Special Report: Should we be worried about Chinese loans for infrastructure buildup? (Part 1)

(First of two parts)

MANILA, Philippines — The Duterte administration has trillions of pesos worth of projects slated for funding or co-funding with official development assistance (ODA) loans from various sources.

ODA is deemed a crucial component of infrastructure financing under the Duterte administration’s ambitious Build Build Build (BBB) program as the government now favors the use of hybrid public-private partnership (PPP) in project procurement delivery, through which the hard infrastructure would be built by the government using ODA funds, while the operation and maintenance would be auctioned off to the private sector.

The hybrid PPP scheme is deemed more efficient in project procurement as opposed to the “tedious” traditional PPP mode that is often marred by corporate squabble and other delays.

ODA loans are cheaper sources of financing as they bear “softer” conditions than commercial loans in the form of lower interest rates, and longer grace and repayment periods.

As a newly labeled investment grade country, the Philippines has the option of tapping more sources of funding overseas.

Most of the ODA loans programmed for availment under the Duterte administration’s infrastructure program would come from Japan, a long-standing development partner and top assistance provider over the decades.

Lately, however, the government has been communicating increased preference for the use of loans from China. The Department of Finance also announced early in March that loan agreements would be signed within the year for at least three big-ticket projects – New Centennial Water Source-kaliwa Dam (P10.9 billion), Chico River Pump Irrigation Facility (P3.68 billion), and the Philippine National Railways South Long Haul Railway (P151 billion).

China has pledged to provide over $7 billion in loans and grants to the Philippines for its infra program.

Red flags, however, have been raised about accepting loans from China, which has an existing territorial dispute with the Philippines.

In particular, there are prevailing concerns about the higher interest rates, the possibility of the country falling into a debt trap, and having state assets and islands being offered as collateral to secure the loans.

These fears stem from the experience of countries like Sri Lanka which had been forced to hand over its strategically-situated Port Hambantota on a 99-year lease to Chinese state firms because it can no longer pay its debt.

Projects such as these ventures fit neatly into China’s so-called Belt and Road Initiative, a long-term strategy that seeks to link more  countries in Asia and the Pacific, Africa, the Middle East, and Europe through a massive connections of roads,  ports, and railways.

Among the reasons cited by economic managers for the Duterte administration’s increased interest for Chinese loans – which bear heftier interest rates of two to three percent compared with Japan’s 0.1 to 1.5 percent – is the relative slowness in the processing of Japanese ODA loans and the limitations on assistance that can be provided by the Japanese government. 

Another reason would be the so-called “friend to all” foreign policy that, ideally, seeks to reflect an independent foreign policy.

With relative ease and speed by which such loans from China are being offered, many wonder if it is indeed a good idea that the country is considering taking out such massive loans from China.

Economist Alvin Ang, director of the Ateneo de Manila Center for Economic Research, believes the country stands to benefit politically and economically by accepting Chinese loans, but should toe the line carefully with conditions and should not depend on it heavily to fund its mammoth infrastructure program.

“At the rate of understanding the administration’s ‘friend of all’ policy, I think that is consistent. If that is the foreign policy of the government, then we cannot really say that we cannot borrow from China,” he said.

Accepting loans from China, he said, would also strengthen economic ties with the Asian superpower which is also one of the country’s top trading partners. At the same time, it can significantly augment ODA loans from Japan and augment the capacity of the private sector that cannot fund and build all projects pipelined under the P8.44 trillion BBB program.

Ang acknowledged, however, that Chinese loans also come at a higher price compared to those provided by Japan.

“Now, the challenge is,  is the rates, right? Chinese interest rates are definitely much higher than Japan which is not good for us,” he said, adding, “but come to think of it, Japan cannot fund all of our requirements. And also, our problem is most of our Filipino companies are already stretched out.”

This is because the constitutional limitation on foreign ownership, especially on foreign contractors, is also putting pressure on the BBB program, Ang said.

“It’s because we need to do all these these things at the same time so I guess this China approach is not necessarily bad as long as we manage it well,” he said.

Rush to overhaul

The Philippines is rushing to overhaul its decrepit infrastructure backbone which has suffered decades of neglect to keep up with the rapid economic growth seen in recent years and to ease congestion in Metro Manila, which is forecast to become “uninhabitable” in less than a decade’s time unless adequate urban infrastructure is put in place. 

The Japan International Cooperation Agency (JICA) estimates the worsening traffic in Metro Manila is now costing the Philippine economy P3.5 billion daily in missed economic opportunities and unnecessary expenditure related to congestion. This has risen from the P2.4 billion estimate in 2014.

“The BBB program is ambitious and it requires ambitious funding,” Ang said.

The Build Build Build program, after all, entails expenditure of P8.44 trillion in six years.

For this reason, Chinese loans, which can be negotiated in less than two years  and can be disbursed without lengthy public consultations and bidding processes, are becoming very attractive to the government.

The selection process for Chinese contractors that will undertake the projects is also relatively more straight forward. The Investment Coordination Committee (ICC) composed of the main economic agencies will serve as the clearing house for Chinese investments. China will have a similar body that will pre-screen companies that will vie for the project. Upon nomination, the ICC through its vetting process, will select the company that will undertake the project.

Slowpoke?

Not really, said Tetsuya Yamada, senior representative of the Japan International Cooperation Agency (JICA), the ODA arm of the Japanese government.

For Yamada, JICA follows the global standard for official assistance aimed at promoting economic progress in developing countries.

“As far as Japan is concerned, we don’t necessarily think that we are slower than anybody else and we are hitting the ceiling as to lending capacity,” he said.

“But having said so, we are aware that there are some criticisms even from the private sector that ODA is slower than PPP (Public-Private Partnership). That is the general sentiment, particularly from private sector proponents. So we do understand that, ” he said.

Japanese ODA undergoes a rigorous technical evaluation and public consultation process – both here and in Japan – that goes upward of three years depending on the complexity of the projects and the political situation in both countries.

Before a formulated project is even subjected to a feasibility study, internal consultative meetings are held by JICA with both Japanese and Philippine government ministers on whether a full-fledged feasibility study should be conducted for a project.

This is followed by a public consultation in Japan in which public and private sectors can join discussions. Usually, business groups and non-government organizations attend these public meetings. Their voices have a bearing on whether ODA-funded projects would materialize as any objections can delay or halt a project.

“The private sector is, of course, interested in business opportunities and for NGOs, they are interested about environmental and social impact of the project,” Yamada said.

“Once we get objections, we have to stop the process immediately. We cannot go ahead and implement the feasibility study,” he said.

But once no negative feedback is generated during the public consultation, the feasibility study is conducted through a private consulting firm.

During the conduct of the feasibility study, an environmental study and resettlement action plan for the project would have to be published in Japan –both in Japanese and English – for a minimum period of 120 days for disclosure purposes. The loan signing for the project cannot push through without the fulfillment of this procedure.

Once the feasibility study is completed, the Philippine government begins the approval process within the Investment Coordination Committee (ICC) of the National Economic and Development Authority (NEDA), ending with approval by the president as chair of the NEDA board.

An official loan request is then prepared by the Philippine government and is submitted for approval by the Japanese government. This is again followed by a series of appraisal meetings within Japan.

Upon approval of the loan request, the borrowing government is notified and the exchange of notes is set. Following this is the signing of the loan agreement.

Only then can the eventual procurement process and implementation of the project can commence. After completion of the project, a post-evaluation process ensues.

“Our resources come from the public, so we need to exercise full accountability to our taxpayers. And the same for the Philippine government to exercise accountability to taxpayers of the Philippines so we need to go through this somewhat tedious process,” Yamada said.