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Sri Lanka needs to mindful not only of debt trap, economic and debt crisis, and political stability with populous policies, but also to safeguard the country from more instability from any external forces – Pic by Shehan Gunasekara
Sri Lanka is in a crucial catch-22 situation. It has been asked to choose between China and allies of the United States. 
If it chooses China, Sri Lanka could face international probe over its past human rights including alleged war crimes, lose its trade benefits that are linked to human rights, possible economic sanctions, and many more economic hardships that are faced by countries like Iran and Qatar.
If the island nation chooses to stay with the US ally, then it won’t get easy money like it gets China. It has to work hard to improve its transparency, ease in doing business index, and more liberalisation to attract foreign investments.
For many Asian and Western diplomats, Sri Lanka, under President Gotabaya Rajapaksa, is clearly marching towards the Chinese camp since last November because the US and its allies are not in a position to give what Sri Lanka is desperate for at the moment – millions of dollars of loans.
And China, unlike in the previous regime led by Maithripala Sirisena, has suddenly become so generous when Sri Lanka ask for loans at any given time amid allegations of “debt-trap diplomacy” by the West.
Meanwhile, the $ 84 billion economy, downgraded by all three global rating agencies this year, has to pay nearly $ 4.5 billion annually until 2025 amid the country has yet to fill its annual trade deficit.
Sri Lanka is on ticking economic and debt time bombs.
Ahead of the US State Secretary Mike Pampoe’s Wednesday visit, the US sent a clear message to Rajapaksa administration even though President Donald Trump is busy with his re-election for the second term.
The move comes after the visit of higher level delegation led by former Chinese Foreign Minister and the current Communist Party Political Bureau Member Yang Jiechi and Quad meeting in Tokyo early this month.
Warning on rights, democracy
Dean Thompson, Principal Deputy Assistant Secretary at the Bureau of South and Central Asian Affairs, in a video conference on Thursday said the US encourages Sri Lanka “to review the options” it offers “for transparent and sustainable economic development in contrast to discriminatory and opaque practices” in the interest of strengthening the longstanding partnership between the two countries.
“We urge Sri Lanka to make difficult but necessary decisions to secure its economic independence for long-term prosperity, and we stand ready to partner with Sri Lanka for its economic development and growth,” he said.
Then he also reminded Sri Lanka’s human rights score card, which was not shown under the previous Government.
When a question was raised as to what extent the US thinks the warm relationship the Rajapaksas have with China might allow them to take less democratic moves after last week’s passage of the 20th Amendment to the Constitution, which Sri Lanka’s Opposition and rights groups say could lead to dictatorship, he said: “Obviously, we watch closely developments in Sri Lanka on these fronts, and the Secretary will, of course, be raising issues related to human rights, reconciliation, and our common commitment to democracy. Our partnership with Sri Lanka goes back a long way, through a lot of different eras, and right now, we think they’re at a point to make some choices about where they head.”
The message is sound and clear: If Sri Lanka crosses the line and sides with China, there could be implications on its past human rights violation records.
Sri Lanka has faced international inquiry into its alleged war crime in the final phase of a 26-year war that ended in 2009.
Under the Rajapaksas’ previous 2010-2015 regime, the West and international rights groups were hell-bent to probe some specific rights abuses including the killing of 17 aid works from the Paris-based Action Contre La Faim (Action Against Hunger, ACF) and 2006 killing of five Tamil students, both in Trincomalee District.
However, under the 2015-2019 regime of former President Sirisena and ex-Prime Minister Ranil Wickremesinghe, there wasn’t much insistence on the probe after the Government itself agreed to probe the allegations.
In the event Sri Lanka chooses China, the Colombo Government must be ready to face any sanction if the US chooses to tight the noose around Sri Lanka on human rights and democracy, two key words that average Sri Lankans are still confused about.
The US State Secretary’s visit is also significant because President Gotabaya Rajapaksa’s administration is yet to agree to sign $ 480 million Millennium Corporation Challenge (MCC) grant and the two security-related pacts – Status of Forces Agreement (SOFA) and Acquisition and Cross Services Agreement (ACSA).
On the verge of crisis?
Sri Lanka’s 2021 and 2022 dollar-denominated bonds dropped 5 cents or more, while its 2025 and 2026 bonds dropped below the 60 cents on the dollar threshold, Reuters reported on Friday, after the United States urged the country’s Government to make “difficult but necessary choices” regarding its ties with China.
China’s Foreign Ministry Spokesman Zhao Lijian on Friday dismissed the comments as showing a “Cold War mentality” and said the US was bullying countries to pick sides over their ties.
Sri Lanka cannot afford a higher risk premium due to the cold war between the two world super powers as its finances were fragile long before the coronavirus blow, but unless the country can win support from its allies, it runs the risk of having to default.
The island nation has already seen a tumbling currency, credit rating downgrades, bonds at half their face value, debt-to-GDP levels nearing 100% and almost 70% of Government revenues being spent on interest payments alone, all of which are signs of an economic crisis that could lead to default.
The Central Bank has repeatedly vowed however that the country will “honour all its debt service obligations”. It has to pay $7.1 billion in both principle and interest in the 12 months through end August 2021, Central Bank data showed.
China, which sanctioned a $500 million loan in March to help Sri Lanka cope with the coronavirus blow, is also likely to consider the Rajapaksa Government’s request for an additional $700 million, having pledged support to the island nation’s pandemic recovery effort.
Sri Lanka is also further negotiating a nearly $1.5-billion currency swap facility with the People’s Bank of China to boost its foreign currency reserves. Sri Lanka owes China over $5 billion so far.
Sri Lanka is unlikely to go to international capital markets this year given its risk premium has already gone up due to a rating downgrade by all three rating agencies. 
State Minister of Money and Capital Market and State Enterprise Reforms Ajith Navard Cabraal in an interview with India-based The Hindu said: “In different times in world history, different countries have been the ones which have had the most amount of cash. And now it happens to be China, so China will naturally invest all over the world.”
Loan vs. conditions
China is ready to provide loans, partly for Sri Lanka’s ambitious infrastructure and party to repay Sri Lanka’s massive loans including to China itself, Finance Ministry officials say.
There is hardly any easy money from anti-Chinese camp.
If Sri Lanka needs to borrow multilateral and any other bilateral loans, it has to undertake economic reforms, cut down its Government expenditures, improve transparency to encourage private sector investments, and reduce the budget deficit along with Government debt by boosting its revenue.
All these conditions are politically unpopular and painful for any government in power. This is the reason why any loans from International Monetary Fund (IMF) have been always criticised by Sri Lankan politicians.
The bitter truth is Sri Lankan leaders like easy money like Chinese loans with no conditions to keep their constituency happy to win the next election. But the people of this country have the pay the price for any loans, while accumulating loans from China could also be detrimental.
However, Cabraal says many of the Chinese projects will start giving return on investment in time to come, predicting the Hambantota Port to be one of the key drivers of the Sri Lankan economy over the next 25 years and the Port City to be a catalyst in adding at least 2% to GDP growth in the next decade.
“When they started to accuse Sri Lanka being in debt trap, they (the anti-Chinese camp) showed Hambantota Port as an example. Hambantota Port has borrowed only 1% of Sri Lanka’s total loan. Can a 1% loan have an impact to create a debt trap? It can’t,” Cabraal said.
“They only criticised this 10% and said it was a debt trap. At the same time period, we had borrowed 10% from international sovereign bonds. The major portion of this 10% is invested by US investors. But nobody said it was an American debt trap. They never said it was an international debt trap. This explains us that the words ‘debt trap’ are created to attack another country. We also become a victim partner of this because we also have taken loans from China.”
Cabraal also said China had invested more money in US Treasury bonds.
“When China invests in US Treasury bills, it is actually a loan given to the US. But they say it is an investment. When the money is given to the US, it becomes an investment. But when Chinese give money to Sri Lanka, it’s debt. China is actually making an investment in Sri Lanka.”
However, senior Government officials are wary of Sri Lanka leaning towards Chinese loans. “The implications of Sri Lanka’s choice between the US and China will be much bigger than the debt and economic crisis,” said a top retired Government official who asked not to be named.
“We may need to make a choice. Each one will have a penalty or reward. If we choose China, the penalty will in the form of Sri Lanka’s human rights and democracy being scrutinised. International rating agencies could further downgrade Sri Lanka’s ratings. There could be sanctions as well similar to Iran,” he said.
“Now a wall is being built around China. Sri Lanka can’t be in the middle. Still Sri Lanka is on the US side of the wall. If its crosses the line, that could be end of Sri Lanka’s economic independence and economic sanctions are likely. They will be immediate, unfathomable, and painful.”
China’s dominance
Since China’s Belt and Road Initiative (BRI), the US and its allies are unsettled with concerns over debt sustainability, alleged corrupt practices, and concerns over transparency and environmental risks in China’s BRI projects across the world.
A 2019 World Bank analysis shows that Belt and Road transport corridors could substantially improve trade, foreign investment, and living conditions for citizens in participating countries—but only if China and corridor economies adopt deeper policy reforms that increase transparency, expand trade, improve debt sustainability, and mitigate environmental, social, and corruption risks.
When the Rajapaksas found it difficult to finance their ambitious infrastructure drive amid criticism over Sri Lanka’s human rights records, it was China which funded them. The West and its allies hesitated to invest or lend Sri Lanka when it faced war crime allegations.
Under the former Rajapaksa regime from 2010 to 2015, the role of China became crucial in post-war infrastructure development. Amid criticism of building white elephants, China has been able to fund the $ 1.3 billion Magampura Mahinda Rajapaksa Port, $ 400 million worth Mahinda Rajapaksa International Airport (MRIA) in Mattala, a $ 1.35 billion, 900 MW Lakvijaya coal-fired power plant, a $ 15.3 million, 28-acre Magam Ruhunupura International Convention Centre (MRICC) with 1,500 seating capacity auditorium, and a Rs. 4.5 billion Mahinda Rajapaksa International Cricket Stadium better known as Sooriyawewa International Cricket Stadium with 35,000 seating capacity.
It has also funded $ 500 million Colombo International Container Terminal (CICT), a $ 180 million, 96-km-long Matara-Hambantota Express Highway, a $ 292 million worth 25.8 km long Colombo-Katunayake Expressway, a $ 104.3 million worth 356-metre Lotus Tower, a Rs. 3.08 billion Nelum Pokuna (Lotus Pond) Mahinda Rajapaksa Theatre, and a $ 278.2 million, 26.75-km-long Matara-Beliatta railway extension.
All of these were loans and the main contractors were Chinese construction companies and some of them were given to China as unsolicited projects, which means there was no standard bidding process at all.
Sri Lanka could have missed the opportunity since the end of the war, if not for some of this infrastructure. But economists and political observers raise concern about the price, lack of transparency in choosing the contractor, and the return on investments of projects like Hambantota port, Lotus Tower, Sooriyawewa Cricket Stadium, Hambantota Convention Centre, and Mattala Airport. Unlike Western nations or Japan, China lend the money without much scrutiny, they say.
“Without infrastructure, how can Sri Lanka develop especially after 30 years of civil conflicts?” asks Luo Chong, the Chinese Embassy Spokesman in Colombo. “If they are not happy to see China collaborating with Sri Lanka on building ports, airports, highways and railways, not satisfied with the ways and means, why don’t they come and extend their helping hands rather than just criticising?”
He also said successive Sri Lankan Governments since 1948 independence had been supporting Sri Lankan-China friendship. “I don’t think there is any difficulty for Sri Lanka to make choice as long as it is for its own national interest. The USA made similar threats in 1950s when Ceylon and China were to sign the Rubber Rice Pact, and then?”
Reality
The reality Sri Lanka is faced today is the outcome of past political manoeuvring since independence and unchecked corruption. Every time a leader comes to power, they start all from scratch, including in terms of foreign policies. Though Sri Lanka say it is non-aligned and neutral, in a practical sense it is not.
Due to international alliances political leaders made in the past, the public has suffered immensely.
President J.R. Jayawardena chose the US in 1977 over India and the result was the start of a civil war in 1983 with foreign arms training by India. Later India helped the Sri Lanka military defeat the Tamil Tiger rebels.
Sri Lanka needs to mindful not only of debt trap, economic and debt crisis, and political stability with populous policies, but also to safeguard the country from more instability from any external forces.
(The writer is former Reuters Economic Reporter for Sri Lanka and current Head of Training at Center for Investigative Reporting Sri Lanka. He can be reached at [email protected] or via twitter @shiharaneez)
