The Minister for Planning just announced that Pakistan has refused a loan from the Asian Development Bank (ADB) for the Karachi-Peshawar Railway line which is estimated to cost $8 billion. The ADB was to provide $3.5 billion of the total amount. Now, China will fund the entire foreign component of the project.
Single sourcing makes things easier for the Pakistani government, particularly when the funds are coming from a development partner who will not involve the borrower in endless complex procedures and regulatory requirements. However, China’s insistence on being the sole financier here is intriguing. Particularly when China is an important member of the ADB, and the Bank has recently made the rather strategic move of sending a Chinese national to Pakistan as the Country Director.
One reason for China’s distancing itself from ADB financing could be that China is now more interested in promoting its own international development financing institution, the Asian Infrastructure Investment Bank (AIIB), where it has greater clout than it does in the World Bank or the ADB. While the international community had previously eyed the AIIB somewhat suspiciously, China scored a major victory when the UK, followed by other European countries like Germany and France, decided to apply for membership of the Bank in spite of the US government’s explicit reservations. Of the traditional donor countries, the US and Japan are the only ones who have not yet joined the AIIB, and there are rumours that Japan is considering its options in this regard.
But what is in it for Pakistan? If the project is funded by a loan through China’s EXIM bank, the terms of lending will be reasonably favourable. The alternative is funding from the China Development Bank which operates as a commercial entity and does not typically provide concessional financing. It is unlikely that that the CDB would be used to extend credit to Pakistan so it is probably EXIM bank concessional funding that Pakistan is looking at. The Chinese government’s concessional loan facility, which is implemented through the EXIM bank, typically has a lending rate of 2 to 3 percent, with a repayment period of 15 to 20 years, and a grace period of five to seven years.
This is not significantly better than what the ADB is offering to Pakistan. Under ADB’s classification, Pakistan falls into the ‘OCR blend’ category which essentially means that the country is not eligible for the most easy concessional financing terms, but does get some form of concessional lending. Being an ‘OCR blend’ country, Pakistan would be eligible for loans at two percent rate of interest and about 25 years maturity with a grace period of 5 years.
The difference lies in the ancillary requirements. ADB’s lending comes with the need to implement safeguard policies for the environment, involuntary resettlement, and social sectors. Thus recipient countries have to either pledge that the implementation will not have negative effects in these areas, or that they will carry out prescribed mitigation measures if the possibility of damage exists. Further, the international finance institutions (mainly the ADB and the World Bank) are increasingly conscious of the need for member countries to develop their own safeguard policies, and have instituted significant technical assistance to make sure this is happening. In the longer run, instituting safeguards has obvious benefits. In the short run though, these increase implementation costs and require significant investments of time and expertise as reports have to be commissioned and reviewed and implementation plans made, separate from the main project.
China’s stated policy on foreign assistance is emphatic on how the Chinese government will not interfere in another country’s internal affairs, but will follow laws and regulations in place in the host country with regard to the environment, labour regulations etc. In effect, it is up to the host country to ensure that projects implemented by the Chinese follow environmental and other regulations — the loans do not come with any conditions. This may change in the near future as China’s Ministry of Commerce has started to issue guidelines for Chinese firms working abroad, but ultimately Chinese lending is unlikely to be as prescriptive as that of the IFIs.
Pakistan is by no means the only developing country where the IFIs are losing business. In much of Latin America and Africa, alternative financing is being sought for infrastructure financing in particular, which once was the forte of institutions like the World Bank. The issue is not just to avoid regulation and enforcement of standards but also to get the job done fast — working with the IFIs is typically a laborious process which is hugely demanding of local bureaucracies. Having said that, it would be a mistake for Pakistan to relax its regulatory regime to attract investment.
The writer is an economist and policy analyst based in Islamabad