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New Hambantota Port Deal: China Consolidates its Stakes in Sri Lanka

Smruti S. Pattanaik is Research Fellow at the Institute for Defence Studies and Analyses, New Delhi. Click here for detailed profile
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  • August 14, 2017

    Some Sri Lankan economists had privately told me in 2011 that their country will find it difficult to repay the massive loan of USD 8 billion at an interest rate of more than six per cent taken from China for modernising the Hambantota port and that it may ultimately have to convert these loans into equity. That warning came true on July 29, 2017 when Sri Lanka and China signed the Hambantota Port Concession Agreement. Soon after the Agreement was signed, China declared that the Hambantota port is a part of its Belt and Road Initiative (BRI).

    According to the agreement1, China will pay USD 1.12 billion upfront in a debt-equity swap in the ratio of 70:30 approximately, with the China Merchant Port Holdings Company (CMPort) getting 69.55 per cent of the shares and the Sri Lanka Ports Authority (SLPA), a public sector organization, holding the remainder 30.45 per cent. After 10 years, SLPA can buy another 20 per cent of the shares, making the two companies equal partners.

    The agreement envisages the formation of two special vehicle companies — the Hambantota International Port Services Company (HIPS) to provide port services and security, and the Hambantota International Port Group Company (HIPG) to look after the commercial aspects. In HIPS, the SLPA will hold 50.7 per cent of the shares, and CMPort 49.3 per cent. And in HIPG, the CMPort will own 85 per cent of the shares and SLPA 15 per cent. The agreement leases out the port to CMPort for 99 years, but contains a provision for the SLPA to acquire majority stake gradually after ten years. The commercial company HIPG will pay SLPA dividends and royalty.

    A financial expert has, however, opined that CMPort’s stake in HIPS is not 49.3 per cent but actually 58 percent because 8.7 per cent of the SLPA’s stake of 50.7 per cent comes from the coffers of the HIPG in which CMPort has 85 percent stake2. Therefore, in effect, CMPort is a majority shareholder in both HIPG and HIPS and is the de facto owner of the port. The share distribution in the HIPS and HIPG raises the question as to whether HIPS, which handles security, can effectively implement the following clause – the Government of Sri Lanka ‘will have the right and authority to grant permission, clearance and approval to berth naval vessels in the port, on mutually agreed payment terms3’ – when China owns the majority stake in that company.

    The agreement was submitted to the Sri Lankan parliament on July 27, and a debate was fixed for July 28. But the debate could not take place as commotion broke out in the House over another issue and parliament was adjourned. Yet, the agreement was signed on the very next day (July 29), drawing criticism from the opposition. In order to assure the Opposition, President Maithripala Sirisena undertook to let Parliament debate the Agreement. And he promised that after the debate, if found necessary, the Agreement will be amended. Accordingly, the Minister of Ports, Mahinda Samarasinghe, had to make an announcement in the presence of the Chinese Ambassador and the CMPort’s top brass that the agreement will be debated on August 8. But the debate has been further postponed due to corruption allegations surrounding the Finance Minister. Fearing an Opposition backlash, Sirisena had allowed for the inclusion of a clause stipulating that the agreement could be amended at any time with the consent of the two countries.

    The fear that China would eventually take control of the country’s infrastructure was palpable when the Mahinda Rajapaksa government first went ahead with massive infrastructure projects in his electoral constituency of Hambantota district with Chinese funding without assessing their economic viability and long term implications. But the successor Sirisena-Wickremesinghe government, which had accused Rajapaksa of converting the country into a Chinese colony and promised to reverse these decisions, had very little choice other than opting for equity and public private partnership with China. Sri Lanka’s GDP growth had dipped to 3.5 per cent last year. The International Monetary Fund projected a growth rate of five per cent for 2017 only after it became known that the government would opt for a debt-equity swap with China on Hambantota port. On December 8, 2016, a Framework Agreement for the port was signed between Sri Lanka’s Ministries of Ports & Shipping and Development Strategies & International Trade, on one side, and China Merchants Holdings Ltd (now called CMPorts), on the other, for the ‘revitalisation’ of the Hambantota port on a Private–Public Partnership (PPP) model.

    The conclusion of an agreement with China to manage the Hambantota port was seen as inevitable after the government buckled under Chinese pressure when the China Communication and Construction Co Ltd, which was building the port city, demanded USD 143 million as compensation for the stalling of the work. The Sri Lankan government was also compelled to renegotiate the Colombo Port city project last year, which had been suspended due to criticism about the Chinese ownership of 20 hectares of freehold land as well as controversy over the project’s possible negative environmental impact.

    Compared to the 2016 agreement, the July 29, 2017 Concession Agreement on Hambantota appears to be better with the shareholding of the Chinese company brought down by ten percentage points (from 80 to 70 per cent). And the clause relating to 15,000 hectares of land has been deleted under the new agreement4. Keeping in mind popular protests, the government has decided that only 1,115 hectares of gazetted land will be leased.

    Many in Sri Lanka argue that the Hambantota port could make an economic turnaround within a few years5. Their argument is that the SLPA, which has been making loan repayments since 2011, is in a position to fully repay the entire debt by 2032, as was initially envisaged by the previous government6. Some economists in Sri Lanka also feel that the bunkering facility in Hambantota can be utilised for earning foreign exchange to repay the Chinese loan. Port Minister Samarasinghe has, however, said that since 2011, the SLPA has paid China Sri Lanka Rupees (LKR) 47 billion as loan repayment for the Hambantota port, at the rate of LKR 9.1 billion annually, which was not sustainable in the long run. Further, the SLPA announced that it had paid more than LKR 7.1 billion as loan repayment for the loss making Hambantota Port, with LKR 16.7 million as capital and interest in 2016 alone.

    Others question whether leasing the port for 99 years is worth the debt to equity swap. But the government argues that the sale of majority share in Hambantota port would help pay the burgeoning interest of 6.3 per cent on the USD 8 billion loan taken from China as well as convert the loss making port and airport into profit-making entities through Chinese investments in the special economic zone.

    The deal had been criticised by the Opposition including the Rajapakse faction of the Sri Lanka Freedom Party (SLFP) popularly known as ‘Joint Opposition’. At the heart of the Opposition’s grievance is the government’s decision to lease 15,000 acres of land to CMPort for 99 years without a competitive tender process. Vasudeva Nanayakkara, an ally of Rajapakse, has even filed a petition in the Supreme Court challenging this decision.

    Ironically, Rajapakse, the main architect behind Chinese investments in Sri Lanka, has effected a complete U-turn. He has stated that he will scrap the Industrial Park proposed to be built on the land forcibly taken over by the government. Protests against the proposal started in December 2016. And when Prime Minister Ranil Wickremesinghe came to inaugurate the industrial park in January 2017, public protests turned violent in which 21 people were injured. Buddhist monks also joined the protesters against the lease of land which was described by Rajapakse as impinging on “Sri Lanka's sovereign rights.7” Media reports note that Arjuna Ranatunga was removed from his post as Minister for Ports because of his opposition to the deal. Parties like the Janata Vimukthi Peramuna (JVP) are also strongly opposed to this agreement.

    India's Concerns

    India had expressed concerns regarding Chinese-built projects especially the Colombo Port City and the Hambantota port in the past. In both these cases, the agreements were revised ostensibly to address the concerns of India as well as of some other countries.

    India’s main concern has been the long term impact of Chinese state-owned companies acquiring equity in the Sri Lankan economy and the extent to which Chinese influence on Sri Lanka’s economy would affect Colombo’s ability to practice an independent foreign policy. Chinese influence in Sri Lanka will have serious implications for the latter’s relationship with India. This was highlighted by the Sri Lankan decision in November 2014 to permit Chinese submarines to dock in Colombo port in spite of India’s strong protests. India’s fear regarding China’s intentions in its neighbourhood are not unfounded given the latter’s increasing naval presence in the Indian Ocean, decision to acquire its first overseas base in Djibouti and its presence in Gwadar as part of the intensifying Sino-Pakistan axis.

    To assure India that past policies regarding Chinese submarines would not be repeated, the July 29 agreement has two exclusive clauses that relate to the issue of management of the port. Quoting from the agreement, Nirupama Subramanian writes,

    ‘It is expressly understood and agreed… [by the parties] that the use of the port property and the common user facilities shall be strictly dedicated for the purposes of port- and marine-related commercial and development activities… and is specifically prohibited from using or carrying out any non-port or non-marine related… activities involving military personnel and/or any kind/type of activities of military nature whatsoever… the sole authority for granting all requisite permissions, clearances, and approvals for bringing in or berthing warships, submarines or storing, warehousing of any military equipment and machinery, installation of communication networks, facilities, shall only be with GoSL’
    8.

    On April 11, 2017, speaking to the press in Colombo on his return from a visit to Beijing, Wickremesinghe had said that Chinese investments in Sri Lanka were ‘an opportunity for everyone to make money. That’s what we do in Asia’. But Sri Lankans are wondering who has made money in the deal this time around. While the agreement remains controversial, China is likely to consolidate its presence and Sri Lanka is likely to get deeper into the Chinese debt trap even though it has gained temporary relief through the equity for debt swap.

    Views expressed are of the author and do not necessarily reflect the views of the IDSA or of the Government of India.

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