The Dragon’s in the Detail with ‘Chinese Kina’

This is Part 2 of “The Dragon’s in the Detail with ‘Chinese Kina’” – a two part series looking into China EXIM Bank’s K6 billion loan to PNG. Part 1 can be found here and should be read prior to Part 2.

The revelation that the China EXIM Bank loan to PNG is actually a comprehensive credit package in the vicinity of K10 billion (US$5 billion) falls in line with EXIM’s strategic model of finance associated with developing countries and best demonstrated by the bank’s foraging into a number of African states.

Of relevant interest here is Angola’s 2007 US$4.5 billion credit package, Nigeria’s initially proposed 2009 US$2.5 billion credit package, and Ghana’s 2010 US$10.4 billion credit package – all financed by China EXIM bank and intended for various infrastructure projects – including railway, roads, dams and power plants.

It is debateable whether this model of developmental finance is indeed a genuine model of capital development for developing countries, or simply a credit-package which undermines the ability of these states to cope with debt – a fear some Papua New Guineans hold.

But what is agreed though is that this model is conducive to long-term objectives of developing countries, largely because Chinese policy banks like EXIM, are state owned and offer concessional loans which have long maturities and low-interest rates – fiscal terms and conditions which are globally competitive enough to trump that of both commerical and concessional loans offered by other partners.

Based on EXIM’s experience in Africa, the OECD Development Centre reported that the bank’s concessional loan structure is guided – in general terms – by the following basic conditions:

“Chinese contractors must be awarded the infrastructure contract financed by the loan.

This is similar to concessionary finance of traditional donors and provides these companies with an entry point to set up a presence in host markets where they can bid for commercial contracts, independent of projects under the concessional loan agreements.

In principle, concessional loans are used for procuring equipment, materials, technology and services, with no less than 50 per cent of the contract’s procurement coming from China. The loan is denominated in Chinese Renminbi (RMB) and has a maximum maturity of 20 years.

A grace period of 3-7 years may be granted to the borrower, during which the borrower will only repay interest payments and not the principal. The interest rate [between 3-6 per cent] is subsidised and underwritten by Chinese Government finances.”

It is likely that these terms and conditions will also apply to EXIM’s credit package to PNG too.

And to support the above, a precedent already exists between China EXIM Bank and PNG via the US$300 million Pacific Marine Industrial Zone (PMIZ) where the bank provided a US$71 million concessional loan for its construction in 2010.

Under this agreement, a relatively unknown Chinese contractor called China Shenyang International was awarded the contract as per the conditions of the loan.

These included the requirement that  70 per cent of the project was to go exclusively to a Chinese developer using Chinese technology, labour and equipment – while restricting PNG firms to bid for the remaining 30 per cent.

In addition, China Shenyang International’s profit margin was dictated to be 20 per cent of the total contract value, while the loan structure included a grace period of 5 years and a loan repayment time of 15 years.

As an indication of how sketchy details surrounding EXIM’s conditions can be - former Minister for Commerce and Industry Gabriel Kapris – when naming the the developer to construct PMIZ, could not provide any further detail to the history, expertise or corporate profile of China Shenyang International – apart from the company’s name.

Although the questions of ’what on’ and ‘how’ EXIM’s K6 billion loan will be expended are important to PNG - and must be answered and made public by Peter O’Neill - it really is secondary to the the issue of what exactly are the terms of repayment.

One of the key issues of the K6 billion loan which has captivated PNG’s domestic discourse is the issue of affordability.

The Opposition in particular has repeatedly highlighted this as a point of concern and have contended that the government has pre-committed the gas revenue from the PNG LNG Project, due to be banked into the State’s coffers in 2022, to pay back the loan.

But this doesn’t  quite make sense under China EXIM Bank’s strategy.

What The Opposition and it seems everybody has missed, and what I strongly suspect to be the case, is that EXIM’s K6 billion loan will not be paid back via the regular financial installments dictated in the standard terms and conditions of a loan and disbursed through the budget process under the Department of Treasury’s watch, but instead, it will be accommodated for through a concessional commodity-for-finance agreement where the State will provide China with a minumum daily supply of oil and/or LNG in exchange for the financing of its expenditure objectives.

It’s an explosive conclusion - but one that I’ve drawn logically given the rather bullish nature of the government’s promotion of the loan in light of unanswered questions and a reluctance to reveal key details.

(It’s either a commodity off-take agreement or the commitment to provide stakes in a number of permits containing undeveloped gas fields and in exploration permits as happened in Nigeria – I suspect the former).

Furthermore, it fits well with EXIM’s strategy.

One of the biggest hints to this possibility is Minister for Works Francis Awesa’s strong indication of the participation of China National Petroleum Company (CNPC) – China’s largest integrated energy company – in the EXIM Bank loan deal.

CNPC and Sinopec, China’s national oil corporation, are both state-owned enterprises that have signed comprehensive supply contracts with ExxonMobil as part of the PNG LNG Project; and both are beneficiaries of project assistance from EXIM too.

There would also be scope for this arrangement to continue and intensify when InterOil’s US$7 billion LNG project begins production in 2015 as another Chinese state-owned enterprise, China National Offshore Oil Corporation (CNOOC), has signed a Heads of Agreement with InterOil and PNG’s Petromin regarding the possibility of underwriting the project – or at the minimum, helping to finance the State’s equity in the project.

In addition – more recently, InterOil-led joint-venture Liquid Niugini Gas Ltd signed a 15yr supply contract with China too.

Any such commodity off-take agreement would be actioned through a joint venture arrangement with Petromin – PNG’s natinal oil, gas and minerals company, and be cushioned by the initial grace period provided by EXIM.

China EXIM Bank’s financing strategy that couples a commodity off-take agreement with the financing of infrastructure is known as the ‘Angola Model’.

Examples abound here with Angola paying its debt to China back with oil exports, Gabon with iron ore, Demoractic Republic of Congo with copper and cobalt, and Guinea with Bauxite. Several of these arrangements are current.

But there are some serious concerns with China EXIM Bank and its ‘Angola Model’.

Perhaps the best example is that of Nigeria which was to draw down US$2.5 billion from EXIM in 2009.

After the country transisitioned through elections, it was revealed by the incoming government that what was initially thought to be a US$2.5 billion concessionary loan credit package turned out to be US$500 million at a concessionary rate, and the remaining US$2 billion at EXIM’s commercial rate.

Furthermore, it has been recently revealed that PNG’s loan structure with EXIM regarding Madang’s PMIZ consists of highly controversial detail.

Perhaps most shocking is the revelation that the entire agreement entered into between the two parties, although signed and actioned in PNG, is to be “governed by and construed in accordance with the laws of China”.

It doesn’t bode well for Peter O’Neill and the EXIM’s K6 billion loan.

As more details of the concessional loan emerge (Works Minister Francis Awesa is due in China later this month to finalize the deal), we may be looking at another of “the well-priced ‘long term trade agreements’ or deferred payment, resource-backed commercial export credits, where the interest rate will be based on LIBOR plus a margin”.

Peter O’Neill must make public the terms and conditions surrounding the China EXIM Bank loan, and the fiscal strategies his government will use to manage and mitigate the risks associated with the loan.

These basic details and conditions of the loan structure need to be made transparent – its importance to PNG requires that this be the case.

At the end of the day, the buck stops with Peter O’Neill and Co to refuse loans that are not concessionary by nature, as the Dragon is indeed in the detail with ‘Chinese Kina’.

The Garamut PNG