Amid China-US rivalry, Sri Lanka crisis offers lesson for engagement with Pacific island nations

A series of poor financial decisions by the Rajapaksas, including attempts to capitalise on China-India rivalry by signing investment deals with both, have left Sri Lanka in crisis
With competition growing between China and the US in the region, other Pacific island nations must avoid falling into the same trap

Akhil Ramesh

Published: 10:15am, 22 Jul, 2022

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Sri Lanka’s former president Gotabaya Rajapaksa fled abroad with his family last week after protesters stormed the presidential palace, following widespread protests over the country’s worsening economic crisis. What brought this Indo-Pacific island nation to such a dire situation?

Analysts seem to differ on the reasons. Is China’s costly Belt and Road Initiative to blame, or it financial mismanagement by the Rajapaksa family, or the shift to organic farming?

The fact is that all three are interconnected and the crisis should serve as a case study for US engagement with Pacific island nations.

First, the labelling of China’s belt and road as a “debt trap” is subjective. Beijing’s extension of credit to countries participating in the initiative is similar to a liquor store selling alcohol to someone suffering from liver cirrhosis. Sri Lanka’s financial situation was in dire straits even before borrowing from China. The Chinese debt was the shot of alcohol that just made it worse.

Sri Lankans protest against the now-ousted president Gotabaya Rajapaksa in Colombo on April 4. Photo: AP

While Sri Lanka’s largest bilateral creditor is China, accounting for 20 per cent of its foreign debt, the island nation owes the most – roughly 36 per cent of its total foreign debt – in the form of international sovereign bonds.

To meet the deadlines for interest payment on these bonds, Colombo took drastic measures, such as giving up the Hambantota port on a 99-year lease to China.

In the liquor store analogy, one could argue that it is not the fault of the seller – but also that a seller who was aware his potential customer could die from the sale should know better.

What we have witnessed in Colombo in recent years is the sunk cost fallacy of the government taking on debt to repay debts. While Sri Lanka’s economic situation has got much worse over the past decade – that is, under the Rajapaksas, some aspects predate their administration, such as civil war expenses.

The 26-year-long civil war finally ended in 2009, right about the time of the global financial crisis. The Rajapaksas’ Buddhist nationalism and then-president Mahinda Rajapaksa’s success against the separatist Liberation Tigers of Tamil Eelam (LTTE) powered the family’s rise and earned them much public support.

08:07

The rise and fall of Sri Lanka’s Rajapaksa dynasty

Riding on anti-Tamil sentiment and populist rhetoric, the government of Mahinda Rajapaksa managed to get away with several financial missteps, such as taking on overpriced infrastructure projects that were part of the belt and road under the pretence of development.

For example, the US$104 million Lotus Tower – dogged by financial controversy – and the US$209 million Mattala Airport, dubbed the “world’s emptiest”, cost the Sri Lankan exchequer dearly but have brought few returns.

Hovering over all these issues was the power rivalry between India and China, with Sri Lanka as the main battleground. The Rajapaksas capitalised on this China-India competition, playing one off against the other.

India would invest in a project if China was involved, fearing a security threat, and vice versa. The most recent examples are the power projects and oil farm investments in northern Sri Lanka that went to Indian contractors.

After the Chinese signed an accord for the Muthurajawela Tank Farm Project in 2000, India this year signed the Trincomalee tank project in Sri Lanka’s north that has nearly six times the capacity of the Chinese one. Such competition provided opportunities for rent seeking.

The US$104 million Lotus Tower in Colombo, built using funds from China’s Belt and Road Initiative. Photo: Xinhua

An environment ripe for corruption coupled with global crises like the Covid-19 pandemic and the Ukraine war have added to Sri Lankans’ misery. This year, the prices of coal and crude oil have shot up to historical highs, making such commodities unaffordable for a nation with dwindling foreign exchange reserves, leading to chaos at fuel stations and countrywide power shortages.

The straw that broke the camel’s back was the unprepared-for transition from fertiliser-dependent agriculture to organic farming. In both his election campaign in 2019 and his address to the UN in 2021, Gotabaya Rajapaksa advocated for the transition.

Acting on the campaign promise, Rajapaksa issued a blanket ban on the import of all agrochemicals in 2021. However, his administration failed to create the necessary ecosystem for organic farming, such as by providing an adequate supply of organic fertilisers and manure to farmers.

This created another import dependency. For an economy that relies primarily on exporting cash crops such as tea, rubber and spices, this experiment proved to be a disaster, with yield for crops such as tea falling by 18 per cent. The country went from a rice exporter to an importer, worsening its current account deficit.

03:24

Sri Lanka’s ‘organic revolution’ threatens country’s prized tea industry

The Sri Lankan case should provide a lesson for the United States and its allies when engaging with Pacific island nations.

The West is finally showing an interest in the Pacific island nations, but only as a reaction to China’s recent bonhomie with leaders in the region. In her recent trip to the Pacific islands, American Vice-President Kamala Harris promised increased engagement through the establishment of new consulates. That was certainly a surreal déjà vu moment for many Indo-Pacific observers.

With another great power competition in sight, this could be the beginning of many Sri Lankas in the region, with leaders of Pacific island nations playing the West and China against each other, eventually leaving their countries in debt distress and the people in misery – only to flee after filling up their offshore accounts.

Akhil Ramesh is a Fellow at the Pacific Forum