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China urged to closely assess Lanka’s equity-swap proposal
Articles in the Chinese Communist Party-controlled newspaper have urged the Chinese Government to assess Prime Minister Ranil Wickremesinghe’s proposal to lure Chinese state-owned companies into taking up billions of US dollar debt owed to China in exchange for shares in infrastructure projects and domestic companies.
An academic has proposed closer scrutiny of the proposal. A commentator demanded clean governance of the economy and argued for tougher negotiations on the idea.
International Trade and Development Strategies Minister Malik Samarawickrama is on record as saying that Sri Lanka is eager to “reduce the current debt by inviting Chinese companies, Chinese investors, to look at some of the enterprises in Sri Lanka, the state-owned enterprises, with a view to taking at least part of that equity over.” Mr. Wickremesinghe also said in Beijing, Sri Lanka had been “talking with some companies and also the government of China about the possibility of some infrastructure projects becoming public-private partnerships, in which part of the debt will become equity held by the Chinese companies’’.
While details have not been made public, Mr. Samarawickrama mentioned state-owned enterprises.
There are 245 unviable state owned enterprises in Sri Lanka and these have become mini political fiefdoms with only 44 posting an operating profit, not net profit, in 2014. By Finance Minister Ravi Karunanayake’s own admission, these enterprises do not comply with statutory obligations, many do not submit annual reports, do not respond to audit queries, violate procurement rules, and plunder public money.
An academic at a Beijing-based university suggested in the populist Communist Party mouthpiece, Global Times that Sri Lanka’s proposal is an attempt to disown the debt owed to China.
The Global Times writer also flagged dangers to China and its enterprises considering how Sri Lanka’s politicians dragged a Chinese state project in Colombo into the centre of political games.
Meanwhile, China itself is struggling with slower economic growth (6.7 percent in the latest quarter), worsening corporate balance sheets and staggering amounts of corporate debt, especially in sectors such as real estate, manufacturing, retail and wholesale, mining, and steel.
According to a recent estimate by the IMF, US$ 1.3 trillion (Rs. 188 trillion) of Chinese corporate debt is at risk of default. This accounts for 15.5% of total commercial bank loans to the corporate sector.
Loans at risk are loans for which a borrower is unable to pay interest payments.
Sri Lanka’s sovereign debt owed to China in comparison to China’s trillion-dollar corporate debt is estimated at US$ 8 billion (Rs. 1.5 trillion).
Problem loans held by Chinese banks amount to US$ 641 billion, or 6 percent of GDP, the IMF says.
The IMF observes that the “ability of many Chinese listed firms to service their debt obligations is eroding, with higher debt and declining earnings capacity”.
But China’s government has the financial muscle, bankers, and the mechanisms to handle such debt. It has done so before, efficiently through asset management companies such as China Huarong Asset Management Company. Sri Lanka does not.
Huarong is one of four asset management companies set up by the State Council to convert debt to equity.
The company posted 16.9 billion yuan (Rs. 378b) net profit the past financial year, up by 30%. It had 370.13 billion yuan of distressed assets and booked an income 40.65 billion yuan from that business. Huarong buys up distressed debt assets from financial institutions and non-financial enterprises through bids, public auctions, blind auctions or negotiated acquisitions.
Immediately after Mr. Wickremesinghe left Beijing, the Global Times article cited Zhuang Rui, deputy dean of the Institute of International Economy at the University of International Business and Economics, as saying that Sri Lanka’s request is, “a kind of move to repudiate a debt”.
The article also cited Bai Ming, a research fellow at the Chinese Academy of International Trade and Economic Cooperation, as urging caution because of the risks to China. He says, “The request needs to be further assessed to see whether the profits brought by the swap are higher than the cost in a bid to secure the Chinese capital’’. Mr. Bai casts a wary eye on the pitfalls of the proposal, including, “no predictable profits and stable investment returns”.
Referring to the delayed controversial Port City luxury property development, now being described by Sri Lanka as an “international financial hub’’, academic Zhuang says it serves as “as a warning to an increasing number of Chinese investors who are seeking to expand their business overseas’’.
A commentary in the Global Times cautioned of the potential problems from Sri Lanka’s proposal. “It would be meaningless if China only swaps some bad debts for nonperforming assets in Sri Lanka’s enterprises. The two countries may need to set up mechanisms to ensure China has sufficient bargaining power in negotiations with Sri Lanka to obtain high quality assets,’’ writer Hu Weijia argues.
“Therefore, stakes in local companies running transport infrastructure may be attractive to China, but tough negotiations over this issue are undoubtedly needed.’’
Hu laments the lack of confidence in the continuity and stability of Sri Lanka’s economic policy and says Colombo must, “learn to respect bilateral agreements and business contracts.
“If China gets more deeply involved in the Sri Lankan economy by holding more assets instead of only lending money to the country, it will be increasingly important for Sri Lanka to run its economy free of political interference.’’
Mr. Hu added: “As for China, the country not only needs to act prudently to protect its interests from Sri Lanka’s debt woes, but also should treat the economic ties between the two countries from strategic and long-term perspectives.
“China may need to invest more in local industries which could create stable jobs for local communities to promote regional economic prosperity and social stability, ensuring that the country becomes more capable of repaying the loans offered by China.”