SRI LANKA’S HAMBANTOTA PORT: A CASE OF CHINA’S ‘DEBT-TRAP DIPLOMACY’? Case ID: 2020026D Introduction Post-disaster economic recovery measures were badly needed for Hambantota, a coastal town in Hambantota District in southern Sri Lanka—and the hometown of former President Magampura Mahinda Rajapaksa (2005-2015)—after the town was devastated by the Indian Ocean Tsunami in 2004. The town also had one of the lowest per-capita incomes in Sri Lanka. A development opportunity presented itself when Rajapaksa came to power in 2005. He pushed for major infrastructure projects in Hambantota to revitalize its economy, which included the Hambantota Port Development Project. An earlier feasibility study in 2003 had concluded that the project was not economically viable. Sri Lanka already had a major port in Colombo, and it still had a great potential for expansion (Figure 1). However, a second study in 2006 commissioned by Sri Lanka’s government gave a positive assessment of the project. After failing to obtain financing assistance from India and the U.S. for the project, Sri Lanka turned to China for help. The Chinese government readily offered assistance for commercial and strategic reasons. The project was launched in 2007 with a loan agreement between the Sri Lankan government and the Export-Import Bank of China. The contract to build the port was awarded to China Harbour Engineering Company, Beijing’s largest state-owned company that was listed on the Hong Kong Stock Exchange. Construction for the port began in 2008. This case was developed by Dr. Holvert HUNG. The case does not reflect the views of the Division of Public Policy, Institute for Public Policy, and Leadership and Public Policy Executive Education, Hong Kong University of Science and Technology, nor is it intended to suggest correct or incorrect handling of the situation depicted. The case is not intended to serve as a primary source of data and is meant solely for class discussion. Copyright © 2021 by the Division of Public Policy, Institute for Public Policy, and Leadership and Public Policy Executive Education at the Hong Kong University of Science and Technology. All rights reserved. This publication can only be used for educational purposes. Figure 1: Location of Hambantota (Source: BBC, https://www.bbc.com/news/world-asia-40761732) When phase 1 of the construction of the port was completed in 2012, the Sri Lankan government announced that ships carrying automobile imports bound for the Port of Colombo would be diverted to Hambantota Port as part of the measures to kick-start business there. Despite such measures, only a total of 34 ships docked at Hambantota Port that year. In 2013, Hambantota Port was incorporated into the Belt and Road Initiative. The following year in 2014, the number of RORO (Roll-on/roll-off) ships that berthed at Hambantota Port increased to 335. In 2018, 300 vessels called at the Port for various services including repairs.1 It became increasingly urgent for the Sri Lankan government to raise funds to service its loans from China and other countries, especially the U.S. The government decided to do so by leasing Hambantota Port to China. In 2016, it began negotiations with China on a lease agreement in which China Merchants Group, Beijing’s largest state-run company, would own 70 per cent of Hambantota Port in exchange for a US$1.12 billion investment.2 This lease agreement would last for 99 years, and included a 15,000-acre (60.7-square-kilometre) parcel of land adjacent to the Hambantota Port that would be jointly developed by Sri Lanka and China into a logistics and industrial zone.3 However, the lease agreement was delayed by opposition from affected villagers in the nearby town, the Port Workers Union, a Buddhist association, and some international stakeholders (specifically India and the U.S.). Hambantota Port became the most controversial China-financed 2 project in Sri Lanka. On June 25, 2018, The New York Times published an article “How China Got Sri Lanka to Cough Up a Port” that criticised the agreement, major points being that the lease was not only too long, but also that it was part of China’s ‘debt trap diplomacy’, an alleged tactic in which China readily offered financing to loan-starved countries for large, unsound infrastructure projects. When these countries subsequently became unable to service the loans, they would be trapped into accepting debt-to-equity swaps, handing over ownership of these projects to China. This strategy would allow China to gain control over the natural assets of debtor countries. It was also argued that China’s interests in Hambantota Port went beyond the purely commercial, and that it harboured a hidden agenda to establish a naval base in Sri Lanka. Despite adjustments by the government to the proposed lease agreement to lower the ownership share to be held by China (which nevertheless still held a majority stake), and the inclusion of an explicit clause prohibiting a foreign military base, opponents continued to be suspicious of China’s motives. Despite the opposition, the agreement was finally signed in 2017. Another major criticism was the lack of transparency in the negotiations between Sri Lanka and China. It was argued that the lack of an open bidding process for the port construction contract allowed Chinese companies and Rajapaksa’s own family to unfairly and disproportionately profit from the project.4 The main protagonist in this case study is the Sri Lankan government, particularly the Sri Lanka Ports Authority (SLPA), who represented the government in the joint agreement to build Hambantota Port, and in the subsequent lease agreement. Consider these discussion questions as you read through this case study: • How accurate is it to say that Hambantota Port is evidence of China’s ‘debt trap diplomacy?’ • Is this indeed a case where China lured Sri Lanka into unsustainable loans that forced the latter to give up one of its key assets when it subsequently became unable to service loan repayments? Sri Lanka-China Relations Historically, the two countries had a close relationship. Sri Lanka was one of the first countries to establish diplomatic relations with the People’s Republic of China (PRC); China was the first 3 country to invest heavily in Sri Lanka’s reconstruction in the late 2000s following decades of civil war with Tamil separatists. At a time when other countries declined to invest or do business in Sri Lanka due to allegations of war atrocities, the lack of rule of law, and rampant human rights violations, China provided enormous financial assistance to Sri Lanka to fund the latter’s post-war reconstruction. Subsequently, China was also quick to step in after India and the U.S. declined Sri Lanka’s request for financial assistance for the Hambantota Port project. In offering its assistance, China was motivated by its own commercial and strategic interests. Commercially, this project gave Chinese banks an opportunity to lend vast sums to Sri Lanka. Moreover, Sri Lanka’s strategic location in the Indian Ocean meant that it was historically a major commercial hub along heavily used navigation channels. Hambantota Port was within just 10.8 nautical miles (20 kilometres) of some of the world’s busiest shipping lanes, along which 200 to 300 vessels sailed daily, carrying two- thirds of the world’s energy products and half of all containerised cargo.5 Hambantota Port in the Context of the Belt and Road Initiative The Hambantota Port project had been conceived several years before the Belt and Road Initiative (BRI) launched, but later became part of the BRI at the latter’s launch in 2013. The BRI was a massive economic development project meant to connect 71 strategic locations in Asia, Africa, and Europe via a belt of land corridors and sea routes that would sustain Chinese commercial expansion. Hambantota Port was expected to play a key role in the BRI given its proximity to South Asia and East Africa, and was to be developed into a hub for sea transport. During the Belt and Road Forum for International Cooperation in May 2017, President Xi Jinping remarked that close economic ties with Sri Lanka was in China’s long-term strategic interests given that China had already surpassed India as Sri Lanka’s largest trading partner.6 Criticisms later emerged of China’s predatory approach towards smaller or weaker developing countries involved in the BRI. For example, in 2018 Malaysia cancelled a number of China-funded infrastructure projects due to concerns over the country’s debt, which had reached unprecedented levels. Some other countries such as Ethiopia, Zambia, Kyrgyzstan, and Pakistan were also concerned over debt linked to China-backed infrastructure projects.7 Some argued that Sri Lanka should also be counted as a recent victim of China’s predatory approach that came to be known as ‘debt-trap diplomacy.’ 4 China Accused of ‘Debt-trap Diplomacy’ One major controversy surrounded the Hambantota Port project. Despite prior assessment of the project’s poor economic viability and risk of becoming a white elephant (a fate that befell other China-funded projects), 8 the Sri Lankan government pushed ahead with its construction. Furthermore, when the port could not generate adequate revenue to service the loan used to finance its construction, the government settled on a 99-year lease agreement with China. Other foreign governments, particularly the U.S. and India, accused China of ‘debt-trap diplomacy.’ Instead of offering further grants or concessions, China allegedly took advantage of Sri Lanka’s dependence on its loans to secure a debt-to-equity swap agreement and favourable access to the country’s key natural assets.9 John Adams, a policy analyst and adviser to the Indian government, remarked, “[The] way to subjugate a country is through either the sword or debt.