“No serious debt sustainability analysis, and indeed no pre-emptive re-profiling of external debt, is possible without transparency concerning loan agreements,” writes Prof. Danny Leipziger.
The effects of the COVID-19 pandemic will be felt for a number of years, especially in Emerging Market Economies (EMEs) which have experienced larger fiscal deficits, increased levels of external debt, and reduced economic prospects during the current global slowdown. Critically, COVID-19’s ongoing aftershocks will affect their capacity to repay debt.
Since we know that 2021-2023 will be years of large-scale debt service repayments by EMEs, it is wise to look at the debt composition and debt profile of borrowing countries. No serious debt sustainability analysis, and indeed no pre-emptive re-profiling of external debt, is possible without transparency concerning loan agreements.
In this context, an extremely important study, How China Lends, has just been released dealing with the lending practices of the main Chinese banks who have become major creditors to many EMEs, many of them in Sub-Saharan Africa. The study looks at 100 loan agreements covering 24 borrowing countries (half of which are in Africa) and totaling over US$36 billion. The study has three major findings that are relevant to African governments and their other international lenders.
First, the study finds that loan agreements signed by EMEs with their Chinese creditors contain conditions and clauses that are the equivalent of predatory lending in commercial circles. Moreover, most of them contain far-reaching confidentiality restrictions aimed at keeping the terms and conditions secret. This is a major problem if other lenders are asked to reprofile debt or if the borrower asks the IMF for assistance. One of the main prerequisites for an orderly debt restructuring is that creditors are treated equally. This is not possible if a group of creditors position themselves outside the tent, even less possible if the terms of these loans is unknown.
Second, many of the contracts contain clauses that exclude the loan from any “Paris Club” rescheduling exercise. This can be the case even for loans to low-income countries that may have sizeable official credits to repay, either to bilateral or multilateral lenders. This once again reveals a “collective action problem,” since official lenders cannot be expected to reschedule or forgive debts if other lenders are to be paid in full.
Third, and perhaps even more worrying, is the finding that in some loan agreements repayments are backed by commodity sales, such as oil, whereas others are structured with escrow accounts, so that the lender gains access to funds directly from a special account that receives export revenue. Additionally, the study finds half of the loan agreements contain very broad “cross-default clauses,” that allow the creditor to call the entirety of the loan if any action is taken that affects Chinese investments in the borrowing country. There is also space in 90 percent of the contracts to terminate the contract if there are policy changes in the borrowing country deemed to be significant.
The authors of this report—Anna Gelpern, Sebastian Horn, Scott Morris, Brad Parks, and Christoph Trebesch—do indicate that these types of safeguards are not unheard of, but that China appears to be “a muscular and commercially-savvy lender to developing countries.” This may contrast with the collaborative rhetoric of the Belt and Road Initiative and the image of soft power diplomacy. The admonition “caveat emptor,” let the buyer beware, would seem to apply quite dramatically in the case of borrowing from China.
The contrast between the amount of scrutiny and criticism leveled by outside observers towards multilateral institutions, such as the IMF and World Bank, and the relative silence directed at this type of lending is startling. See, for example, the critique of pandemic-related lending by the IMF leveled by Oxfam, which criticizes, with limited country detail, the view of the IMF that fiscal spending may need to be redirected towards health expenditures at the cost of other government spending categories. In fact, much of the IMF’s recent lending has been essentially unconditional, and any forthcoming allocation of SDRs would be as well. Nevertheless, the Bretton Woods institutions are convenient targets, although perhaps not the right ones.
There are new efforts underway to try and get ahead of the potentially damaging debt difficulties that are expected to hit EMEs, including many African countries. The sine qua non for any discussion of debt relief is transparency and market understanding of any contingent liabilities that borrowers have accepted. This is vital inasmuch as comparable treatment is the mainstay of any debt rescheduling exercise. If, as the assessment of these 100 contracts between EME borrowers and Chinese banks demonstrates, the latter are by virtue one-sided agreements to be given preferential creditor status, it does not bode well for solving future EME debt problems, including those facing African governments and exacerbated by COVID-19.
About the Author
Danny Leipziger is Professor of International Business at the George Washington University School of Business and Managing-Director of The Growth Dialogue, a network of experts driven by the goal of promoting sustainable economic growth.
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The views and opinions expressed in this publication are solely those of the author. They do not purport to reflect the opinions or views of COVID-19 Africa Watch or any affiliated organization.