South Asia is in trouble. The economic crisis in Sri Lanka has led to an uprising ousting the government, with crowds taking over the president’s office and residence.
The country has defaulted on foreign debt and asked the international community for help with basic necessities. In Nepal, concerns over depleting foreign exchange reserves and increasing inflation have prompted the government to reduce fuel consumption by increasing nonworking days in the week. Bangladesh, one of the strongest economies in the region with robust growth numbers, has decided to put nonurgent projects on hold and voiced concerns about a ballooning trade deficit and falling remittances.
But despite their many social and historical similarities, South Asian states are vastly different in the way they think about debt, the way they engage with China, and what they prioritize. They are not all destined to repeat Sri Lanka’s situation. Focusing on the nature and extent of China’s influence is far more useful in understanding what is happening than the typical “debt trap” narrative stemming from its Belt and Road Initiative (BRI). And nowhere is the imprint of these engagements reflected more distinctly than in the strength of institutions, independence of civil society, and likelihood for the elite to be influenced by external actors.
THE CURRENT CONDITIONS
While the extent of the political crisis in Sri Lanka may have come as a surprise, the economic crisis is neither sudden nor unexpected. As far back as 2019, the Asian Development Bank had identified the two problems that successive regimes had created and sustained. The bank called these the dual defects—the country’s national expenditure exceeding its national income, and inadequate production of goods and services, prioritizing imports. Things worsened when the government slashed taxes to stimulate the economy while falling back on foreign exchange reserves to service its debt. In addition, the concentration of power in certain sections of the elite and the deliberate and continued weakening of checks and balances contributed to this economic crisis. Two constitutional amendments strengthened the presidency and undermined key institutions to investigate corruption.
In the region, Sri Lanka’s elites have been most susceptible to influence, including by external actors or their proxies. They have not upheld principles of propriety, and as a result, state institutions have come under pressure. Steady support from China engendered and encouraged this slide—it was a win-win for both parties. Chinese entities found that circumventing institutions and approaching powerful politicians directly allowed their projects to move faster, while for the political elite, approving Chinese projects led to more capital flowing into their constituencies. While the political elite led the process, Chinese influence spread elsewhere, including political parties, trade unions, and the Buddhist clergy.
On the other hand, the hold of the Chinese Communist Party (CCP) on Nepal’s elites seems to have weakened with a change in government that removed the Nepali Communist Party (NCP) and brought the Nepali Congress to power. For example, the $500 million Millennium Challenge Corporation Compact, in limbo under the NCP, was ratified in parliament days before the offer was set to expire—with particular help from a 12-point declaration reiterating the government’s commitment to an independent foreign policy. Significantly, Beijing’s displeasure at the development seemed to have little effect on the outcome, and Chinese Foreign Minister Wang Yi’s visit in April did not result in further loans for BRI projects. The change in government through fair and transparent practices bolsters the credibility of institutions, including the government.
The change also seems to have offered additional space for civil society, which has been under pressure over the last few years. Newspapers that had steadily been reducing coverage of issues concerning Tibetan refugees in the country carried multiple reports on the May visit of the U.S special coordinator for Tibetan issues, despite China’s displeasure over the trip. But challenges for the broader media landscape remain, including a new law that restricts certain platforms. Starting a YouTube channel in Nepal will now require 500,000 Nepali rupees, or more than $4,000—creating a barrier to independent voices that exist outside organized media and raising concerns about governmental overreach in the guise of regulating online spaces.
Nepal’s state institutions remain fragile, continuing to suffer from issues with checks and balances. The passage of bills to split the Civil Aviation Authority of Nepal into two separate bodies of regulator and service provider have been delayed, allegedly due to pressure from senior bureaucrats. High-level government appointments have faced allegations of impropriety. And the Supreme Court of Nepal has called out the government’s decision to suspend Nepal’s central bank governor as arbitrary, ordering a reversal.
Bangladesh, in contrast, is the most robust economy on the list. It has burnished its credentials by providing a $200 million loan to Sri Lanka in 2021, then extending the repayment tenure. It also donated $2.2 million worth of essential medicines during the crisis, which has been widely interpreted as a sign of its rising power and capacity. However, the war in Ukraine has brought inflationary pressure into focus, along with concerns about falling remittance from overseas citizens.
Since the beginning of the Sri Lanka crisis, experts in Bangladesh have increasingly questioned if mega infrastructure projects—such as the $1 billion upgrade for the 225-kilometer Akhaura-Sylhet railway line, to be developed by Chinese companies and funded by both Bangladesh and China—are the best way of ensuring goals for economic growth are met. By the government’s admission, loans from these projects will put substantial pressure on the treasury by 2025. It has already slowed work on some of the more expensive projects and is looking for funding from non-Chinese sources.
However, it is not Bangladesh’s economy that is facing the most scrutiny. Institutions, especially those in charge of managing law and order and upholding democracy, have been questioned both inside the country and outside. The freeness and fairness of elections have been under review, and the role of the police in quashing protests and stifling public sentiment is in focus. Civil society in Bangladesh provides a weak check on the actions and powers of the state, but a crackdown on it seems to be escalating. The country’s Digital Security Act has been used to justify arrests of journalists, and the government has recently refused to renew the operating license of one of its top human rights organizations.
A strong economy and regime stability have allowed Bangladesh’s elites to avoid depending on foreign powers for domestic survival. Despite multiple warnings from China, it has been highlighting its engagement with multiple partners, including celebrating fifty years of the relationship with the United States and the inauguration of rail links with India. But this may change if the economy comes under increased pressure or if the ruling elite is threatened by the results of the 2023 national elections.
THE CHINA “DEBT TRAP”
Much of the popular discourse on the troubles in these states points to their growing relationships with China and the supposedly cheap funding that has flowed into the former from the latter. All three countries were early signatories to the BRI and have multiple major infrastructure projects being developed either with Chinese funds or technological assistance. Each country has its own approach to China and its money. Bangladesh is partial toward soft loans over commercial ones, and Nepal prefers grants over any kinds of loans. However, the debt trap narrative paints all forms of association in the same color, postulating that Beijing’s lending follows a cookie-cutter approach of offering more than the countries can repay, ensuring they are beholden to China. This view lacks nuance and ignores the agency exercised by these states. Not everyone is as unquestioningly excited about receiving Chinese funding as it is made out to be.
Better connectivity and infrastructure projects are a necessity across the region, which explains the apparent similarity in Chinese engagement in these states. However, beyond that, these countries have their own ways of drawing up rules of engagement, regulating their economies, and managing their institutions. And even in the absence of formalized mechanisms, these states observe each other, take notes on their experiences with international actors active in the region, and make sure to avoid the mistakes that others make.
This means that concern that a Chinese “debt trap” is undermining these countries is far from accurate. In 2021, the debt to GDP ratio for the Sri Lankan economy stood at 104 percent, in comparison to 22 percent for Bangladesh’s economy, which is over five times larger. During the same period, Nepal’s debt to GDP ratio stood at 38 percent. Only a tenth of Sri Lanka’s external debt is to China, with a majority owed to multilateral financial institutions and other partners. This is true for Nepal and Bangladesh as well.
The effects of Chinese engagement are a function of the countries’ vulnerabilities. In Sri Lanka, while Chinese debt has been low, their unwavering support offered the Rajapaksa regime a sense of security at a time when other external actors were urging structural reform of the country’s economic and financial mechanisms. This support encouraged a corrupt regime, empowered it to suppress dissent, and allowed it to undermine and weaken institutions. Even as the economy moved toward a precipice, the regime believed that it would escape the inevitable, till Russia’s war in Ukraine hastened the crash.
This is not to say that other states in South Asia are without vulnerabilities. Most of Nepal’s challenges emanate from its choppy experience with post-monarchy democratization. Similarly, the inability of a credible opposition to coalesce is a significant problem in Bangladesh’s democratic experience. These fundamental characteristics will continue to influence the responses of Nepal and Bangladesh as they tackle rising inflation, pressure on remittances, and a widening trade gap accompanying the current global churn. At the same time, these countries are sure to have taken note of the limitations of China’s relationship and will factor that into their engagements with the country.
In the coming months, the ruling elite in Nepal and Bangladesh will recalibrate their strategies as well as realign their partnerships to find appropriate responses to their problems. As long as these policy responses manage to balance national aspirations with domestic capabilities, and are not directed merely toward regime security, they are unlikely to find themselves in the same predicament as Sri Lanka.
The article was published on the Carnegie Endowment for International Peace website on August 15, 2022.