Sri Lanka
Background
We in Ceylon and the countries of Asia look upon the contribution which the People’s Republic of China is making in shaping the new world as perhaps the greatest contribution any country has made.
—Ceylonese Prime Minister S.W.R.D. Bandaranaike, 1957
The Chinese and the Ceylonese people have more or less the same destiny. —Chinese Premier Zhou Enlai, 1957
In 1957, Sri Lanka (then known as Ceylon) established diplomatic relations with the People’s Republic of China (PRC), becoming one of the first non-communist states to do so. The occasion was marked by a historic visit by Chinese Premier Zhou Enlai, who was bestowed the rare privilege of addressing the Ceylonese Parliament and attending independence celebrations as a foreign guest of honour. Recognising communist China was a bold step for the former British colony, which had just begun to chart a new course after its independence in 1948.
Such goodwill had been forged before formal diplomatic ties were established. Warm relations between Sri Lanka and China date to the Rubber–Rice Pact of 1952, when the two countries signed a mutually beneficial trade agreement to exchange Chinese rice for Ceylonese rubber amid a challenging external environment. During the Korean War (1950–53), China struggled to import rubber due to the US-led economic embargo. At the same time, Ceylon’s major export item, rubber, was suffering from a worldwide slump while global prices for its main import item, rice, had skyrocketed. Unable to make enough foreign exchange to import rice, Ceylon sent a trade mission to Beijing despite American threats to withdraw aid. The resulting Rubber–Rice Pact ensured a steady supply of rice to Ceylon at a time of global scarcity and saved the fledging rubber industry from ruin. As a testament to the pact’s enduring appeal, the trade agreement was renewed every five years until 1982.
But it was the election of left-wing Sinhalese nationalist Solomon West Ridgeway Dias Bandaranaike in 1956 that transformed the bilateral ties from a one-off commercial exchange to a deeper friendship. Founder of the Sri Lanka Freedom Party, Bandaranaike believed in a socialist economic policy and a nonaligned foreign policy and was eager to engage China. Bandaranaike used his maiden speech as Sri Lankan Prime Minister at the United Nations General Assembly in 1956 to call for the inclusion of China on the world stage.
Despite Bandaranaike’s assassination in 1959, Sino-Ceylonese ties continued to deepen after his widow, Sirimavo Bandaranaike, was elected prime minister. During the 1962 Sino-Indian War, she engaged in intense shuttle diplomacy to bring Beijing and Delhi to a peaceful resolution. In 1963, a key bilateral maritime trade agreement was signed—China’s first trade agreement with a non-communist country. During Zhou’s second visit to Sri Lanka in 1964, he pledged to gift Ceylon an international conference centre in memory of Bandaranaike. The Bandaranaike Memorial International Conference Hall in Colombo would become the first of several monumental buildings gifted by China to serve as enduring symbols of friendship.
In 1972, Ceylon adopted a new constitution to become an independent republic under the new name Sri Lanka, cutting the remaining ties with its colonial past and British influence. Soon after, Sirimavo Bandaranaike undertook a state visit to China—her first foreign visit in her new capacity as Prime Minister of Sri Lanka—which paved the way for a gradual increase in Chinese aid to the country.
The 1980s saw the formation of several institutional mechanisms to strengthen people-to-people and commercial ties. In 1981, the Sri Lanka–China Society was formed to strengthen friendship. The Sino-Lanka Joint Trade Committee and the Sino-Lanka Economic and Trade Cooperation Committee were established in 1982 and 1984, respectively. They were then merged in 1991 to form the Sino-Lanka Joint Commission for Economic and Trade Cooperation. In 1994, the Sri Lanka–China Business Cooperation Council was formed, adding to the growing attempts to strengthen the economic relationship between the two nations.
In 1983, as ethnic tensions between the Sinhalese majority and the Tamil minority escalated into civil war, China offered steadfast support to successive Sri Lankan governments against the separatist Tamil Tigers. By the 1990s, China emerged as the largest arms supplier to Sri Lanka. Military ties grew even closer with the election of Mahinda Rajapaksa in 2005, who consequently led government forces to defeat the Tamil Tigers and regain control of the entire country in 2009. The war—one of the longest running in Asia—left about 100,000 people dead and more than 300,000 displaced, according to UN estimates. Meanwhile, at the United Nations, China helped Sri Lanka fend off efforts by some Western countries to accuse the Sri Lankan military of human rights abuses during the war.
The end of the civil war in 2009 ushered in an economic boom. Sri Lanka’s economy grew at an annual average of 6.4% during 2010–15, and nominal gross domestic product (GDP) per capita increased by 40% to 3,891 USD—one of the highest in South Asia. Economic growth was led primarily by construction and other non-tradable sectors, as President Rajapaksa (in office until 2015) embarked on major reconstruction projects across the country to jumpstart economic development. Strong growth cut the country’s poverty rate from 2.4% in 2009 to 0.7% in 2016.
Yet much of the postwar spending spree was fuelled by debt. A small tax base and poor tax administration had long plagued Sri Lanka’s public finances. The country’s tax revenue-to-GDP ratio fell from 24.2% in 1978 to 11.4% in 2015—one of lowest in the world, according to the World Bank. The war effort had further drained government coffers. For decades, Sri Lanka relied on generous foreign aid to supplement the meagre tax revenue. But in 2009, Sri Lanka ‘graduated’ from low-income status and thus was no longer eligible for the cheapest types of foreign aid from multilateral development banks. Roughly at the same time, bilateral aid from Western countries largely stopped because of Sri Lanka’s alleged human rights abuses during the war. To finance its large-scale reconstruction program, the Rajapaksa government increasingly turned to foreign commercial loans that were more expensive and shorter in maturity. While Sri Lanka has remained reliant on foreign financing for about 40% of its public investment, its overall cost of borrowing has gone up significantly. Foreign-financed projects tend to concentrate on public infrastructure in the transportation, water, and power sectors.
Against this backdrop, China’s aid, trade, and investment ties with Sri Lanka flourished. Frequent high-level visits by Chinese and Sri Lankan leaders saw the signing of many economic cooperation agreements. In 2012, China became Sri Lanka’s biggest provider of development aid, surpassing traditional donors such as Japan, the Asian Development Bank, and the World Bank. By 2013, China had become the biggest source of foreign direct investment (FDI), investing in major infrastructure projects such as the Colombo International Container Terminal and Colombo Port City. The two countries started negotiating a free-trade agreement in 2014. In 2016, China became Sri Lanka’s largest trading partner, with bilateral trade amounting to 4.4 billion USD. But the trade relationship has been unbalanced: while China ranks first for Sri Lanka’s import origin, it ranks only tenth in Sri Lanka’s export destinations, with the United States first. In 2017, China contributed 35% of Sri Lanka’s overall FDI inflow of 1.36 billion USD—a figure the Central Bank believed would increase further as Colombo Port City and Hambantota Port began to attract significant FDI.
BRI Status
Sri Lanka was one of the first countries to openly support the Belt and Road Initiative (BRI), as it was seen as being aligned with President Rajapaksa’s vision for Sri Lanka’s development, known as the ‘Mahinda Chintana’. In December 2014, Sri Lanka’s Ministry of Finance and Planning signed a Memorandum of Understanding (MoU) with China’s Ministry of Commerce for cooperation on the Twenty-First Century Maritime Silkroad. The memorandum outlined in broad terms areas of economic cooperation, including transport, power, export processing zones, and tourism. The MoU came only several months after Chinese President Xi Jinping’s state visit to Sri Lanka, when both sides agreed to begin negotiations on a bilateral free-trade agreement. In May 2017, on the sidelines of the first Belt and Road Forum in Beijing, Sri Lanka’s Ministry of Development Strategies and International Trade signed the ‘Medium- to Long-Term Development Plan for China–Sri Lankan Investment, Economic, and Technological Cooperation’, specifying a list of major joint projects.
It is worth noting that Sri Lanka’s participation in the BRI has special significance. For many centuries, Sri Lanka was at the centre of the historical Silk Road connecting China with Europe. While the initial Silk Road was over land, after the fall of the Mogul Empire in the fourteenth century, the Ming Dynasty (1368–1644) shifted its approach to include a stronger emphasis on maritime trade, as evident in Admiral Zheng He’s maiden voyage to Sri Lanka in 1405. The discovery of foreign coins and objects in parts of Sri Lanka has led historians to believe the island served as a key hub where traders from the East and the West exchanged wares. To many Sri Lankan leaders today, the BRI represents a symbolic opportunity to strengthen its historical position as a centre of global trade and commerce in the Indian Ocean.
Current Economic Relations
Trade
Soon after its accession to the World Trade Organization (WTO) in 2001, China joined the Asia-Pacific Trade Agreement, of which Sri Lanka was a founding member in 1975. In the ensuing years, particularly since 2009, Chinese exports to Sri Lanka have grown rapidly. In 2016, China surpassed India to become the largest source of imports to Sri Lanka, accounting for 22% of total import volume. Of the 4.3 billion USD of goods Sri Lanka imported from China in 2016, electrical machinery, mechanical machinery, iron, and steel were the largest categories, together making up more than half the total. This reliance on Chinese industrial and construction equipment underlines China’s prominence in Sri Lanka’s postwar infrastructure boom. Sri Lanka also imported substantial amounts of knitted and crocheted fabrics, cotton, and humanmade staple fibre from China, which reflects its comparative advantage in apparel manufacturing.
However, the trade relationship has been unbalanced. China is an insignificant export market, making up only 2% of Sri Lanka’s export value in 2016. The United States and the United Kingdom are Sri Lanka’s top export markets, accounting for 27% and 10%, respectively. Moreover, Sri Lanka’s exports to China have seen only modest growth since 2001, in line with Sri Lanka’s overall trend of weak export performance to the rest of the world. Sri Lanka’s top export items to China include textiles and apparel, tea, raw coconut coir, and natural rubber. Cognisant of the growing trade imbalance, the two countries started negotiating a free-trade agreement in 2014. Several rounds of talks have been completed, but challenges remain, including coverage of products, speed of liberalisation, special and differentiated treatment, and treatment of non-tariff barriers. Moreover, Sri Lanka must also address its underlying weaknessAbeyratne, Sirimal. 2017. ‘Bilateral Economic Ties: Sri Lankan Perspective.’ In The Island of the Lion and the Land of the Dragon, edited by H. M. G. S. Palihakkara. Colombo: Pathfinder Foundation. in export competitiveness and its investment climate.
Investment
Sri Lanka traditionally struggled to attract FDI, with annual inflows of less than 1 billion USD. However, Sri Lanka has seen a major increase in FDI since 2011—a large portion of it from China. In 2009, just as the civil war was coming to an end, Sri Lanka’s central bank signed an investment facilitation agreement with the China Development Bank. In the five years between 2011 and 2015, mainland China and Hong Kong invested 990 million USD and 799 million USD, respectively, accounting for 16% and 13%, respectively, of Sri Lanka’s FDI inflows. In practice, major Chinese investments in Sri Lanka often go through Hong Kong, so the two can be grouped together. Mauritius and the United Kingdom ranked third and fourth. The United States ranked tenth, accounting for 3% of the total.
Major investment projects included the Colombo International Container Terminal (CICT) and Hambantota Port (after the concession agreement in 2017) by China Merchants Port Holdings, and Colombo Port City by China Harbor Engineering Company (CHEC)—both major Chinese state-owned enterprises (SOEs). Aside from investments from SOEs, private capital from China has also been active, especially in apparel, leather, telecommunications, and electronics manufacturing industries. It should be noted that the term ‘investment’ accounts only for equity investment and should not be confused with debt financing, which is another significant financial flow and which is elaborated on below.
Aid
While much Chinese aid to Sri Lanka has occurred in the post–civil war era, the aid relationship started as early as 1964, with Premier Zhou’s gift of the international conference centre in Colombo. Over the decades, China’s provision of development assistance has taken three major forms: concessional loans, interest-free loans, and grants. In 2012, China overtook Japan and the Asian Development Bank to become the largest provider of development aid. From 2012 to 2016, China committed a total of 4.2 billion USD in aid of all types to Sri Lanka. China’s annual disbursement over the same period averaged more than 400 million USD, while the second and third largest sources of aid, Japan and India, disbursed 74 million USD and 44 million USD, respectively.
Chinese development assistance to Sri Lanka spans almost all infrastructure sectors, including power generation, water and irrigation, hospitals, highways, railways, ports, airports, and urban development. Major projects funded by Chinese grants include the Mattala Rajapaksa International Airport, the Nelum Pokuna National Performing Arts Theatre, the Sri Lanka Supreme Court Complex, and the China–Sri Lanka Friendship National Nephrology Hospital. Less visible but no less important is Chinese aid in human development. China provided humanitarian assistance to the victims of the 2004 Indian Ocean Tsunami, the 2017 Aranayake landslide, and the 2022 global food crisis. China also funds an increasing number of Sri Lankan students, government officials, doctors, engineers, and teachers to study in China. During the Covid-19 pandemic, China provided Sri Lanka with 26 million doses of Sinopharm vaccines (as of September 2021), of which 5 million were donated. Chinese vaccines accounted for an estimated 80% of Sri Lanka’s vaccination drive.
Key Controversies
Debt, Sovereignty, and Dependency
Sri Lanka is often portrayed as the poster child of China’s ‘debt-trap diplomacy’—a term coined by an Indian think tank and subsequently popularised by members of the US Trump administration and the popular media. The Hambantota Port project has received the most scrutiny and media attention (for more details, see our project profile at this link). To critics, the project is the prime example of China’s ploy to subject smaller countries in the region to its economic and strategic influence by extending loans they cannot repay. Burdened by Chinese loans, these countries have no choice but to surrender control of the strategically located infrastructure to China—or so the theory goes. In other words, China acts like a predatory loan shark, using debt to create economic dependency.
A variation on the debt-trap theory claims China is using instruments of debt and dependency for military purposes. Because some of China’s investment projects involve ‘dual-use’ infrastructure (that is, infrastructure that can have both commercial and military uses), some speculate that China’s ulterior motive is to create a chain of overseas military bases—also known as ‘the string of pearls’. Hambantota Port is often cited as an example of a potential military base, after China Merchant Port Holdings signed a 99-year lease agreement with the Sri Lanka Ports Authority in 2017. Similar concerns have also been raised about the potential surveillance and cyber risks of the Lotus Tower project in Colombo, which is a 350-metre, 104-million-USD multipurpose communications tower mostly financed by the Export–Import Bank of China and built by China National Electronics Import and Export Corporation and the Aerospace Long-March International Trading Corporation Limited. In the high-profile Colombo Port City—a commercial real estate project—the Sri Lankan Government had to walk back its contractual commitment in 2016 to allocate 20 hectares of reclaimed land to its Chinese developer CHEC on a freehold basis after India protested that Chinese landownership could threaten India’s national security. While foreign commentators tend to frame these concerns in the language of security, locals tend to see them as issues of sovereignty.
Both the Chinese and the Sri Lankan governments reject these accusations. ‘Debt is a neutral term … [Y]ou cannot develop your economy without the use of debt,’ Chinese Vice-Foreign Minister Le Yucheng said in a rare interview with the Financial Times in 2018. Le maintained the origins of the debt burdens in some countries were complex and not necessarily due to the BRI, before adding that China was flexible about repayment terms for countries that were struggling to repay loans. In the same interview, Le insisted that China had no intention of using the BRI as a pretext to set up overseas military bases, instead relying on host countries to provide security.
In recent years, a growing number of scholars has pushed back against the debt-trap accusation. More grounded research and nuanced analysis have emerged to show that the BRI’s implementation is characterised by the same institutional fragmentation and experimentation that have defined China’s domestic development. Therefore, contrary to popular assumptions, there is no evidence of China intentionally setting a debt trap. On the contrary, a growing body of research suggests Sri Lanka’s government often plays a large role in shaping project outcomes, and its economic mismanagement in fact contributed to much of Sri Lanka’s vulnerability to debt distress. According to Sri Lanka’s Central Bank, around one-third of the country’s current external debt burden in fact lies in government borrowing from private creditors in the West on commercial terms (known as international sovereign bonds, or ISBs). These loans typically carry higher interest rates, shorter maturity periods, and no grace period compared with loans from China, whose share of Sri Lanka’s external debt is 9%, according to Central Bank data. As for Hambantota’s military potential, researchers argue that the port’s hydrological conditions and site layout would make it a poor choice for an overseas military base.
Transparency
While allegations of debt-trap diplomacy are increasingly being debunked, they do raise legitimate questions about China’s new role as the largest source of development finance worldwide. As many have pointed out, Chinese overseas lending is notable not only for its size, but also for its opacity. Virtually all Chinese loans are extended by state-owned banks, rather than directly by the government, and many are made to SOEs in recipient countries. This type of lending is often not captured or monitored by the statistics offices of developing countries and international debt reporting channels, which traditionally include only government-to-government lending on concessional terms. As a result, debtor countries like Sri Lanka may not have a complete picture of how much they have borrowed from China and under what terms.
Accusations of a lack of transparency have also been levied against specific projects. Critics often note that BRI deals are struck behind closed doors between Sri Lankan politicians and Chinese companies, with little public participation, open tendering, or competitive bidding. This opacity has contributed to public perceptions of corruption. Notably, critics alleged that CHEC was among a group of donors that transferred 8.1 million USD to members of Mahinda Rajapaksa’s staff in the leadup to the 2015 presidential campaign, when Rajapaksa was seeking a third term. Sri Lanka is among the few countries that do not prohibit foreign contributions to political campaigns, although both Rajapaksa and CHEC denied any wrongdoing. Still, widespread public perceptions of corruption eventually contributed to Rajapaksa’s defeat in 2015 and his family’s dramatic downfall. In 2022, amid rising public anger over Sri Lanka’s worst economic crisis since independence, both prime minister Mahinda Rajapaksa and his brother, president Gotabaya Rajapaksa, were ousted.
Environment
Several recent megaprojects built by Chinese companies with Chinese loans have run into environmental controversy. The Mattala Rajapaksa International Airport, built by CHEC in 2012 at a cost of 209 million USD, has received heavy criticism for being an ill-conceived white elephant and a pet project of Mahinda Rajapaksa. Not only is the airport in the middle of dense elephant habitat, it is also in the path of migratory birds. During the airport’s planning process, experts repeatedly warned of increased human–elephant conflicts and threats to aviation safety. The airport’s environmental impact assessment called for mitigation measures such as creating elephant reserves—warnings and recommendations that were ignored by Sri Lanka’s top officials. An estimated 810 hectares of forest were cleared to build the airport, threatening the habitat of several hundred wild elephants. Sure enough, Mattala Airport has been plagued by safety problems since it first opened in 2013. Within a year of its opening, three passenger planes collided with birds on take-off or landing, leaving windshields cracked and pilots scrambling. Moreover, wild elephants, deer, and peacocks can be seen roaming free on the airport’s grounds. By early 2015, almost all airlines had stopped regular flights to and from Mattala Airport, citing low demand and safety concerns.
Another high-profile project that attracted considerable environmental controversy was Colombo Port City, a multi-billion-dollar business district built on reclaimed land. By 2014, CHEC, the developer-cum-builder, had started dredging the ocean floor to prepare for the foundations of the 2.6-square-kilometre city. But an increasing number of local fisherfolk, most of whom depend on subsistence fishing, claimed the work had caused coastal erosion and, as a result, had reduced their fishing catch and damaged several homes. In 2016, hundreds of fisherfolk, priests, and activists took to the streets to protest the new government’s decision to resume work on the Port City project. Activists claimed the adverse environmental impact would hit the livelihoods of tens of thousands of people.
Sri Lanka’s environmental authorities disputed those claims, blaming existing port infrastructure and illegal sandmining for the coastal erosion. CHEC acknowledged the problem of coastal erosion but insisted that its dredging activities would not affect fish stocks. Nonetheless, CHEC said it recognised the difficult living conditions of local fisherfolk and launched a 550 million LKR (or 3 million USD) ‘fishermen livelihood improvement program’. With the program framed as part of its emerging corporate social responsibility program, the company restored beaches, improved a range of coastal infrastructure, provided health insurance to 15,450 fisherfolk as well as grants to those affected. The episode has also prompted CHEC to significantly step up its engagement with local stakeholders more broadly, including community organisations, trade associations, think tanks, and the media. Moreover, the company has gone to great lengths to promote its commitment to sustainability by adopting international best practices in urban design and master planning, according to Port City’s social responsibility report.
Key Sources
Sri Lanka’s newspaper landscape is dominated by several publishing houses, each of which runs a range of newspapers in English, Sinhalese, and Tamil. Leading English newspapers include Daily FT and its sister newspaper, Daily Mirror, which tend to lean centre-right; Daily News and Sunday Observer, which are state-owed; and The Island and its sister newspaper, Sunday Island, which tend to lean centre-left. EconomyNext.com has emerged as a leading online-only news website with independent coverage of financial and economic matters.
Sri Lanka is also home to a growing number of think tanks. The Institute of Policy Studies of Sri Lanka, a semi-official think tank, is well known for its economic policy research. The Lakshman Kadirgamar Institute and the Regional Center for Strategic Studies are leading voices on international affairs and foreign policy. The Centre for Poverty Analysis is known for its research on poverty and development.
Because Sri Lanka has traditionally been a large recipient of foreign aid, a range of bilateral and multilateral donors has conducted research for Sri Lanka either as part of their policy advisory work or as part of lending operations for individual projects. Many of these reports are publicly available. Institutions include the Asian Development Bank, the World Bank, the International Monetary Fund, UN-Habitat, Japan International Cooperation Agency, and Norwegian Agency for Development Cooperation, to name just a few.
Finally, various Sri Lankan government agencies publish a wealth of information, including socioeconomic indicators, major speeches, gazettes, laws, regulations, plans, and court cases. Researchers can find information from the websites of the Central Bank, the Ministry of Finance, the Department of Census and Statistics, the Department of National Planning, the Parliament, the Supreme Court, the Department of Government Printing, and the Urban Development Authority, among others.
Reports and Scholarly Articles:
- Brautigam, Deborah and Meg Rithmire. 2021. ‘The Chinese “Debt Trap” is a Myth.’ The Atlantic, 6 February. Link.
- Cooke, George and Lakmal Senanayake. Sixty Years of China–Sri Lanka Relations, 1957–2017. Colombo: Bandaranaike Centre for International Studies.
- Jones, Lee and Shahar Hameiri. 2019. ‘Debunking the Myth of “Debt-Trap Diplomacy”.’ Chatham House website, 19 August.
- Rithmire, Meg and Yihao Li. 2019. ‘Chinese Infrastructure Investments in Sri Lanka: A Pearl or a Teardrop on the Belt and Road?’ Harvard Business School Case 719-046.
- Samaranayake, Nilanthi. 2019. ‘China’s Engagement with Smaller South Asian Countries.’ United States Institute of Peace.
- Sirimal, Abeyratne. 2017. ‘Bilateral Economic Ties: Sri Lankan Perspective.’ In The Island of the Lion and the Land of the Dragon, edited by H.M.G.S. Palihakkara. Colombo: Pathfinder Foundation.
