How the Chinese bank’s SGR loan drove up the cost of living

Pacific International Shipping Line (PIL) Kenya assistant manager Siva Kumar (right) and Kenya Railways Business, Commercial and Operations expert James Siele (second right) flag an SGR freight wagon loaded with one hundred and eight containers belonging to PIL Kenya, April 28, 2018. [File, Standard]

A plan put in place by a Chinese bank for the repayment of the 591.8 billion shillings loan for the Standard Gauge Railway (SGR) may be responsible for the rising cost of living.

A new working paper by academics from Johns Hopkins University, while denying the rumor that the port of Mombasa was used as collateral for the SGR, shows how the Chinese lender – the Exim Bank of China – has developed an elaborate financing plan to ensure that Kenya repays three loans it has taken out.

Kenya was planning to take out an export credit insurance policy from China’s Sinosure for the Exim loan at a one-time cost of $113 million (13.2 billion shillings). This pushed the total financing cost of the SGR to 605 billion shillings and ensured that taxpayers would painstakingly underwrite Kenya’s most expensive project.

Consumers would pay a new Railway Development Levy (RDL) on goods imported for domestic use, as importers were forced to use the RMS, even where it was expensive.

As part of the four-party payment agreement, the Kenya Ports Authority (KPA) was required to guarantee minimum traffic for the SGR or pay the shortfall (even if this meant requiring importers to use the SGR) , because the Chinese lender has pulled out all the stops. to prevent any possibility of default.

sovereign default

“The SGR project has been carefully and creatively constructed to reduce sovereign default risks and improve the bankability of a project with significant benefits for Kenyans now and in the future,” reads part of the document, titled “ How Africa Borrows From China: And Why Mombasa Port Is No Guarantee For Kenya’s Standard Gauge Railway.

This payment agreement between KPA, National Treasury, Kenya Railways Corporation (KRC) and EximBank could also have informed a far-reaching reorganization of state corporations which saw both railways and ports – as well as the pipeline – placed under the supervision of the National Treasury.

As the borrower, the National Treasury is expected to religiously service the three loans by ensuring that KPA delivers the correct freight on the SGR line.

KPA collects the transport costs on behalf of KRC and deposits the money in a special fund from which the repayment of SGR loans and operational costs are financed.

The 2% RDL – charged until 2019 at the rate of 1.5% – is collected by the Kenya Revenue Authority (KRA) and paid into a special fund for the repayment of loans if the freight money is not available. is not enough.

Incoming cargo

The increase in the RDL rate from 1.5% to 2% along with a policy directive from KPA to push all incoming goods from the port of Mombasa to SGR coincided with a period when Kenya was due to start repaying SGR loans.

The first repayment of the loan used for the construction of the first phase from Mombasa to Nairobi started on July 21, 2019.

The 233.4 billion shillings loan would be paid every two years until January 2029, according to National Treasury data.

In January 2021, the Treasury was due to start repaying the $1.5 billion (172.7 billion shillings) loan for the construction of the Nairobi-Naivasha branch of the SGR. The loan, which would be paid in 30 installments until July 21, 2035, would see the Treasury pay 5.75 billion shillings twice a year. However, the principal payment for this loan was postponed after China granted Kenya a debt repayment holiday following the Covid-19 pandemic, which disrupted the country’s export earnings.

The authors of the article argued that instead of acting as security or collateral for the loans, the profitable port of Mombasa was tied to the SGR project as a major customer.

“The only role of the port was to help the Kenya Port Authority (KPA), its owner, to ensure that a certain level of cargo would be transported between Mombasa and Kenya’s inland capital, Nairobi.

“If freight levels fell below this level, KPA agreed to draw on its own revenue to make up the difference”

According to the newspaper, repayment of the SGR loan was to come largely from Kenya’s Railway Development Levy (RDL), which was essentially a levy on all imports.

Former National Treasury Cabinet Secretary Henry Rotich reportedly told the National Assembly that the Treasury expects the SGR to repay loans through operating revenue whenever possible.

However, Exim Bank required credit enhancements – a sort of backup or secondary means of income to be provided by the borrower.

Therefore, the lender requested the government to put in place a long-term service agreement, also known as a “take or pay agreement” (TOPA) between KPA and Kenya Railways.

As a result, KPA agreed to “take” a minimum level of transport services offered by the railways through the SGR, failing which it would pay the shortfall.

The authority was to collect freight charges due to KRC from customers for the journey along the railway line to the container depot in Nairobi and then pay them into a project escrow account.

The account – in which funds are held in trust while two or more parties carry out a transaction – was set up by the railways, the Treasury and the Exim bank.

Citing a 2014 report by the National Assembly’s Departmental Transport Commission, the document’s authors note that “revenues from railway operations will be deposited [by KPA]in the escrow account “from which loan repayments will be made”.

When TOPA started in 2020, the Port Authority agreed to transfer a minimum tonnage of six million from Mombasa to Nairobi. According to projections, this figure should reach a maximum of 7.58 million tonnes this year.

Unfortunately, the first six months of the TOPA coming into force (January to June 2020) coincided with the Covid-19 pandemic. As a result, KPA only shipped 1.98 million tons instead of the promised three million.

This meant that KPA would have to hand over to Kenya Railways the equivalent value of 1.02 million tonnes unless the technical committee made up of managing directors from KPA and KRC decided that Covid-19 was an act of God which would then free KPA of this obligation.

In 2013, the government set up the Railways Development Levy (RDL) to “provide funds for the construction and operation of a standard gauge railway network to facilitate the transport of goods”.

The levy, which was initially set at 1.5%, was later increased to 2% in the 2019 finance law.

According to the five authors from Johns Hopkins University, Mr Rotich had said that funds raised through the RDL would also be used to repay SGR loans in the event of a shortfall in fees paid by KPA under the long-term service agreement.

Between the 2013-2014 financial year and June last year, the tax authorities had collected at least 163.4 billion shillings from the tax. In the current financial year ending in June, it is expected to collect 31.6 billion shillings from the RDL and the same amount is expected to rise to 35.1 billion shillings in the next financial year.

Initially, the money from RDL was supposed to supplement the loans for the construction of the SGR, in particular the acquisition of land.

However, as the study shows, the money was also used to repay part of the Chinese loan.

Develop the railway

In his recent budget speech, CS Treasury Ukur Yatani proposed another additional 18.5 billion shillings for the development of SGR “to extend rail transport to the rest of the country”.

However, the budget books show that the “development of the standard gauge railway” was allocated a total of 27.82 billion shillings.

The money was not going to build new SGRs for the rest of the country as the CS had told the country.

Instead, 9.07 billion shillings was allocated to the Mombasa-Nairobi part of the SGR while another 18.5 billion shillings was allocated to the Nairobi-Naivasha segment.

The working paper, the authors say, was informed by allegations, which began with a leaked statement from the Auditor General’s office, that Kenya’s failure to repay the loan would lead to seizure of the port of Mombasa.

However, their two-year forensic analysis of the various contracts between the Treasury and the Exim Bank showed that KPA faces a risk to its cash flow – not the Port of Mombasa.

“Kenya did not use Mombasa port assets as collateral,” the paper said. “Rather, he used the profitability, dynamism and overall financial capacity of the port of Mombasa as support for the SGR project.”

Allegations that the port was used as collateral, researchers say, have become widely accepted around the world as another example of “Chinese debt trap diplomacy” where Beijing provides expensive loans with the intention of seizing borrower’s strategic assets in the event of default.

In the case of Kenya, this resulted from a leaked letter from the Auditor General which mistakenly listed KPA as the borrower, even though the deal was between the Treasury and the Exim Bank of China.

The authors also blamed media misinterpretation of the take-or-pay agreement and its waiver of sovereign immunity clause.

According to the authors, few international banks will offer a loan if there is no legal way to recover their money if the borrower defaults.

Generally, sovereign states like Kenya are immune from prosecution under international law.

“Sovereign immunity waivers are standard clauses in international commercial loan agreements.”

The authors also criticize the government for not being transparent about the loan agreement.

However, they also note that, worried about over-indebtedness, Kenyan officials have expressed interest in restructuring SGR loans, following the example of Ethiopia, which in 2018 succeeded in obtaining a 20-year extension of its loan repayment. railway financed by China.

Interest payment

“With a 10-year payment extension, SGR’s revenue and RDL could fully cover all principal and interest payments after the peak year of 2022,” part of the report reads.

“This would effectively ease pressure on Kenya’s foreign exchange reserves and further reduce the already low probability of default on SGR debt.”

The working paper is an initiative of the SAIS China-Africa Research Initiative based at Johns Hopkins University School of Advanced International Studies in Washington, United States of America.

It was written by Deborah Brautigam, Vijay Bhalaki, Laure Deron and Yinxuan Wang.

Dorothy H. Lewis