Governance, debt and war: reassessing Chinese aid in the Western Balkans

On Feb 23, exactly one day before Russian forces invaded Ukraine and started a war that has rewritten global geopolitics, the China Observers in Central and Eastern Europe (CHOICE) platform published a policy paper on how China approaches “development assistance” – a term that covers grant and concessional loans but not commercial loans and investments – in the Western Balkans, a region that is often entangled in China-Europe relations.

The paper was written by Ana Krstinovska, founder and president of North Macedonian think tank ESTIMA. Krstinovska previously served as State Secretary for European Affairs in the North Macedonian government and a diplomat to the EU. A fluent Mandarin speaker, she has handled donor relations (including with Chinese stakeholders) in her government job and has studied the issue as the subject of her doctoral dissertation.

The Western Balkans region consists of Albania, Bosnia and Herzegovina, North Macedonia, Montenegro, Kosovo, and Serbia, all of which are candidate countries to join the EU. In her interview with Panda Paw Dragon Claw, Krstinovska concedes that countries in the region are “small and lack global visibility.” And yet, since China takes a “one-size-fits-all” approach to foreign aid, regardless of where it operates, the Western Balkans tells us as much about Chinese behavior in development assistance as hotspot regions such as Africa and South Asia, in terms of how it handles infrastructure finance, the issue of conditionality, and tricky debt restructuring problems. Krstinovska shares with us her views on the “debt trap myth” and how the war and pandemic will affect reception of Chinese aid. Most importantly, she believes that “transparent conditionality” rather than “non-interference” will benefit Chinese development assistance in improving its impact.

Image: Marko7

Panda Paw Dragon Claw (PPDC): In your paper, you summarize the focus of China’s development assistance in the Western Balkans region as “infrastructure, health and education”. Do you think that matches the developmental needs of the region? 

Ana Krstinovska (AK):  All the countries in the Western Balkans have been receiving Official Development Assistance (ODA) since the breakup of Yugoslavia from 1991 to 1992. Given that there were wars in some of them, this fund is mostly intended for reconstruction efforts for these countries to be able to kick start their development as independent countries. The EU was and still is the main donor for these countries. The US, Switzerland, Norway and Japan have also been major donors. Chinese assistance began to flow in from the early 2000s.

Initially Western assistance was intended for “hard” projects and tangible investments. Later on the EU started to change its priority to support more “soft” measures, such as institution building, democratization reforms, rule of law and governance. It also supports the development of the market economy and regional development that would somehow appease the tensions between these countries. Today’s Chinese assistance resembles Western assistance 10-15 years ago. China provides funds, both grants and loans, mainly for equipment and for infrastructure development. There are relatively small infrastructure projects that are sometimes implemented with grants, and bigger ones that are usually implemented with loans.

PPDC: How big is the infrastructure gap in the region?

AK: At present, I would say the infrastructure gap between this region and the countries that surround it, which are EU countries, has remained significant. For instance, in the case of North Macedonia, 5 billion euros are needed to build roads, highways and energy facilities to reduce this infrastructure gap. In the case of Bosnia, it’s even more: 10 billion euros are needed based on our estimation. These estimates were made on the basis of the “single project pipelines.” These are lists of required infrastructure projects that every government puts together, and the proximate value of how much it will cost. So in this respect, there is a lot of demand for Chinese assistance, particularly because the EU or national budgets do not cover all the needs for these types of projects. There is also a lot of potential to develop some sort of synergy between different donors.

But the problems with Chinese development assistance that have been identified are actually related to its lack of conditionality. For example, when the EU is funding a project, it pays a lot of attention to public finance management, corruption safeguards, economic and financial viability, environmental impact, etc. But China, with its principle of non-interference, leaves the governments to take care of all these aspects. Because all Western Balkan countries have inherent weaknesses on these fronts, this undermines the efficiency and the impact of China’s assistance in the region. We have serious issues with the rule of law and the fight against corruption. Our governments do not worry about the environment a lot. So in the end it is harmful both for project implementation and for China’s reputation.

PPDC: In China, there is an argument for a faster and “leaner” approach to development assistance, that differentiates it from the Western approach that is considered overly burdensome and struggles to get anything done. Does it hold water from your perspective in the region?

AK: As the EU alone cannot allocate an infinite amount of funds, a better scenario would be the complementarity of funds from different donors.

But when it comes to the speed of the implementation or the fact that the Chinese money may be cheaper than EU money, I don’t think that is true. China acts more quickly in the phases of project selection and project preparation. It does not require many documents and studies and does not impose any rules. This has an impact in the implementation phase later on. The lack of proper environmental and social impact assessments will lead to environmental damage that needs to be repaired, which takes more time and funds. The Bar-Boljare Highway I mentioned in the paper is a case in point. Now there is a court procedure, and the Chinese contractor is required to fix the environmental damages that, ultimately, it may not be able to fix. In the case of the Kichevo-Ohrid highway, it is still not built after about nine years. If they had spent more time during the planning phase, with proper due diligence and preparation, the implementation phase would have been shorter.

Moračica Bridge, part of the new Montenegrin highway Bar-Boljare (September 2019), Image: Milica Buha

PPDC: This brings us to the lack of “coping mechanisms” in Chinese development assistance, which you highlighted in your paper. Could you elaborate how such mechanisms generally work and how they may benefit the quality of development assistance?

AK: These coping mechanisms are generally designed to reduce the risks of corruption, of mismanagement of funds, of environmental damage, because ultimately you need to somehow protect the investment, whether it’s Chinese taxpayers’ money (if it comes in the form of grant) or the money from taxpayers of both China and Western Balkans countries (if it comes in the form of loans that need to be repaid). The objective will be to maximize the utility of the projects and to prevent reputational damage for China.

By “coping mechanisms” I mean a clear framework of rules for different phases in the project cycle. I have singled out 5 recommendations here that are not exhaustive.

What China requires for the project to begin is usually a political decision. But these political decisions in the Western Balkans are not always based on sound arguments. They are based on promises, the interest of political parties or the business community. Political decisions should be backed up by relevant studies (such as feasibility studies or pre-feasibility studies) to actually prove that this project is viable and justified. This would be the first recommendation.

Secondly, for the project preparation phase, complete documentation should be required. We should start implementing projects if we are sure that they are mature and are environmentally sound. So we need to have environmental and social impact assessments and all the other safeguards.

Then we need to have open, transparent, and competitive bidding processes. I know from my communications with Chinese stakeholders that there are bidding procedures conducted in Beijing, among the Chinese contractors. But usually, especially when it comes to loans, the practice of international and European financial institutions is to have open and competitive bidding procedures. This is how you ensure you get the best value for money. Probably in the end the Chinese offer would be the most competitive one, but it would make much more sense to have these transparent procedures to avoid allegations and suspicions of wrongdoing.

The fourth recommendation is that there should be mechanisms for accountability and consequences for mismanagement. Here I’m not talking about big corruption allegations, but small omissions that occur during the project implementation phase that are the responsibility of people at the technical level. Until now in the Western Balkans there has not been one single case where someone was held accountable for omissions conducted in the implementation of large infrastructure projects. In the highway case in North Macedonia, 180 million euros were additionally allocated for the construction but no one was held responsible or sanctioned with disciplinary actions.

And finally, there should be transparent conditionality when it comes to the recipient, which includes reforms and activities that the recipient countries should undertake in relation to the projects. For loans that need to be repaid, there should be plans on how the government is going to manage the fund and its budget in order to be able to repay the loan. We cannot take up additional loans that lead to unsustainable debt levels. We cannot go on with building highways and other types of polluting projects and not having any plan on how we are going to protect the environment.

PPDC: Is it fair to say that these coping mechanisms are largely modeled on EU practices?

AK: Yes. I’m not saying that the EU rules are perfect. But they are on a higher level, more developed and more elaborate. Therefore they can ensure better protection against corruption and higher standards. It’s not that they are flawless. There is also corruption with EU funds. We have to be clear about that. But at least following these rules provides a minimal level of guarantee.

PPDC: Your last recommendation touches on conditionality, which China usually rejects on the basis of the non-interference principle. But your research also looks at certain conditionalities in Chinese development assistance. What does it tell us?

AK: Initially I wanted to investigate the “debt trap” myth, which was played up in the region by Montenegro’s controversial attempt to involve the EU and US in restructuring a Chinese loan for fear of China’s seizure of its Port of Bar. In my research, I realize that China until now has not made use of the provisions in the agreements that are largely in its favor.

The port of Bar, view from Vrsuta mountain, Image: Alex Alishevskikh

Most agreements for concessional loans are asymmetrical, meaning that they provide China with leverage in case there is some unforeseen event. The arbitration commission is based in Beijing, the applicable legislation is Chinese. So China has at its disposal all of the tools. Whenever a country does not pay an installment, it can simply terminate the agreement and ask for immediate repayment. China has not done that until now. On the contrary, in the Western Balkans it has been very lenient when these countries defaulted on their obligations. In this context, it shows that the “debt trap” is a myth.

But on the other hand, the agreements also contain provisions that China can terminate grant agreements for political and diplomatic reasons, and can do so for loan agreements in the case of a change in the policies or legislation in China or the beneficiary. These are also provisions that have not been triggered until now, especially in the case of loans (this would be a disaster), but somehow provide China with an additional tool in global polarization, first with the Sino-American trade wars and now with the increased tension between China and the EU.

Countries in the Western Balkans have the obligation to align themselves with the EU’s foreign policy. Three of these countries are also NATO members, so they have additional obligations that became more visible with the war in Ukraine. These countries at some point may be obliged to align with EU policies, priorities or with US/NATO policies that will be harmful for relations with China. If China perceives these policies to be against its interest, then it has another tool in the loan contracts to put pressure on the Western Balkans countries not to align: “If you align, we may need to terminate this agreement for the highways and you may need to repay 1 billion dollars.” So this is basically this type of conditionality which until this point has not been exploited but provides for the possibility for China to keep these countries in check.

2013 Summit of Central and Eastern European Countries and China, Bucharest. Image: Social Democratic Party of Romania

PPDC: Do the current debt levels of Western Balkan countries ask for a rethinking from the Chinese side on how its development assistance should be deployed and managed in the region?

AK: I was writing the report during the pandemic, and now that we are at the end of the pandemic the situation with public finance is even worse. All the countries in the region have seen their debt level soar. Most of them are now even over the 60% of GDP threshold. That means they will need to start planning their public finances more wisely in order to bring these levels down in the next decade.

Having said that, even before the pandemic these countries had become a bit reluctant to take on additional debt from China. That can be seen from the fact that since 2016 Serbia is the only country in the region that has signed new loan contracts with China. I think the way forward for these countries would be to take on new infrastructure projects that will have immediate return on investment, not massive projects that should be repaid in 30 or 40 years. And given the current energy crisis and food crisis brought about by the war in Ukraine, I think that the priorities for development assistance should be directed towards the areas of energy, environment and food security. It will be a welcome move if there is some sort of shift in priorities on the Chinese side towards these areas, and if there is also a shift in the way of thinking in order to encourage these countries to be more responsible in the management of funds.

Probably the tricky part is that Chinese development assistance is designed in a one-size-fits-all approach. There is no difference when it is funding a project in Zimbabwe or in Macedonia. But in reality, the countries in the Western Balkans are different because they are all upper middle-income countries, so they have a different socio-economic development level. They are all candidate countries to join the EU, so they have a set of governance standards and reforms that they need to implement. That is why any donor who would like its project to be successful should bear in mind these two aspects. What’s interesting is that in the latest Chinese strategy paper on development assistance there is one paragraph where it talks about “regionalization”.  That could be an opening for a differentiated approach.

PPDC: The war in Ukraine is fundamentally changing the political and economic dynamics in Europe. How will it affect Chinese development assistance in the Western Balkans?

AK: I don’t think the war will have a direct impact on development assistance but it certainly will have an impact on overall bilateral relations between those countries and China, which sets the framework for development assistance. As I mentioned, three of these countries are NATO members, so they were pretty much clear about the side that they stood on when it comes to the war in Ukraine. China’s ambiguous position – on the one hand supporting Ukraine’s territorial sovereignty and on the other hand justifying Russia’s aggression – was really not well received in the region. In the Central Eastern European countries it’s even worse. They perceive the Russia threat as an existential threat.

I think with the mounting tensions, these countries will be even more pushed to take sides. It will have an impact on how they perceive China. The war somehow displayed the need to reduce the dependence on Russia (natural gas, oil and food), so I think this will be also replicated in the case of China. It will further the voices that advocate for decoupling from China. These countries will be encouraged to do less business with China, to receive less loans and investments especially in certain critical sectors. So I think unless there is some change in China’s attitude towards Russia and the war, unless there is some repairing of relations between China and the West, these countries are quite likely to have less cooperation with China especially when it comes to the sensitive areas such as 5G networks and strategic infrastructure.

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