Covid-19 Debt Service Suspension Initiative.
Jeremy Garlick, an assistant professor at the Jan Masaryk Centre of International Studies at the Prague University of Economics and Business, was quoted across Pakistani newspapers saying Beijing was using delaying tactics on the ML-1 as it doesn’t want to end up with a bad deal on its hands.
“Beijing doesn’t want to say no to ML-1, it wants to appear committed in Pakistan, but at the same time it is aware of the risky environment for Chinese investments,” he added.
It is now believed that the G-20 debt relief can only briefly stem the tide but can't hide the fact that Pakistan needs long-term solutions to deal with its serious lack of foreign reserves. If conditions continue to worsen, Pakistan may have to back down and accept the Chinese loan at an interest rate closer to China's offered rate.
Internal Report in Pakistan Blames the Govt
The Institute of Policy Reforms (IPR), a think-tank run by a senior leader of Pakistan’s ruling party, the Pakistan Tehreek-e-Insaf (PTI), has made a startling claim that “Pakistan has slipped into a debt trap due to the government’s failure to bring reforms and weak fiscal management, which has also raised national security concerns.”
In a report published by the IPR titled ‘Pakistan’s debt and debt servicing is cause of concern’, the specifics behind the crippling economy and soaring debts and liabilities have been discussed, while the government has been criticised for weak fiscal management.
“We are in a debt trap that is entirely of our own making. It is a risk to our national security. The government was borrowing to repay the maturing debt, which now seems to be a concern for all the political parties, businessmen and experts,” the report said.
The IPR is run by senior PTI leader and former commerce minister Humayum Akhtar Khan.
The report further states that Pakistan added a total of Rs 4.3 trillion to its debts and liabilities in the fiscal year 2019-20 only, which was equal to 10.4 per cent of the country’s gross domestic product (GDP).
“In two years, total debt and liabilities have grown by a massive 14.7 trillion. This shows weak fiscal management as well an inability to stimulate growth in the productive sectors. It also reflects a failure to make the necessary reforms in the key sectors of energy and power,” the report added.
The report recorded that Pakistan’s total debt and liabilities stood at 107 per cent of its GDP or Rs 44.5 trillion while gross public debt was equal to at least 87 per cent of the GDP during the last fiscal that ended June 2020.
Pakistan’s external debt and liabilities have risen from $95 billion in 2018 to about $113 billion by end of the last fiscal, a worrisome addition of $17.8 billion to the total external debt and liabilities in just two years.
According to the report, over the course of two years, Pakistan’s foreign debt and liabilities have increased from $95.2 billion to $112.8 billion, an addition of $17.6 billion or 18.5 per cent. External public debt was logged at $78 billion in June-end 2020, showing a surge of $4.5 billion during FY20. The pandemic triggered the government to borrow an additional $3.7 billion worth of grants and loans from various countries to support the country’s relief efforts. Notwithstanding paying $24.5 billion in interest and principal loans over the past two years, the foreign debt and liabilities continue to rise, signifying the possibility of sliding into a debt trap.
Furthermore, the total public debt-to-GDP ratio increased from 72.1 per cent to 87.2 per cent.
Corruption in Imran Khan’s Govt Playing a Part?
Prime Minister Imran Khan is now under heavy criticism from the media and the opposition for a range of complaints, including allegations that his government is remote-controlled by the army, and that Pakistan is squandering a golden economic opportunity by not planning and prioritising big-ticket Chinese infrastructure investments and projects.
Soon after Khan assumed office in 2018, he put on hold many CPEC projects, owing to suspicions of corruption under the previous regime and renegotiated the schemes to suit his narratives.
Two years since, his members are now being named in bigger corruption complaints themselves in the country’s power sector, where at least one-third of the power companies are part of the CPEC-related projects.
A 278-page inquiry report, compiled by the Securities and Exchange Commission of Pakistan (SECP), was presented to Khan in April, unearthing the alleged irregularities that were estimated to be worth over $1.8 billion in subsidies allegedly given to 16 independent power producers (IPPs), including those belonging to Khan’s advisers Razak Dawood and Nadeem Baber. The profits earned by Chinese power companies were also scrutinised in the report.
China’s Debt-trap Diplomacy
China's debt-trap diplomacy, evocative of the British colonial-era practices, had recently claimed Laos the small, resource-rich nation. Finding it difficult to pay back the Chinese loans, Laos handed China the majority control of its national electric grid at a precarious time when Laos’ state-owned electricity company's debt has spiraled to 26 per cent of its GDP.
Sri Lanka and Pakistan, meanwhile, are taking fresh loans from China to pay off old loans, highlighting the brutal cycle in which they find themselves stuck. Both nations have been already ceded strategic assets to China.
Less than three years ago, Sri Lanka leased out Indian Ocean region's most strategically located port (Hambantota), and more than 6,000 hectares of land around it to China. Pakistan has already given China exclusive rights, coupled with a tax holiday, to run Gwadar port for the next 40 years.
Tajikistan’s routine borrowing from 2006 resulted in the nation ceding 1,158 sq km of the Pamir mountains to China which is now used by Chinese companies to mine gold, silver and other mineral ores.
Another neighbour Kyrgyzstan also pursued relief from China last month despite already owing a lot of debt to it. In Africa, a long list of countries want suspension and renegotiations of their debt repayments to Beijing, especially in the aftermath of the Covid-19 pandemic, including Angola, Cameroon, Congo, Ethiopia, Kenya, Mozambique and Zambia.
Researcher Abdul Basit explains: “The ratio of Chinese loans with respect to all other international loans is roughly only around 15 per cent. Pakistan has always had a larger expenditure than what it earns. Pakistan always borrows. Circular debt is indeed a major problem. The American loans are also not sustainable. But China’s debt threat diplomacy is something Pakistan must be wary of. Pakistan has to acknowledge that some of these deals do favour China more than Pakistan.”
The Severity of the Situation
The State Bank of Pakistan’s (SBP) reliance on loans to build foreign currency reserves has more than doubled to $5.8 billion, indicating that over $12 billion worth of gross official reserves were the result of borrowing.
In February 2020, when Pakistan was implementing the IMF programme the SBP’s borrowing under the swap and future contracts was $2.9 billion, including $1.6 billion in long-term contracts. The SBP then decided to tap the Chinese trade facility for debt payment. This provided temporary relief for the government.
Meanwhile, $4 billion worth of short-term loans are maturing in the next few months which were borrowed from Saudi Arabia and the UAE. Although the Pakistan government will be expecting favours from the Gulf countries via loan extensions, it is something that will take a lot of negotiations.
The government has also not been able to get the suspended $6 billion IMF programme restored. The IMF is holding strong with respect to two conditions of introducing a mini-budget and increasing electricity tariffs, which has complicated matters for PM Imran Khan whose government is already being criticised owing to high inflation.
Pakistan has been a consistent recipient of foreign loans and assistance in the form of project and programme loans and grants for social and economic development objectives through budgetary and balance-of-payments support.
These loans are generally sought to realise broad development and economic objectives or for specific projects and services, owing to lack of domestic resources. In case of improper utilisation of funds and ineffective implementation, it often leads to debt accumulation and higher servicing cost i.e. a debt trap.
Pakistan’s performance in the utilisation of both project and programme loans has been far from satisfactory. Hence, it is not a surprise that the debt-to-GDP ratio has gone beyond 90 per cent and is threatening to grow further.
Most of project and programme loans are focused on reforming the taxation and energy sectors. Yet both sectors have struggled to show desired results, owing to inherent governance problems across all tiers.
In recent weeks, a review of all projects funded by Asian Development Bank (ADB), World Bank, Islamic Development Bank (IDB), Japan, France, Germany and the United States (other than CPEC) in the power sector showed miserable performance.
For instance, eight of the 14 key projects in the power sector have been termed ‘problematic’ or ‘partially satisfactory’. Total funds committed by foreign lending agencies (other than China) for these projects were around $3.42bn. But more than $3bn of the $3.42bn (roughly 89%) could not be disbursed owing to slow progress.
The World Bank (ongoing portfolio in Pakistan is worth $10.4bn for 52 projects) also expressed concerns about several slow-moving projects and requested the federal and provincial executing agencies to remove bottlenecks immediately. Most of the World Bank-funded projects are termed as ‘at risk’ due to slow progress and other bureaucracy issues.
In trying to balance the reserves, Pakistan launched “Roshan Digital Accounts” for overseas Pakistanis to boost both home remittances and foreign portfolio investment (FPI) in government debt securities. This was an attempt to boost foreign direct investment (FDI) and exports. The purpose was to keep the balance of payments in shape at a time when geopolitical compulsions and a Covid-triggered global economic slowdown pose challenges for the heavily indebted country. Pakistan’s total external debt and liabilities went up to $113.8 billion in September 2020 from $107bn a year ago.
Local Resistance & Challenges to CPEC
China understands that nationalist and separatist forces in Balochistan and Sindh provinces have stepped up their activities against the projects, which in recent weeks has seen Chinese workers and engineers working in the regions targeted and killed by armed separatists.
The literature of these nationalist forces argues that the Pakistan army has colluded with China to plunder Baloch and Sindh natural resources. The cost of providing around-the-clock security to Chinese nationals is raising the price of the projects at a time when Pakistan’s economy is failing.
As recently as last week, Pakistan claimed to have evidences of Indian involvement in triggering attacks against the CPEC projects in order to sabotage the same.
Abdul Basit says, “The Baluchi problem was something that started in 2006, owing to the assassination of Akbar Bugti who was the Tumandar of the Bugti tribe of Baloch people and the governor of the province. This is something that is internal to Pakistan. Of course, countries like India may look to fish in troubled waters of Pakistan but to completely blame India for attacks by these nationalist forces may not hold ground.”
One of the stated goals of CPEC is to develop a maritime and land-based trade corridor from Gwadar port in Pakistan to western China and central Asia via the Karakorum Highway (KKH). However, because Pakistan is sandwiched between an unstable Afghanistan, India, and the Himalayan mountains, transportation through the trade corridor is expensive, difficult, and unlikely to be a viable option. The route via Strait of Malacca is still way more economical and safer.
The Gwadar port, on the other hand, has struggled to attract the 100 million tonnes of cargo promised in the master plan. Today, the port is only serving a few major Chinese shipping companies which carry construction materials for CPEC-related projects.
More broadly, CPEC construction itself has brought little economic value to Pakistan. Projects, once hailed for its promise to bring employment and wealth, have instead been built by Chinese labour, equipment, and materials. Reports indicate that after five years and $20 billion of realised investments, only 75,000 jobs have been created in Pakistan linked to CPEC far short of the estimated 1.5 million jobs per year promised in the original plan.
On questions related to the financial viability of CPEC and BRI-related projects between China and Pakistan, Abdul Basit says, “The financial viability of these projects is something that we are yet to see bear fruit. Just because there is an investor to build something in Pakistan for whatever reasons does not necessarily mean that it will lead to prosperity. It all depends on how Pakistan connects the industries to create a viable ecosystem that results in economic uplifting of people and businesses. It also depends on how well the deals have been negotiated and structured.”
“Pakistan has to build and upskill its technical base and manpower to best utilise these developmental projects.”
Pakistan’s Increased Chinese Dependence
China's opaque loans to Pakistan are also an impediment in Pakistan getting further loans from Western countries. The Global lenders want greater transparency on what China is up to before being willing to make certain moves themselves they don't want to be in the position of de facto bailing out Chinese lending institutions.
With no further possibility of getting loans from Western nations, Islamabad is left with no choice but to seek them from China for projects it considers economically significant, as not all China-backed projects have come to a halt.
There is a track record from the Pakistani side of claiming that CPEC will be a 'game-changer,' but so far there is no sign of any game being changed.
“While questions are being raised of Pakistan’s ever-increasing dependence on China, it is fair to say that Pakistan does not have viable alternatives of options. With India and the US maintaining a healthy and beneficial relationship and the formation of the QUAD, China is Pakistan’s safety net,” Abdul Basit comments.
“Pakistan’s relationship with Saudi Arabia, which has been a perennial cash cow, has also seen some distancing of late. It is not the same as it was five years ago,” he added.
Pakistan’s insecurity is a well-known trait that has also been recorded by former US President Barack Obama in his latest book ‘A Promised Land’. In one of the chapters, he comments that “not only did the Pakistan military (and in particular its intelligence arm, ISI) tolerate the presence of Taliban headquarters and leadership in Quetta, near the Pakistani border, but it was also quietly assisting the Taliban as a means of keeping the Afghan government weak and hedging against Kabul’s potential alignment with Pakistan’s archrival, India.” Here, Pakistan was allying with the Taliban to keep India out of Afghanistan. Now, India’s closeness with the USA has all but ended any hopes for Pakistan to not rely on China.
(The writer is a Singapore-based Open-Source Intelligence analyst