Why China has cut its funds to Africa

The eighth Ministerial Conference of the Forum on China-Africa Cooperation concluded in Senegal, with the Chinese government pledging to invest $40 billion in African countries in the next three years.

China for some years now has been a reliable development financier of African countries. But the $40 billion pledge is a 33.33 percent reduction from the last two commitments made at the previous FOCAC summits.

In the previous two FOCAC meetings, China committed to investing $60 billion. Kenya is among the top recipients of Chinese loans on the continent.

Biggest lender

This means Kenya will most likely be affected by the reduction to China’s financial commitment. For the last decade, China has grown into Kenya’s biggest bilateral lender.

There are arguments that the reason China has reduced its financial commitment to the continent is because it is experiencing diminishing returns on the investments it has so far made.

The facts point to the contrary. To start with, China’s lending model has been largely through sovereign debt. This is the lending model where the loan ends up on a country’s public debt book and is therefore serviced through tax revenues. There have been a handful of cases where China has collateralised the loan such as happened in Angola and Congo. But there were tough lessons for China in using this model.

Many of the deals were negotiated during the commodity boom period. When the commodity prices tumbled, China was left exposed to low revenues, and it has been avoiding commodity-backed loans.

The other model is self-financing, where the lender gets back money from the revenues generated from the projects. China has also avoided this model.

So, to argue that China is experiencing diminishing returns on the continent is not accurate. China has taken little risks on the continent for it to worry about diminishing returns on the development assets it has financed.

So why has China reduced its financial commitments on the continent? There are two likely reasons.

First, the main reason is the debt distress concern. Many African countries have borrowed significantly from China under the sovereign debt model.

But sovereign debts are sustainable if the country expects to repay the loan with little interruptions and without a request of restructuring the contractual terms.

Now the speed at which countries have been accumulating sovereign debt from China indicates a path towards unsustainable levels. With the economic effects of the pandemic, many African countries are not in a position to sustainably service their sovereign debts and insolvency risks are high.

A number of African countries requested Beijing for the restructuring of their sovereign debt during the pandemic period.

Uganda is one of the countries that came out to say that China declined its request to renegotiate its debt. Kenya was also said to have made the request, but the government has been economical with this information.

Medium-term outlook

But such cases were confirmed when China showed willingness to restructure Ethiopia’s debt linked to their railway line. So, the medium-term outlook of African countries’ debt levels is a concern to the Chinese.

Second, the Chinese economy has been sluggish and is now coupled with the weakening of the global economy arising from the Covid-19 crisis. The Chinese economy has been on a downturn and its local debt situation is a matter of concern.

Its state-owned banks have been raking in bad debts, which are reaching unsustainable levels and threatening to spill over to the overall economy.

This means that China has to reallocate more financial resources to its local economy and avoid a collapse and therefore can’t afford to commit more resources to the continent.