Mystery of CPEC payments
The latest quarterly report by the State Bank of Pakistan points out an intriguing development regarding the payments connected with CPEC projects. This year, the gap between import recorded by the Pakistan Bureau of Statistics (PBS) and the State Bank has widened to a historic high. The report says that over a 10-year period, this gap has been an average of $1.6 billion, but this year it climbed to $3bn.
There are good reasons why there should be a gap between the figures reported by the PBS and those reported by the State Bank. The PBS uses customs data, where goods landing at the port are valued by the customs authorities before being assessed for duty, while the State Bank uses banking data, where banks report how much they have paid for imports through letters of credit.
Often goods that land at the port have been paid through means other than a banking channel, or in some cases they are paid under a deferred payment plan, so the goods arrive and their value is registered as an import by customs, but the payment is sent much later through banks.But there are no good reasons as to why this discrepancy should be so large, and why this massive gap should materialise so suddenly in the first half of the current fiscal year.
A closer look shows some interesting developments. Here is what the report says: “a large share of this discrepancy can be explained by the surge in import of power generation machinery, which is being recorded by customs but is not fully visible in import financing data available with SBP. The gap in import data for power generation equipment also widened dramatically to US$ 1.1bn in H1-FY17, from the previous 10-year’s average of just US$ 193 million. Since most power sector activity in the country is taking place under the CPEC umbrella, it is highly probable that the widening gap between the two import datasets is linked with the CPEC”.
So it appears that power-generation machinery is landing at the port but the corresponding outgoing payments for this machinery cannot be seen. Either the payments will be due much later, or the companies responsible for the projects are simply making the payments directly in China, after taking a loan from a Chinese bank.
This is how the report puts it: “Typically, banks report import financing data to SBP after importers make payments against L/Cs. However, that appears not to be the case with imports of power generation machinery over the past two and a half years: there has been a relatively minor increase in these imports based on L/C-level data provided by commercial banks to SBP. Hence, it appears that the bulk of these machinery imports are being financed from outside the Pakistani banking channel.”Translation:
we’re not sure what’s going on. How are we seeing large-scale imports landing at the port, but not seeing any payment going out for them? If the settlement is being made “outside the Pakistani banking channel”, what does that imply for the “investments” we were supposed to see from China? Surely the outflows on debt servicing will go from the Pakistani channel, but the inflows are not being routed through it.
“This difference indicates that capital equipment imports into the country, FDI and loans from China are not being fully captured in BoP data,” says the report. So our balance-of payments accounts is now way off, and we have an ever-diminishing idea of how much is coming and going. But what happens once these projects begin commercial operations and their debts and repatriation of dividends gets going? Will that bill arrive with a bang?
Connected to this is another intriguing development: the level of Chinese foreign direct investment coming into the country appears to have fallen, even as the project’s implementation is gathering pace and large-scale machinery imports are getting going. Inflows from China as direct investment actually dropped this year by 54 per cent compared to last year, with the bulk of this decline in the power sector.
So how come the power sector is seeing massive amounts of Chinese activity, with projects gathering speed and momentum and large amounts of machinery landing at the port, while imports and investment from China are either stagnant or declining sharply? Connected with this is the fact that loans from China are rising, particularly for balance-of-payments support.
In the first half of the fiscal year, the government has received $848m in loans from a Chinese bank, presumably as balance-of-payments support to help pay for whatever Chinese imports are coming, for which payments are being sent through the Pakistani banking system.
Given the massive scale of the funds involved, the State Bank is right to feel a little puzzled as to why the banking system has not felt the stress from these payments. For now, we can rejoice that material is landing in the country seemingly for free, but project documents make clear that these are commercial projects, so it should be equally clear that soon outflows will begin to pay their cost. So if the stress hasn’t manifested itself yet, that could mean it will arrive later, in magnified form, because we will have to pay not only for the equipment, but interest on top.This is further evidence that we do not fully know how CPEC is really going to work once it gets going
. If the government knew that this is how the procurement would work, it would have been a good idea to inform the State Bank in advance so they would not be taken by surprise in December of this year and have to launch a rather large reconciliation exercise. And if they didn’t know that this is how things were going to work, then one can only wonder what else they don’t know about these deals.