What’s behind China’s declining aid to the Pacific?

Despite a lower spend on official aid, there is little to suggest Beijing has taken a backwards step in the Pacific Island region, Graeme Smith writes.

The much-awaited update to the Lowy Institute’s Pacific Aid Map showed a sharp drop in the People’s Republic of China (PRC)’s 2019 aid spend in the Pacific, despite the pressing development needs presented by COVID-19. While eight of the Pacific’s 10 major donors also saw falls in their aid spends from 2018 levels, Chinese aid dropped the most, falling 31 per cent to make up just six per cent of the Pacific’s overall overseas development assistance.

This is particularly notable when juxtaposed with 2018 reports that the PRC was set to become the region’s leading donor based on committed aid funds.

Despite a decline in official aid, however, suggestions that this represents a true roll back in China’s regional presence are doubtful. The nature of China’s engagement with the region is changing — in line with global trends — as China’s state-owned enterprises (SOEs) and policy banks get more creative about how they fund their operations.

As the authors of the Pacific Aid Map note, Chinese President Xi Jinping’s 2018 attendance at the Asia-Pacific Economic Cooperation (APEC) summit in Papua New Guinea (PNG) led to a sudden surge in China’s aid, which jumped by a quarter on 2017 levels. The recent fall reflects a return to pre-APEC levels, rather than any indication of a long-term decline.

This is not the first time official visits to the Pacific have led to greater aid spend, something that’s understood by scholars of the Pacific in China. Though what is likely to be of more long-term importance to the Pacific is how these official visits lead to a great intensity of activity by China’s SOEs.

A recent study showed that in the year around the APEC summit, the number of Chinese SOEs in Papua New Guinea increased from 21 to 39. Given the increased ambition of the PRC leadership to exert control over Chinese companies at home and abroad during Xi Jinping’s tenure, this is unlikely to be a coincidence.

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This is supported by a global comparison of Chinese SOE behaviour published earlier this year, which concluded that, due to the high levels of state influence over Chinese firms, the deployment of PRC foreign direct investment can be seen as ‘analogous to foreign aid’.

Decreasing Chinese aid spending has also not been a specifically Pacific phenomenon. Since mid-2015 when China’s foreign reserves contracted abruptly, the policy banks that were meant to be the ‘tip of the spear’ in the Belt and Road Initiative (BRI) have been short of funds. China simply doesn’t have spare US dollars to fund infrastructure projects abroad.

Just as importantly, China’s policy banks are changing the way they finance projects, making it less likely that they will appear as aid. AidData’s recent survey of the global impacts of BRI projects shows that Tonga’s levels of ‘hidden’ debt exposure to the PRC are some of the highest in the world.

Ultimately, policy lending is policy lending, whether it proceeds through a state-owned policy bank, an SOE, a city government agency, or a country-to-country loan. The BRI has supercharged the blurring between aid and investment.

This effect can be seen in PNG’s Kumul Submarine Cable Network project. This is 85 per cent funded by China Exim Bank in the form of a preferential buyer’s credit, channelled directly to a local SOE, PNG DataCo Ltd – a wholesale subsidiary of Kumul Telikom Holdings – with work contracted to Huawei Technology Co Ltd. Concerns have been raised about the pricing as well as the commercial and technical viability of the project.

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Despite China’s spending staying high, however, there has been an observable reticence by Pacific Island countries to take on new concessional loans, with only Papua New Guinea and Vanuatu having done so since 2016. This in part reflects widespread concern about China setting a debt trap that might affect their sovereignty.

While this fear is somewhat exaggerated – multilateral lenders currently hold the largest share of Pacific debt – in countries with weak governance and subject to natural disasters, even moderate levels of debt can impact the provision of services like education and health care. Additionally, there is particular concern when this debt emanates from only one country, as compared to multilateral partner.

As Solomon Islands Member of Parliament Peter Kenilorea Jr explained in 2019:

“We don’t want to be tied into debt. Particularly to one country. We can all go crazy with our infrastructure needs and those needs are clear…our governance structures need to be strengthened and there are certain capacities that we need to have in order to deal with this kind of powerful partner, knowing full well that the China of today is not the China of three years ago or even two years ago, definitely not 20 years ago when most of the Pacific were recognising them.”

Australian policymakers would do well to heed Kenilorea Jr’s advice — the nature of China’s engagement with the Pacific is changing in a way that is not captured by the aid data. In parallel with strong moves on the part of the PRC central state, such as the appointment of defence attachés to Papua New Guinea and Fiji, China’s SOEs like China Civil Engineering Construction Co are increasingly fronting China’s diplomacy in the region.

With the blurring of aid and investment, those looking to understand China’s presence in the Pacific should focus more on the operations of PRC companies and attempt to draw distinctions at the project level based on the type and source of funding. This approach will provide a much clearer picture of China’s activities in the region than official aid figures alone.

This article is based upon a paper published by ANU Department of Pacific Affairs (DPA) as part of its ‘In brief’ series. The original paper can be found here.