China loans pushing world’s poorest countries to brink of collapse; A detailed look

A dozen poor countries are facing economic instability and even collapse under weight of hundreds of billions of dollars in foreign loans, much of m from world’s biggest and most unforgiving government lender, China.

An Associated Press analysis of a dozen countries most indebted to China — including Pakistan, Kenya, Zambia, Laos and Mongolia — found paying back that debt is consuming an ever-greater amount of tax revenue needed to keep schools open, provide electricity and pay for food and fuel. And it’s draining foreign currency reserves se countries use to pay interest on those loans, leaving some with just months before that money is gone.

Behind scenes is China’s reluctance to forgive debt and its extreme secrecy about how much money it has loaned and on what terms, which has kept or major lenders from stepping in to help. On top of that is recent discovery that borrowers have been forced to put cash in hidden escrow accounts that push China to front of line of creditors to be paid.

Countries in AP’s analysis h as much as 50% of ir foreign loans from China and most were devoting more than a third of government revenue to paying off foreign debt. Two of m, Zambia and Sri Lanka, have alrey gone into default, unable to make even interest payments on loans financing construction of ports, mines and power plants.

In Pakistan, millions of textile workers have been laid off because country has too much foreign debt and can’t afford to keep electricity on and machines running.

In Kenya, government has held back paychecks to thousands of civil service workers to save cash to pay foreign loans. president’s chief economic viser tweeted last month, “Salaries or default? Take your pick.”

Since Sri Lanka defaulted a year ago, a half-million industrial jobs have vanished, inflation has pierced 50% and more than half population in many parts of country has fallen into poverty.

Experts predict that unless China begins to soften its stance on its loans to poor countries, re could be a wave of more defaults and political upheavals.

“In a lot of world, clock has hit midnight,” said Harvard economist Ken Rogoff. “ China has moved in and left this geopolitical instability that could have long-lasting effects.”

HOW IT'S PLAYING OUT

A case study of how it has played out is in Zambia, a landlocked country of 20 million people in sourn Africa that over past two deces has borrowed billions of dollars from Chinese state-owned banks to build dams, railways and ros.

loans boosted Zambia’s economy but also raised foreign interest payments so high re was little left for government, forcing it to cut spending on healthcare, social services and subsidies to farmers for seed and fertilizer.

In past under such circumstances, big government lenders such as U.S., Japan and France would work out deals to forgive some debt, with each lender disclosing clearly what y were owed and on what terms so no one would feel cheated.

But China didn't play by those rules. It refused at first to even join in multinational talks, negotiating separately with Zambia and insisting on confidentiality that barred country from telling non-Chinese lenders terms of loans and wher China h devised a way of muscling to front of repayment line.

Amid this confusion in 2020, a group of non-Chinese lenders refused desperate pleas from Zambia to suspend interest payments, even for a few months. That refusal ded to drain on Zambia’s foreign cash reserves, stash of mostly U.S. dollars that it used to pay interest on loans and to buy major commodities like oil. By November 2020, with little reserves left, Zambia stopped paying interest and defaulted, locking it out of future borrowing and setting off a vicious cycle of spending cuts and deepening poverty.

Inflation in Zambia has since soared 50%, unemployment has hit a 17-year high and nation’s currency, kwacha, has lost 30% of its value in just seven months. A United Nations estimate of Zambians not getting enough food has nearly tripled so far this year, to 3.5 million.

“I just sit in house thinking what I will eat because I have no money to buy food,” said Marvis Kunda, a blind 70-year-old widow in Zambia's Luapula province whose welfare payments were recently slashed. “Sometimes I eat once a day and if no one remembers to help me with food from neighborhood, n I just starve.”

A few months after Zambia defaulted, researchers found that it owed $6.6 billion to Chinese state-owned banks, double what many thought at time and about a third of country’s total debt.

“We’re flying blind,” said Br Parks, executive director of AidData, a research lab at College of William & Mary that has uncovered thousands of secret Chinese loans and assisted AP in its analysis. “When you look under cushions of couch, suddenly you realize, ‘Oh, re’s a lot of stuff we missed. And actually things are much worse.’”

DEBT AND UPHEAVAL

China’s unwillingness to take big losses on hundreds of billions of dollars it is owed, as International Monetary Fund and World Bank have urged, has left many countries on a tremill of paying back interest, which stifles economic growth that would help m pay off debt.

Foreign cash reserves have dropped in 10 of dozen countries in AP’s analysis, down an average 25% in just a year. y have plunged more than 50% in Pakistan and Republic of Congo. Without a bailout, several countries have only months left of foreign cash to pay for food, fuel and or essential imports. Mongolia has eight months left. Pakistan and Ethiopia about two.

“As soon as financing taps are turned off, justment takes place right away," said Patrick Curran, senior economist at researcher Tellimer. “ economy contracts, inflation spikes up, food and fuel become unaffordable.”

Mohamm Tahir, who was laid off six months ago from his job at a textile factory in Pakistani city of Multan, says he has contemplated suicide because he can no longer bear to see his family of four go to bed night after night without dinner.

“I've been facing worst kind of poverty,” said Tahir, who was recently told Pakistan’s foreign cash reserves have depleted so much that it was now unable to import raw materials for his factory. "I have no idea when we would get our jobs back.”

Poor countries have been hit with foreign currency shortages, high inflation, spikes in unemployment and widespre hunger before, but rarely like in past year.

Along with usual mix of government mismanagement and corruption are two unexpected and devastating events: war in Ukraine, which has sent prices of grain and oil soaring, and U.S. Federal Reserve’s decision to raise interest rates 10 times in a row, latest this month. That has me variable rate loans to countries suddenly much more expensive.

All of it is roiling domestic politics and upending strategic alliances.

In March, heavily indebted Honduras cited “financial pressures” in its decision to establish formal diplomatic ties to China and sever those with Taiwan.

Last month, Pakistan was so desperate to prevent more blackouts that it struck a deal to buy discounted oil from Russia, breaking ranks with U.S.-led effort to shut off Vlimir Putin’s funds.

In Sri Lanka, rioters poured into streets last July, setting homes of government ministers aflame and storming presidential palace , sending leer tied to onerous deals with China fleeing country.

CHINA’S RESPONSE

Chinese Ministry of Foreign Affairs, in a statement to AP, disputed notion that China is an unforgiving lender and echoed previous statements putting blame on Federal Reserve. It said that if it is to accede to IMF and World Bank demands to forgive a portion of its loans, so do those multilateral lenders, which it views as U.S. proxies.

“We call on se institutions to actively participate in relevant actions in accordance with principle of ‘joint action, fair burden’ and make greater contributions to help developing countries tide over difficulties,” ministry statement said.

China argues it has offered relief in form of extended loan maturities and emergency loans, and as biggest contributor to a program to temporarily suspend interest payments during coronavirus pandemic. It also says it has forgiven 23 no-interest loans to African countries, though AidData’s Parks said such loans are mostly from two deces ago and amount to less than 5% of total it has lent.

In high-level talks in Washington last month, China was considering dropping its demand that IMF and World Bank forgive loans if two lenders would make commitments to offer grants and or help to troubled countries, according to various news reports. But in weeks since re has been no announcement and both lenders have expressed frustration with Beijing.

“My view is that we have to drag m — maybe that’s an impolite word — we need to walk toger," IMF Managing Director Kristalina Georgieva said earlier this month. "Because if we don’t, re will be catastrophe for many, many countries.”

IMF and World Bank say taking losses on ir loans would rip up tritional playbook of dealing with sovereign crises that accords m special treatment because, unlike Chinese banks, y alrey finance at low rates to help distressed countries get back on ir feet. Chinese foreign ministry noted, however, that two multilateral lenders have me an exception to rules in past, forgiving loans to many countries in mid-1990s to save m from collapse.

As time runs out, some officials are urging concessions.

Ashfaq Hassan, a former debt official at Pakistan’s Ministry of Finance, said his country’s debt burden is too heavy and time too short for IMF and World Bank to hold out. He also called for concessions from private investment funds that lent to his country by purchasing bonds.

“Every stakeholder will have to take a haircut,” Hassan said.

China has also pushed back on idea, popularized in Trump ministration, that it has engaged in “debt trap diplomacy,” leaving countries sdled with loans y cannot afford so that it can seize ports, mines and or strategic assets.

On this point, experts who have studied issue in detail have sided with Beijing. Chinese lending has come from dozens of banks on mainland and is far too haphazard and sloppy to be coordinated from top. If anything, y say, Chinese banks are not taking losses because timing is awful as y face big hits from reckless real estate lending in ir own country and a dramatically slowing economy.

But experts are quick to point out that a less sinister Chinese role is not a less scary one.

“re is no single person in charge,” said Teal Emery, a former sovereign loan analyst who now runs consulting group Teal Insights.

ds AidData’s Parks about Beijing, “y’re kind of making it up as y go along. re is no master plan.”

LOAN SLEUTH

Much of credit for dragging China’s hidden debt into light goes to Parks, who over past dece has h to contend with all manner of roblocks, obfuscations and falsehoods from authoritarian government.

hunt began in 2011 when a top World Bank economist asked Parks to take over job of looking into Chinese loans. Within months, using online data-mining techniques, Parks and a few researchers began uncovering hundreds of loans World Bank h not known about.

China at time was ramping up lending that would soon become part of its $1 trillion “Belt and Ro Initiative” to secure supplies of key minerals, win allies abro and make more money off its U.S. dollar holdings. Many developing countries were eager for U.S. dollars to build power plants, ros and ports and expand mining operations.

But after a few years of straightforward Chinese government loans, those countries found mselves heavily indebted, and optics were awful. y feared that piling more loans atop old ones would make m seem reckless to credit rating agencies and make it more expensive to borrow in future.

So China started setting up offshore shell companies for some infrastructure projects and lent to m inste, which allowed heavily indebted countries to avoid putting that new debt on ir books. Even if loans were backed by government, no one would be wiser.

In Zambia, for example, a $1.5 billion loan from two Chinese banks to a shell company to build a giant hydroelectric dam didn't appear on country's books for years.

In Indonesia, a Chinese loan of $4 billion to help it build a railway also never appeared on public government accounts. That all changed years later when, overbudget by $1.5 billion, Indonesian government was forced to bail out railro twice.

“When se projects go b, what was vertised as a private debt becomes a public debt,” Parks said. “re are projects all over globe like this.”

In 2021, a dece after Parks and his team began ir hunt, y h gared enough information for a blockbuster finding: China’s hidden loans amounted to at least $385 billion in 88 countries, and many of those countries were in far worse shape than anyone knew.

Among disclosures was that Laos was on hook for a $3.5 billion Chinese loan to build a railway system, which would take nearly a quarter of country’s annual output to pay off.

Anor AidData report around same time suggested that many Chinese loans go to projects in areas of countries favored by powerful politicians and frequently right before key elections. Some of things built me little economic sense and were riddled with problems.

In Sri Lanka, a Chinese-funded airport built in president’s hometown away from most of country’s population is so barely used that elephants have been spotted wandering on its tarmac.

Cracks are appearing in hydroelectric plants in Uganda and Ecuor, where in March government got judicial approval for corruption charges tied to project against a former president now in exile.

In Pakistan, a power plant h to be shut down for fear it could collapse. In Kenya, last key miles of a railway were never built due to poor planning and a lack of funds.

JUMPING TO FRONT OF LINE

As Parks dug into details of loans, he found something alarming: Clauses mandating that borrowing countries deposit U.S. dollars or or foreign currency in secret escrow accounts that Beijing could raid if those countries stopped paying interest on ir loans.

In effect, China h jumped to front of line to get paid without or lenders knowing.

In Uganda, Parks revealed a loan to expand main airport included an escrow account that could hold more than $15 million. A legislative probe blasted finance minister for agreeing to such terms, with le investigator saying he should be prosecuted and jailed.

Parks is not sure how many such accounts have been set up, but governments insisting on any kind of collateral, much less collateral in form of hard cash, is rare in sovereign lending. And ir very existence has rattled non-Chinese banks, bond investors and or lenders and me m unwilling to accept less than y’re owed.

“ or creditors are saying, ‘We’re not going to offer anything if China is, in effect, at he of repayment line,’” Parks said. “It les to paralysis. Everyone is sizing each or up and saying, ‘Am I going to be a chump here?’”

LOANS AS ‘CURRENCY EXCHANGES’

Meanwhile, Beijing has taken on a new kind of hidden lending that has ded to confusion and distrust. Parks and ors found that China’s central bank has effectively been lending tens of billions of dollars through what appear as ordinary foreign currency exchanges.

Foreign currency exchanges, called swaps, allow countries to essentially borrow more widely used currencies like U.S. dollar to plug temporary shortages in foreign reserves. y are intended for liquidity purposes, not to build things, and last for only a few months.

But China’s swaps mimic loans by lasting years and charging higher-than-normal interest rates. And importantly, y don’t show up on books as loans that would d to a country’s debt total.

Mongolia has taken out $5.4 billion in such swaps, an amount equivalent to 14% of its total debt. Pakistan took out nearly $11 billion in three years and Laos has borrowed $600 million.

swaps can help stave off default by replenishing currency reserves, but y pile more loans on top of old ones and can make a collapse much worse, akin to what happened in runup to 2009 financial crisis when U.S. banks kept offering ever-bigger mortgages to homeowners who couldn’t afford first one.

Some poor countries struggling to repay China now find mselves stuck in a kind of loan limbo: China won’t budge in taking losses, and IMF won’t offer low-interest loans if money is just going to pay interest on Chinese debt.

For Ch and Ethiopia, it’s been more than a year since IMF rescue packages were approved in so-called staff-level agreements, but nearly all money has been withheld as negotiations among its creditors drag on.

“You’ve got a growing number of countries that are in dire financial straits,” said Parks, attributing it largely to China’s stunning rise in just a generation from being a net recipient of foreign aid to world’s largest creditor.

“Somehow y’ve managed to do all of this out of public view,” he said. “So unless people understand how China lends, how its lending practices work, we’re never going to solve se crises.”