Demystifying Chinese Overseas Lending and Development Finance: Why China Became the World’s Largest Official Bilateral Lender

Buenos Aires, Argentina. Photo by Matias Santana via Unsplash.

The rise of China as the world’s largest official bilateral creditor has not come without debate. Within US policymaking circles in particular, concerns have been voiced of the impact of Chinese finance and whether China engages in ‘debt trap diplomacy,’ wherein finance is lent with the intent to seize a strategic public asset or gain strategic leverage in the event of non-repayment.

What are the drivers and determinants of China’s overseas lending and development finance (OLDF)? Does China’s OLDF boost or hamper economic growth in recipient countries? And is there any credibility to claims of debt trap diplomacy?

A new policy brief by Oyintarelado (Tarela) Moses, Cecilia Springer and Kevin P. Gallagher demystifies the drivers of China’s OLDF, providing insights into the determinants and impacts of Chinese OLDF, discussing what led to the increase of Chinese loans, how this finance has impacted recipient countries and debunking the debt trap diplomacy narrative.

Main findings:
  • A series of interconnected supply “push” and demand “pull” factors within recipient countries and specific sectors has enabled a tremendous amount of development finance from China.
    • Several key push factors have driven Chinese OLDF abroad, including China’s current account surplus, over­capacity in key infrastructure sectors in China, the need to secure imports and government policies and mechanisms specifically encouraging outward finance.
    • The pull factors representing recipient country demand include the need to fill finance gaps, address core infrastructure needs and a preference for Chinese finance. Ultimately, the demand for external finance is based on recipient countries’ policy goals and priorities.
  • Debt trap diplomacy is not a driver of Chinese OLDF. The authors analyzed eight examples of supposed debt trap diplomacy cases and found no empirical evidence that China lends with the end goal of seizing a strategic public asset or gaining strategic leverage in the event of non-repayment.
  • The authors also identify several problems with the China debt trap diplomacy narrative:
    • It first supposes intention and deliberation of a calculated strategy by Chinese lending institutions to entrap countries in debt and that Chinese lenders are in the business of seizing and maintaining national strategic assets of other countries. Lastly, the narrative supposes that Chinese lenders know that countries will not repay. These assumptions are highly unlikely given the fragmentation inherent in the Chinese devel­opment financing system.
  • There are also several conceptual issues with the debt trap diplomacy narrative that undermine the dynamics at play between the push and pull factors discussed:
    • First, the narrative ignores that Chinese-financed projects are driven in part by recipient country demand and countries knowingly choose loan finance from Chinese banks for their development projects.
    • Second, by removing recipient country agency by assuming recipient countries do not hold close control over their public assets and would willingly give them up, the narrative perpetuates the idea that recipient countries are victims of Chi­nese economic statecraft. It assumes recipient countries have no leverage or know-how to negotiate these deals with China or independently make decisions about aligning with China on different policy areas.
    • Third, the narrative ignores the fact that Chinese financiers, like global financiers, emphasize making profits and seek to avoid non-repayment. This is evident in many of the debt negotiations where Chinese lending institutions have preferred to defer debt payments or restructure debts.
  • Empirical evidence shows that China’s OLDF is associated with economic growth that benefits host countries.
    • It is important to note that Chinese finance can pose social, environmental and debt sustainability risks to recipient countries and as such, China should promote low-carbon, resilient and socially inclusive growth abroad, as well as participate in debt relief and emergency financing efforts.

The authors say politically charged narratives exacerbate tensions between the US and China over development finance at a time when global coordination is of the utmost urgency. Rather, the narrative focus should center on addressing pressing infrastructure and climate financing gaps in emerging market and developing economies and setting a stronger foundation for achieving the UN 2030 Sustainable Development Goals (SDGs).

Read the Policy Brief