What you need to know
Public scrutiny may be the best defense against potentially harmful Chinese projects.
By Alvin Camba
The prospect of “debt traps” occurring in developing nations has been a popular recent topic in media and policy circles – and in particular, discussions of debt traps that might accompany infrastructure projects associated with China’s Belt and Road Initiative, or BRI. Chinese investment and financing deals in the Indo-Pacific region have in some cases involved high interest rates and unsustainable payment schemes that serve to elicit debt-for-equity swaps when the debtor government is unable to effectively pay back the loans.
Such controversies have also been prominent in the Philippines – where, since President Rodrigo Duterte’s rapprochement with the People’s Republic of China (PRC) in October 2016 and an accompanying increase in Chinese lending and infrastructure projects, there has been no shortage of critics claiming that Chinese loans will plunge the Philippines into a PRC-controlled debt trap.
These commentaries range from a negative comparison of China’s interest rates to that of Japan; to alarming projections of future debt burdens; to descriptions of Chinese investment as an economic “invasion” that threatens the sovereignty of the country. These arguments have been further fueled by President Rodrigo Duterte’s ambitious “Build Build Build” (BBB) program, which is set to use 7.3 percent of the country’s annual GDP to fund an evolving list of 75 major infrastructures worth US$183 billion over the next five years.
However, in considering the danger of a debt trap, it is important to analyze the particular factors at play within the host state. In the case of the Philippines, a debt trap remains unlikely in comparison to states where such projects are subject to contestation from multiple elite groups with varying interests, as well as organized civil society organizations. As will be seen in the discussion below, political factors have limited the composition of Chinese aid projects in the Philippines, and have thus far delayed their implementation.
Project composition and the Philippine economy
A debt-trap occurs when debt obligations reach an unsustainable threshold of a country’s gross domestic product (GDP) – thereby creating a high debt-to-GDP ratio, and leading to low growth that effectively uses most economic output to cover debt payments. However, if a country’s GDP growth increases faster than its debt levels, then high levels of absolute debt will not lead to a debt trap.
In the case of the Philippines, the country possesses economic fundamentals that mitigate against the danger of excessive indebtedness. Between 1999 and 2014, Philippine debt increased from US$51 to US$77 billion. However, at the same time, the country’s external debt to GDP ratio (in percentage) decreased from 61.6 percent to 27.3 percent. The total amount of the country’s annual debt service during those years ranged from US$6.5 to US$7.5 billion, but the percentage of debt service decreased from 14.6 to 6.2 percent, indicating that less of the country’s GDP has been used for servicing debt.
Whereas Sri Lankan ports target the international market, however, the Philippine economy relies on domestic consumption, and there is a huge internal demand in the Philippines for transportation services.
Many reports that predict a debt trap for the Philippines ignore the varying conditions of Chinese financial aid and loans – assuming high interest rates for all loans and progression on all Chinese commitments in order to estimate a ballooning total debt obligation. Moreover, they also ignore the likelihood that projects that generate internal demand could successfully contribute to economic growth. Indeed, a crucial issue in the Sri Lankan case is that the Mambantota Port has seen very low levels of shipping traffic, which made the project unnecessary and extremely costly. Whereas Sri Lankan ports target the international market, however, the Philippine economy relies on domestic consumption, and there is a huge internal demand in the Philippines for transportation services.
Deficiencies in transportation infrastructure have long constrained economic growth and quality of life in the Philippines. Two major Chinese-funded rail projects offer the prospect of improving this situation by reducing reliance on vehicles, and making possible the more rapid shipment of goods. The Subic Clark Railway Project, a 70-kilometer cargo rail, seeks to increase the movement of goods between the Subic and Clark Freeports, which have been major areas of growth and employment in Northern Luzon. Further south in Luzon, the Chinese-funded PNR South Rail involves a proposed 639-kilometer high-speed rail extending from Manila to Matnog, which could significantly improve transportation connectivity in the region.
Furthermore, the diversity of development lenders makes a debt trap unlikely. On a roster of approved and planned development projects issued by the Philippines government in autumn 2018, 16 Chinese-affiliated projects are listed – to include the two rail projects listed above, interprovincial road and bridge projects, and support for two major dam projects. However, the PRC is not the sole lender for such initiatives: according to the same official list, more than half of developmental infrastructure projects in the country are funded by the Japanese International Corporation Agency and the Asian Development Bank. This broader diversity of lending sources, as compared to the circumstances of nations like the Maldives and Sri Lanka, makes the Philippines far less subject to domination by a single lender.
The intersection of Philippine politics and Chinese infrastructure projects
Some of the planned PRC-funded initiatives may not even come to fruition. Unlike states with strongly centralized executive power, other actors matter in the Philippines – to include regional and local governments, economic elites, and civil society. This means that even with the support of the Duterte administration, foreign capital projects may be subject to opposition. In the current list of projects, host state actors have already delayed or modified key Chinese-supported initiatives.
In the case of the PNR South Rail mentioned above, the project has been delayed by mayors in the regions of Quezon and Bicol, whose towns would be affected by the rail construction. These mayors have competed for the location of train stations in order to concentrate economic revenue, political capital, and trade routes in their own jurisdictions. These squabbles continued until the second quarter of 2018, when a series of compromises paved the way for the project to proceed.
Another illustrative example of such local conflicts may be seen in the controversies surrounding the proposed Binondo-Intramuros Bridge in Manila (also called the “China Friendship Bridge”). The Binondo Building Association in Manila, as well as the Yulo family (an influential family in the Philippines Chamber of Commerce), complained to the National Economic Development Authority that the bridge was unnecessary, and that it would negatively affect several of their buildings.
These actors, as well as local civil society groups, invoked multiple issues to delay bridge construction: they questioned the project’s effects on traffic and local residents, and argued that the project would impact several churches, including a UNESCO Heritage Site. This group was supported by the National Historical Commission of the Philippines, a government institution that aims to preserve and research historical sites in the Philippines.
The Philippine bureaucracy has also played a role in slowing down the pace of Chinese-sponsored construction. Philippine government functionaries have often blamed the Chinese side for such delays. However, delays have occurred due to the disagreements between the Chinese and Philippine bureaucracies regarding renminbi usage, co-financing, and the employment of Chinese labor. Philippine bureaucrats, fearing a policy shift in the event of a change to a more China-skeptic administration, have wanted to ensure that the projects fulfill every possible financial and technical standard. Additionally, delays in issuing preferred lists of contractors for some projects have followed from feasibility studies required by the Philippine government – which have in turn impacted the incentives for Chinese contractors.
The combination of domestic economic demand, diversity in aid funding, and a contentious political culture and civil society in the Philippines make a Chinese-dominated debt trap unlikely. The success of President Duterte’s ongoing infrastructure drive depends on a number of factors, to include project implementation, the projected internal demand of Philippine provincial economies, and the vetting processes of Philippine bureaucrats. However, as long as the Philippines maintains public scrutiny and multi-sectoral vetting of such infrastructure projects throughout their entire life-cycle, the country faces strong prospects for maintaining its financial solvency and national sovereignty.
Read Next: The Philippines Might Be Quietly Ditching China for the United States
The News Lens has been authorized to republish this article from The Jamestown Foundation’s China Brief. China Brief is a primary source of timely information and cutting-edge analysis for policy-makers, intelligence and military personnel, academics, journalists, and business leaders.
TNL Editor: Nick Aspinwall (@Nick1Aspinwall)
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