Category: Energy & Infrastructure Law

The AIIB follows a six-step process for the approval and completion of projects in Asia. These are as follows: strategic programming, project identification, project preparation, Board approval, project implementation, and project completion and evaluation. All powers of the AIIB are vested in the Board of Governors. Typically, the AIIB’s long term repayment includes a five-year grace period and an interest rate of 1 to 1.5 percent.

The China-pioneered Asian Infrastructure Investment Bank (AIIB), the first international institution created by a non-western power, has at once become relevant to Nepal and its multifarious investment needs. While the World Bank (WB) and the International Monetary Fund (IMF), the two international institutions established after World War II, remain active with the support of the US and the western countries, the global economic system will not remain the same after the emergence of the AIIB. Whether the new entity is taking shape and promising a change that many developing countries have been looking for is still open to question.

Nepal’s investment scenario has not changed qualitatively as far as investments in major infrastructures are concerned. The Ministry of Foreign Affairs of the Government of Nepal has encouraged foreign direct investment (FDI) in many sectors, including land and food production, hydropower and infrastructure development, and the tourism sectors. And the results have been quite satisfactory; according to World Bank’s Open Data, FDI inflows into Nepal as a percent of the gross domestic product (GDP) was at its historical in 2017 at 0.789. By comparison, the same number for Sri Lanka, Pakistan, and India is 1.574, 0.923, and 1.537, respectively. For a country emerging from the lasting effects of a civil war, the number is quite impressive. Yet, it is not enough.

What is being sought is also a big push. In development and welfare economics, this means that a stagnant economy requires a “big push,” a large wave of minimum investments as opposed to a sprinkle of investments, to move towards higher levels of productivity and growth of income in the economy. For Nepal, even as it secures funding from several foreign investors for large-scale infrastructural projects, this big push has not been a reality thus far. The United Nations Economic and Social Commission for Asia and the Pacific is of the position that “[t]he provision of adequate infrastructure, along with macroeconomic stability and a long-term development strategy, is one of the necessary conditions for sustainable economic and social development.” The opinion is certainly correct.

What is being sought is also a big push. In development and welfare economics, this means that a stagnant economy requires a “big push,” a large wave of minimum investments as opposed to a sprinkle of investments, to move towards higher levels of productivity and growth of income in the economy. For Nepal, even as it secures funding from several foreign investors for large-scale infrastructural projects, this big push has not been a reality thus far. The United Nations Economic and Social Commission for Asia and the Pacific is of the position that “[t]he provision of adequate infrastructure, along with macroeconomic stability and a long-term development strategy, is one of the necessary conditions for sustainable economic and social development.” The opinion is certainly correct.

A study, for example, finds that China’s prosperity can be partly attributed to investment-led growth, and that particularly, “[i]Infrastructure development in China has significant positive contribution to growth than both private and public investment.” Moreover, another study also finds that the differences between growth performances in various parts of China can be explained by “geographical location and infrastructure endowment … The results indicate that transport facilities are a key differentiating factor in explaining the growth gap ….” Therefore, an important pointer for Nepal is that careful and deliberate investment is necessary for sustainable economic growth, especially with regards to connectivity and access.

The first ever infrastructure-targeted development bank of Nepal, the Nepal Infrastructure Bank (NIB) received its operating license in February 2019. The NIB is the first bank that is established as a public-private partnership, with the government and the public sector owning 10 and 90 percent, respectively. In a move to support the NIB, the Nepal Rastra Bank (Nepal’s central bank empowered to grant the license) has “allowed [the NIB] to issue loans up to 90 percent of its credit to core capital and domestic deposits ratio,” even though the regular limit is 80 percent. With a focus on infrastructural investment as well as “construction, transportation, agriculture, energy, tourism, special economic zone, urban development and information technology,” the NIB will have an authorized capital of Rs. 40 billion.

International Opportunities for Nepal

The AIIB, beginning operations in January 2016, is anticipated to be a major financial institution of the Belt and Road Initiative (BRI). The AIIB is a multilateral development bank, headquartered in Beijing, with 93 approved members worldwide. A $100 billion bank, the AIIB’s main focus is investment in Asia to enhance social and economic outcomes. The AIIB is constituted and governed by public international law (thereby, international administrative law), including international conventions, customary international law, and general principles of law and the rule of law.

[Table 1 AIIB Projects Proposed in Nepal]

China (26.78 percent voting power), India (7.69 percent voting power), and Russia (6.05 percent voting power) are the three largest shareholders in the AIIB. Nepal joined the AIIB in January 13, 2016 and has a total subscription of USD 80.9 million and a voting power of 0.28 percent. Since its operation, the AIIB has proposed projects in Nepal as well, mainly in the energy and infrastructural sectors (see Table 1). These projects have yet to be approved. There is little doubt that Nepal has an equal opportunity as any other Asian country to continue to attract funding for potential infrastructural projects.

Trends of the AIIB

In the three years since its inception, according to John Hurley, a policy analyst, the AIIB demonstrates three key takeaways: it continues to attract funding from other multilateral development banks (like the WB), it co-finances with such banks, and it will finance projects in countries that other institutions have typically ignored (e.g. Russia and Iran). These trends demonstrate the AIIB’s commitment to diversifying funding and diluting risks for sustainable financing. Moreover, the Bank is available for every country.

In the three years since its inception, according to John Hurley, a policy analyst, the AIIB demonstrates three key takeaways: it continues to attract funding from other multilateral development banks (like the WB), it co-finances with such banks, and it will finance projects in countries that other institutions have typically ignored (e.g. Russia and Iran). These trends demonstrate the AIIB’s commitment to diversifying funding and diluting risks for sustainable financing. Moreover, the Bank is available for every country.

Despite these features, the AIIB draws some critiques as well, including the fact that China does not differentiate between democratic and undemocratic or oppressive regimes; therefore, it worries some that there is a possibility of AIIB’s funds going into the pockets of unaccountable authorities. Additionally, although under Article 13 of the Articles of Agreement, the legal document legitimizing the operations of the AIIB, it promises to ensure its projects uphold its policies regarding environmental and social impact, some scientists worry how large-scale transport and road projects, financed inappropriately, will degrade the surrounding wildlife and environment. Concerns regarding the displacement of local populations because of infrastructural investment and corruption are rampant as well. Additionally, some critics point out China’s obvious veto power over major decisions by the AIIB as it holds the highest voting power.

China’s response to these criticisms is notable as well. Joining Western powers in upholding the international norms and standards of sustainable financing has been well-regarded as China’s attempt to curb some of the criticisms about sustainability and environmental impact. This extends to concerns about human rights as well and the involvement of international and regional banks in ensuring that international standards of human rights are upheld. Additionally, some scholars emphasize that this China-led multilateral development bank complements the existence and policies of existing western banks and is not a confrontational force to the global financial governance system.

Bretton Woods and the AIIB

Before the AIIB came the Bretton Woods system, the first international monetary systems that aimed to create an efficient foreign exchange system (based on the U.S. dollar and the value of gold) and promote international economic growth. The Bretton Woods Agreement gave way to the establishment of the IMF and the WB. The IMF has been focused on promoting international monetary cooperation, while the WB has focused on lending to developing countries for economic growth.

It is important to consider how the IMF and WB differentiate from the AIIB. For starters, membership in the Bretton Woods system was largely composed of Western countries and Japan, an alliance continued after World War II of the Allied nations. The AIIB, on the other hand, did not form post-war, focusing on repairing the damages from the war and then moving on to developmental goals. Instead, the AIIB was founded on the idea of fostering economic activity through investment and offers membership to any and all countries, regardless of their economic status in the world, with allocated voting power. Additionally, the AIIB is not only for wealthier countries, and a study finds that actually countries that are underrepresented in the global financial arena are more likely to join.

It is important to consider how the IMF and WB differentiate from the AIIB. For starters, membership in the Bretton Woods system was largely composed of Western countries and Japan, an alliance continued after World War II of the Allied nations. The AIIB, on the other hand, did not form post-war, focusing on repairing the damages from the war and then moving on to developmental goals. Instead, the AIIB was founded on the idea of fostering economic activity through investment and offers membership to any and all countries, regardless of their economic status in the world, with allocated voting power. Additionally, the AIIB is not only for wealthier countries, and a study finds that actually countries that are underrepresented in the global financial arena are more likely to join.

Additionally, the AIIB and the western multilateral development banks differ in their ideologies. The western institutions followed a liberal economic theory to promote democracy around the world. Contrastingly, the AIIB is mostly removed from domestic matters of the borrowing countries; the Articles of Agreement explicitly bars members from influencing political affairs of borrower countries. Unlike the WB, the AIIB does not require privatization or deregulation for potential borrowing countries to qualify for funding. In a way, this is helpful to some countries that face issues convincing pre-existing financial institutions to extend investments.

Another important issue for Nepal will be how much ownership Nepal can take on to construct and maintain the projects. China and other lending institutions emphasize sovereignty of the borrowing countries to lead projects, make decisions about the countries’ needs, and establish policy frameworks to reap the benefits of infrastructural projects. However, the lack of conditionality in qualifying for loans means that it will be up to Nepal to improve both governance and policy to ensure success. It will be very important for Nepal to ensure a rigid policy framework and build the capacity of its human resources in order to avoid failed projects and the subsequent debt distress.

Legal issues pertaining to AIIB in Nepal

Maintaining international levels of environmental standards is one of AIIB’s commitments for all the projects it will fund. For example, some argue that the AIIB is not “rigorous in its evaluation of mitigation measures” and vague about issues of biodiversity. In the case of projects’ effects on natural habitats, the AIIB requires a cost-benefit analysis; however, the AIIB is unclear about how it will conduct such analyses, and the ultimate argument for the construction of a project may be arbitrary with a simple defense of the economic gains outweighing environmental protection. Upholding international environmental standards are especially important for Nepal, which is one of the most vulnerable countries to climate change.

In the area of labor standards as well, the AIIB is amendable to some international standards, although some scholars argue that it has fared poorly. For example, it explicitly prohibits forced labor and uses similar language that the International Finance Corporation, the private sector arm of the WB, uses. However, while the AIIB prohibits child labor through a Minimum Age Convention, it is not party to the United Nations Convention on the Rights of the Child and the Worst Forms of Child Labour Convention (to which the ICF is party), which leave open some loopholes. This includes child labor moving to unregulated sectors outside the specified industries under the Minimum Age Convention.

In Nepal, child labor is very much rampant, although it has been declining, and disproportionately hurts girls; additionally, 60 percent of child labor is engaged in hazardous work. The Government of Nepal has various initiatives (including the National Master Plan (2011-2020)) to curtail child labor. It’ll be important that such national and international standards are maintained in Nepal for AIIB-funded infrastructural projects, even when AIIB itself isn’t party to such standards.

The AIIB, together with the World Bank and other such institutions, presents a great opportunity for Nepal to seek funding for various infrastructural projects. The diversity of its funding and its members is a safety net for borrower countries like Nepal, as it provides for sustainability and a system of accountability. Moreover, infrastructure-related funding is crucial for Nepal, a country that contains various isolated areas lacking simple facilities. A September 2018 study by AidData, a research lab at College of William & Mary, finds that Chinese investments, especially in the transportation sector, reduce economic inequality within and between sub national localities. “Connective infrastructure,” they find, creates positive economic spillovers and equal distribution of economic activity in the implemented areas.

As a mechanism for accountability, the AIIB drafted and received comments and recommendations from international organizations concerned with project-effected people on its Project-Affected People’s Mechanism (PPM). These organizations, in a letter to the AIIB, raised concerns over the exclusions of the principles of accessibility, transparency, and legitimacy in the PPM. It also pointed out that only 12 of its initial 60 recommendations for best practices had been adopted by the AIIB as well as specified paragraphs in the draft that were deemed problematic. The writers of the recommendation pointed the “[u]nrealistic requirements to demonstrate ‘substantial’ harm,” “[u]nreasonable preconditions to filing submissions,” as well as a “[c]omplex and rigid filing system,” among other concerns. A comprehensible and smooth process will be necessary for borrowing countries and the people affected by infrastructural project, many of whom in Nepal would be isolated indigenous communities that depend on the surrounding forests, to ensure that projects will actually bring the prosperity that they promise.

Similarly, while international dispute resolution has been used by other multilateral development banks, scholars (Radavoi and Bian (2017)) emphasizing the influence of China in the AIIB argue that China generally is reluctant to pursue dispute settlement by third parties as a mechanism for resolution and instead opts for bilateral consultation or other non-compulsory mechanisms. However, the AIIB is multilateral and often collaborates with the WB, which emphasizes dispute resolution by a third party; additionally, the November 2018 AIIB conference focused specifically on legal dispute resolution, demonstrating that it will be an important factor for AIIB-funded projects.

Conclusion

The AIIB, together with the World Bank and other such institutions, presents a great opportunity for Nepal to seek funding for various infrastructural projects. The diversity of its funding and its members is a safety net for borrower countries like Nepal, as it provides for sustainability and a system of accountability. Moreover, infrastructure-related funding is crucial for Nepal, a country that contains various isolated areas lacking simple facilities. A September 2018 study by AidData, a research lab at College of William & Mary, finds that Chinese investments, especially in the transportation sector, reduce economic inequality within and between sub national localities. “Connective infrastructure,” they find, creates positive economic spillovers and equal distribution of economic activity in the implemented areas.

Because debt distress can become a major issue for countries with low GDP, it is important for Nepal to carefully evaluate the need and anticipated returns of its investments. The process of approval for AIIB funds ensures that Nepal has the mechanisms, including technical assistance, to make such decisions. Additionally, while infrastructure investment is crucial, so is the continued investment and support of “soft infrastructures,” namely, health policies, education, and management systems for administration, urbanization, and other such factors. It is essential that physical infrastructure development is accompanied by human capital formation as well in order to ensure sustainable economic growth. The complementary growth of Nepal’s infrastructures and human capital is necessary for Nepal to realize economic growth and prosperity.

[Dr Bipin Adhikari is a constitutional expert and is currently associated with the Kathmandu University School of Law. Bidushi Adhikari is associated with Nepal Consulting Lawyers, Inc as a research assistant.]

China and landlocked Nepal seem to have almost finalized the text of a transit protocol that is to be signed when President Bidya Devi Bhandari visits China on a four-day official tour in April 2019 for the second Belt and Road (BRI) forum. This protocol is an additional opportunity for Nepal because, besides Indian, Nepal will be able to access Chinese land and sea ports for trade. As proposed, Nepalese businessmen and traders can now access three land and four sea ports in China, including the largest port in Northern China, Tianjin Port, which could have multifarious uses for Nepal in its trade relations with other countries.

Nepal is not the first country to gain access in this way to transit countries’ ports for trade. There are 48 other countries, including five partially-recognized states, that share the status and fate of landlocked nations. Some of these countries have faced economic and developmental handicaps and have borne great costs to gain access to the high seas. Their internal structural problems coupled with their lack of access to the sea hinder or delay the pace of their development compared to countries with access. Such landlocked countries’ investment scenarios are poor, and their trade largely depends on foreign ports.

Fortunately, the United Nations Convention on the Law of the Sea of 1982 guides the international law for access to ports for landlocked countries. This right has also been reaffirmed by the United Nations GA Resolution 46/212 of December 20, 1991. Therefore, the disadvantage of landlocked countries is recognized in international law, and instruments exist to resolve common problems, at least as a matter of principle. However, new challenges continue to arise. When landlocked countries do gain access to ports, factors such as poor transport infrastructures, higher transaction costs, unreasonable fees, and road tolls raise costs even further. Additional hurdles include process delays at border checkpoints and customs, tax, and bureaucratic procedures.

Nepal’s transit pathology need not be overemphasized. The Nepal-China transit protocol should be kind to the problems that Nepal has been facing. As a means of comparison, other similarly-situated countries, such as Bolivia, Afghanistan, and Mongolia, that have limited or no access to sea ports have signed similar deals with neighboring countries, like Chile, Pakistan, and China, respectively, for access. Analyzing the cases of other landlocked countries can point to the issues that could develop as Nepal accesses land and sea ports in China.

For example, the 1982 Convention exempts the traffic in transit from custom duties, taxes, and other charges; however, high costs can still be challenging. As per this provision, neighbor Chile has allowed Bolivia, a Latin American landlocked country, tariff-free access to two of Chile’s sea ports, Antofagasta and Arica, and the presence of its own custom officials. From Arica, Bolivia ships 80 percent of its exports to its trade partners, like South Korea, India, and the UAE.

Despite these advantages, trading via the Pacific Ocean proves to be very expensive in the Chilean-Bolivian route due to the high transit fees caused by the rugged terrain. After the International Court of Justice denied Bolivia’s request to compel Chile into providing Bolivia “sovereign access” in the Pacific Ocean, the Bolivian government provided three river ports on the Paraguay-Parana waterway with international classification as an alternative. Such high costs will no doubt be a consequence of Nepal’s trade via Chinese ports, especially due to the enormity of the Himalayas. Therefore, to realize the gains from this access to ports, Nepal will need to amp up the infrastructure in the Nepalese side of transit points and could attract investments from China and other Asian countries that stand to benefit from connectivity with South Asia.

High transit costs or costs associated with the trade in transit countries are of concern to Chad and the Central African Republic as well. Accusations of corruption at the Doulua port in Cameroon have prompted officials from the previous two countries to investigate the proceedings at the port and seek (albeit more expensive) alternative ports for trade, including Cotonou in Benin. Importers say the transit costs include paying at not only the the checkpoint and customs, but also to the police and military personnel on the road, as a form of bribery, which Cameroon denies.

Additionally, although the 1982 Convention ensures rights for landlocked nations, such rights are subject to bilateral or multilateral agreements between landlocked and transit states. The quality of such agreements depends on the quality of relationship between the two types of states, their perception of each other, and the nature of the bilateral or multilateral agreements by which they can both abide. Arising problems strain bilateral relationships, negotiations could suffer, and the willingness to help each other may disappear. An example is complications with blockades in the Nepal-India relationship with their respective statuses as landlocked and transit countries. This environment falls short of the cooperation required for realization of free transit.

Ultimately, what prevails is not the rights of transit states (as they are not absolute rights) but the level of political will and commitment of transit states to generate benefits for both sides. Again, as the Bayeh (2015) paper notes, “… the [1982 Convention] does not put a commitment on the transit states to refrain from creating constraints for landlocked states as sub article 3 gives complete rights to the transit states to take all measures necessary to ensure that the transit of land-locked states in no way contravenes their legitimate interest, though whether it is possible to totally stop passage or on certain occasions is not clear.”

The Afghanistan-Pakistan Transit Trade Agreement is an example of how relationships between countries effect bilateral agreements regarding transit trade. Signed in 2010, this agreement allowed Afghanistan to import duty-free goods through Pakistan’s sea ports. However, the agreement did not allow for bilateral trade between Afghanistan and India through Pakistan’s ports, as although Afghan goods could reach the Pakistan-India border to be imported, Indian goods could not be brought back to Afghanistan. Consequently, as Afghanistan’s trade partners have diversified, it has been emphasized that trade with Pakistan has continued to decrease despite this transit agreement.

Following growing tensions between Afghanistan and Pakistan and the latter’s implementation of blockades during political disagreements, India, Afghanistan, and Iran signed a trilateral transit agreement in May 2016. The agreement was a pact to establish the Chahabar Port in southeastern Iran on the Gulf of Oman as a transit hub for the three countries. The Port has now been handed over to a state-owned Indian company for operation, and India views this Port as a way to bypass Pakistan and extend its reach into Central Asia.

Nepal considers the transit through China as not only an addition to its access to India’s ports, but also as an openness that could have immense potential for development of Nepal. In the context of the BRI, such potential includes additional Chinese investment in Nepal in heavy infrastructures like hydropower plants, railways, airports, roads, and tunnels as well as the promotion of Nepali agricultural and tourism sectors. These investments could regenerate Nepal, strengthen Nepal’s exporting capacity, and provide meaning to transit protocols being worked out by Nepal and China.

Importantly, facilities provided by India as a transit state to Nepal have been generous overall, and Nepal enjoys closer and commercially-viable access to ports assigned by India when compared to Chinese offers. However, when there has been bilateral issues between India and Nepal, they have largely been politics-related and have always affected the Nepalese’s morale as a country. The same issues of what the Chinese side can offer to avoid a similar fate is of importance here.

This transit treaty faces an enormous physical challenge, the Himalayas, in its realization, and export concessions to Nepal is only one aspect of the deal. The Nepal-China transit protocol has to be commercially-viable to match or overcome the access, competitive prices, and lingual and cultural similarities that India offers Nepal. To realize the full potential of the transit access, Nepal and China will need to work together to evaluate Nepal’s needs as a neighbor in order to facilitate the use of China’s ports; the two countries also need to ensure that China is able to support, legally and financially, the long-term and continued growth of trade via its ports through favorable agreements and the development of infrastructure.

Landlocked countries have an opportunity to leverage their position in unique ways if they are strategically located, as is the case for Nepal. Mongolia, a landlocked country lying between the emerging powers in Asia (Soviet Union and China), was in a similar situation back in the early 1990s. Its trade was largely monopolized with the then Soviet Union. In 1991, after Mongolia’s economy had been suffering following the Soviet Union’s withdrawal of gasoline from its economy, Mongolia turned to China to gain access to its port of Tianjin and open up to the world.

By 2016, the port linked sea-to-railway container transport, and has a railway connection all the way to Ulaanbaatar, the capital city of Mongolia. Presently, Mongolia looks to leverage its strategic location between Russia and China that enables China’s access into Europe via rail from Ulaanbaatar to Moscow and then to Europe. Mongolia’s case demonstrates that there is a need for Nepal, also sandwiched between two transit countries, to leverage its position as a gateway into either country by supporting the investment of infrastructure within the country that will create advantageous access to these transit hubs.

Nepal is strategically situated to reap the benefits of being a gateway into the South Asian market. While the transit protocol is a step towards this end, it is by no means a comprehensive one. Nepal and China will need to work closely together to ensure the development of systems and facilities that will truly foster trade and connectivity between the two countries and between China and other South Asian countries. This will require a favorable environment and a fast-paced process as well.

[Dr Bipin Adhikari is a constitutional expert and is currently associated with the Kathmandu University School of Law. Bidushi Adhikari is associated with Nepal Consulting Lawyers, Inc as a research assistant].

As a country intending to benefit from the China-led Belt and Road Initiative (BRI) and its development potentials, Nepal needs to consider the criticisms regarding China’s practice of “debt-trap diplomacy.” Nepal also needs to work out the necessary strategies to avoid or escape a debt trap, if it indeed is a substantial threat. Under “debt-trap diplomacy,” borrower countries are unable to pay back to creditors the hefty loans with interest, and creditors are in a position to exert influence over national matters. If this is the case, the next issue is how the law and legal mechanisms may assist Nepal when adopting debt financing for heavy infrastructures.

Firstly, the nature of the debt problem must be understood properly. It is more of a financial issue rather than a legal one. In the BRI strategies, China is, and will continue to grow as, a planner in addition to a leading investor in infrastructure projects that promote greater connectivity and trade. Many BRI countries in Asia, Africa, and Latin America are not only resource-rich or strategically-located, but oftentimes, struggling with weak social, political, and economic institutions. However, these are also the countries that desperately need an economic boost through mobilization of internal and external investment opportunities. They lack the infrastructures to facilitate trade, generate energy, promote the movement of goods and people, and stimulate societal growth, among other things. Needless to say, Nepal falls under this category.

Foreign debt has remained a major issue in international development. Due to the myriad of economic, social, and political obstacles facing such countries, debt trap becomes a major issue when large-scale investments are financed by foreign investors. For a country like Nepal, which has a history of dependence on foreign direct investment and aid, high corruption rates, and slow development, it is important to evaluate the risks of participating in projects under the BRI, as noted above, because the inability to pay back loans can result in a crippling economy, a loss of political power, and, in the worst case, a loss of sovereignty.

Foreign debt has remained a major issue in international development. Due to the myriad of economic, social, and political obstacles facing such countries, debt trap becomes a major issue when large-scale investments are financed by foreign investors. For a country like Nepal, which has a history of dependence on foreign direct investment and aid, high corruption rates, and slow development, it is important to evaluate the risks of participating in projects under the BRI, as noted above, because the inability to pay back loans can result in a crippling economy, a loss of political power, and, in the worst case, a loss of sovereignty.

What does the debt trap look like?

The Center for Global Development’s policy paper entitled “Examining the Debt Implications of the Belt and Road Initiative from a Policy Perspective” (CGD paper) examines the likelihood of problems related to debt sustainability (i.e. rising debt-to-GDP ratios) in 68 borrower countries; it found that eight were particularly vulnerable to debt distress (this did not include Nepal). Among these eight is neighboring Pakistan that has allegedly been charged a 5 percent interest rate on the China-Pakistan Economic Corridor projects that amount to approximately $63 billion, of which $33 billion is invested in infrastructure projects.

Similarly, lawmakers in Myanmar are increasing pressure on the government to pay back its $4 billion debt (with a 4.5 interest rate) to China. Most of the debt is said to have accumulated from 1998 to 2011, when Myanmar was struggling with West-imposed sanctions and only China was willing to lend capital. The debt has caused the government to scale back parts of the Myanmar-China Economic Corridor as well as reexamine the terms of a $10 billion, China-funded port project.

Among the critics of the BRI, Sri Lanka has become an example of how developing countries fall into China’s “debt trap.” In late December 2017, Sri Lanka handed over its Hambantota port and 15,000 hectares of the surrounding land to China on a 99-year lease to pay off $1.1 billion in debt. According to a New York Times investigation, large sums of money “flowed directly to campaign aides and activities for Mr. Mahinda Rajapaksa [(the previous president)], who had agreed to Chinese terms at every turn and was seen as an important ally in China’s efforts to tilt influence away from India in South Asia.” Additionally, Sri Lanka continued to accumulate debt to China with interest rates higher than those offered in the international market. Many questioned why the funding was approved when preliminary reports indicated that it was not a profitable project.

Indian scholars argue that the debt trap is caused primarily because of China’s high interest rates, and that countries, like Sri Lanka that handed over the China-funded Mattala Rajapaksa International Airport (MRIA) to India to operate, could benefit from low-interest loans of 1 percent from India. Additionally, Indian critics, like Brahma Chellaney, are especially fearful that China’s “imperial giant’s velvet glove cloaks an iron fist – one with the strength to squeeze the vitality out of smaller countries.”

How does China handle debt trap?

These issues beg the question of how China has and will approach projects that face issues of debt repayment. The CGD paper explains that China has largely dealt with the issues in a case-by-case manner. This has included writing off debt in exchange for disputed territories, forgiving or restructuring debt, and debt-for-equity swaps. However, if China officiates a single, integrated approach, smaller countries will gain more confidence regarding avoiding the issues of a debt trap.

China is also encouraged to join, rather than just observe, as it is doing currently, the Paris Club. The Paris Club is a “non-institution” institution comprising of 22 permanent members that are largely western, creditor nations. The objective of the Paris Club is to “find workable solutions to payment problems faced by debtor nations” that demonstrate a need for debt relief and a willingness to implement the International Monetary Fund’s (IMF) suggested economic reforms. The Asian Development Bank, where China has the third highest voting power, is also an attending member. At the least, China is advised to coordinate its efforts of handling debt with the Paris Club and show transparency in its lending. China’s presence certainly shows that China takes the allegations seriously.

How can Nepal approach the problems of debt traps?

Despite these “debt traps,” countries, including Nepal, will continue to approve China’s investment. Sri Lanka and China are expected to sign a free-trade agreement this year to encourage Sri Lankan exports to China. The Sri Lankan ambassador to China has emphasized that the BRI is a great opportunity to make Colombo Port city a financial center in South Asia. Moreover, China and Singapore are in negotiations with Sri Lanka to invest $1.1 billion in cement and steel plants.

There are various measures that Nepal can implement to prevent debt trap from becoming a reality. For domestic debt, in The Debt Trap in Nigeria: Towards a Sustainable Debt Strategy (2002), authors Okonjo-Iweala et al. argue that the inability of a weak legal and institutional framework, especially at the local levels, to handle public resources can lead to the mismanagement of economies and the problems related to debt overhang (p. 11). Legal reforms should focus on encouraging “effective and efficient utilization of present and future public resources [and] would ensure probity in public resource use, due diligence, transparency, and accountability …” (p. 16). The logic applies in the case of international investment as well.

Additionally, the existence and safeguarding of legal protections are also necessary in ensuring that assuming foreign debt is seriously considered by both the government and the public; for example, the Constitution of the Philippines allows the President to contract foreign debt only at the approval of the Monetary Board, and local laws ensure public participation via governmental representatives.

The CGD paper suggests that China needs to engage in multilateral lending practices of debt sustainability (e.g., transparency and concessionality) that is largely lacking in its bilateral lending practices. It furthers two recommendations to China: “1) to finance technical legal support to developing country borrowers, through new and existing multilateral mechanisms; and 2) to offer debt swap arrangements in support of environmental objectives” (p. 24). Additionally, Nepal itself needs to ensure the right funding plans, whether that’s grants or soft loans, are in place for large infrastructural projects like the trans-Himalayan railway or the Budhigandaki Hydropower Project.

Borrower countries will accumulate significant debt if the projects do not produce anticipated profits. Therefore, it’s important to study and evaluate which infrastructures are essential to the country’s development and will stimulate the economy via, for example, trade, employment, and further investments. For example, in the Philippines, the “combination of domestic economic demand, diversity in aid funding, and a contentious political culture and civil society make a Chinese-dominated debt trap unlikely.”

Furthermore, the current administration in the Philippines is ensuring that China has no sway in deciding which projects the Philippines ought to pursue; additionally, only after gaining project approval from the National Economic and Development Authority Board can the government of the Philippines take its proposal to the Chinese government. Typically, the government of the Philippines asks for at least three bidders nominated by the Chinese government, so that it is also involved in the process of picking the bidders and can be held accountable.

For countries that find themselves entrapped in debt, debt restructuring (i.e., reconsidering the terms and due dates of debt toward the advantage of the debtor) is a common tool used for resolution. In 2018, China engaged in talks about debt restructuring with Zambia after warning from the IMF about an impending debt distress. (27 percent of Zambia’s external debt is owed to China.) Scholars recommended that Zambia should increase transparency of its debt and perform a review of and strengthen its existing debt-management system. Moreover, others argue that, unlike the Western approach of measuring a project’s “success” in five years, the return on investment on China-funded infrastructure projects should be considered in a longer term of one to two decades.

What can we take away for Nepal?

Some experts opine that the debt traps caused by China’s investments counter China’s own interests and are not motivated to gain influence; in many cases, China is the only available lender of construction services or capital (as was the case with Myanmar). Debt traps would also pressure China’s foreign-reserve exchanges, as investments in infrastructure projects are funded by said exchanges. With BRI projects’ cheap financing and Chinese companies’ willingness to take on unprofitable projects, China would lose more if debt traps are widespread.

Additionally, some argue that corruption and political interests, not Chinese investments, are major factors in projects turning over a loss and entrapping governments in unsustainable debt. Even still, the BRI has been accused of enabling and sustaining corrupt authoritarians who accept bribes or embezzle funds so that the country eventually goes into severe debt. Demanding transparency about the funding agencies and discouraging anonymity of investors will be important solutions in this regard.

Criticisms about debt trap vis-a-vis China-funded projects often originate from Western media and, in the case of Nepal and other smaller South Asian countries, India. Recently, US Vice President Mike Pence criticized China for drowning borrower countries in debt from loans they cannot afford. In response, China has emphasized that BRI projects have helped with development and improved livelihoods. (Currently, the US is promoting the Asia Pacific Economic Co-operation (APEC), a counterpart of the BRI, to promote free trade in the region.)

On a positive note, China has defended the BRI and demonstrated its support for multilateralism and global governance standards. The Center for Strategic and International Studies estimates that the infrastructure needs of the developing parts of the Asia Pacific will require $26 trillion by 2030, and China has only pledged $1 trillion; this clearly indicates that the BRI is an opportunity for multilateral and private investors from the West, and not a Chinese hegemony. Therefore, Western critics and nations also have an equal opportunity to invest and demonstrate what they preach.

Moreover, critics accuse the West of misrepresenting cases that supposedly exemplify China’s practices of “debt-trap diplomacy.” While the New York Times suggestively claimed that China forced Sri Lanka to “cough up a port” to pay back a part of its loans, local coverage of the exchange shows that it was Prime Minister Ranil Wickremesinghe who suggested the exchange during talks of debt restructuring, and it was largely perceived as a positive development. Similarly, others point out the requirements of IMF’s loan conditionality has hurt Pakistan’s economy and required multiple bailouts by IMF itself, further indebting Pakistan.

Lawrence Freeman, a political-economic analyst, stresses that the accusations of debt trap are Western “propaganda and gossip” against China; he points to the British Jubilee Debt Campaign’s 2018 brief entitled “Africa’s growing debt crisis: Who is the debt owed to?” which shows that the maximum debt owed to China by African countries is estimated at $100 billion or 24 percent of the total debt. The rest is owed to a combination of other creditor groups: members of the Paris Club, the World Bank, the IMF, other multilateral institutions, and the private sector (excluding that of China).

Debt trap is definitely an important consideration for Nepal as it joins the BRI. As of early 2018, foreign debt comprised of 16.9 percent of the total GDP and was owed largely to multilateral institutions like the World Bank and the Asian Development Bank followed by Japan, China, and India. The CGD paper does not consider Nepal to be at risk of debt distress, and Nepal has actively engaged in talks with China about bilateral lending for infrastructure projects. As far as China is concerned, it has always been considerate in its engagements with Nepal. This relationship is a major strength in dealing with a debt-trap scenario.

Debt trap is definitely an important consideration for Nepal as it joins the BRI. As of early 2018, foreign debt comprised of 16.9 percent of the total GDP and was owed largely to multilateral institutions like the World Bank and the Asian Development Bank followed by Japan, China, and India. The CGD paper does not consider Nepal to be at risk of debt distress, and Nepal has actively engaged in talks with China about bilateral lending for infrastructure projects. As far as China is concerned, it has always been considerate in its engagements with Nepal. This relationship is a major strength in dealing with a debt-trap scenario.

Every investment assumes a reasonable level of risk. Most importantly, Nepal needs to carefully evaluate the process of selecting projects, of creating an investment portfolio (including considering the debt-to-equity ratio), and complying with the established laws and policies. The decision-making process must be based on the rule of law and the transparency of transactions. A competitive bidding process must not be compromised either. Additionally, the Nepali public should demand the opportunity to bring forth its concerns and actively engage in the process of finalizing important deals. Successful outcomes will depend on how well Nepal is able to negotiate the process of securing loans, resolve arising issues, and cultivate an environment that is conducive to sustainable investment and growth.

Dr Bipin Adhikari is a constitutional expert and is currently associated with the Kathmandu University School of Law. Bidushi Adhikari is associated with Nepal Consulting Lawyers, Inc as a research assistant.

From land acquisition to hiring of personnels-challenges abound to implement contracts under the Belt and Road Initiative (BRI)

[A version of this article appeared in the Kathmandu Post on February 15, 2019 entitled “Rough Road Ahead.”]

Nepal and China have shared close bilateral ties for many years, reinforced by mechanisms such as the Joint Consultation Mechanism, Nepal-China Inter-Governmental Economic and Trade Committee, Nepal-China Joint Committee on Agriculture Cooperation, and Border Law Enforcement Cooperation, among others. After the first “economic aid” ties in October 1956, China has risen to become one of the leading investors in Nepal; for the third consecutive fiscal year, in 2018, China topped the foreign direct investment ranking in Nepal, accounting for 84 percent (approximately $427 million) of the total investment. Since 2013 and as of December 2018, Nepal and China have signed contracts for investment in Nepal amounting to $3.32 billion.

While western investors have generally viewed Nepal’s political instability and its rugged terrain as challenges to infrastructure investment, Chinese investors have deemed Nepal adequate for investment “because of investment-friendly policies from government side.”

While western investors have generally viewed Nepal’s political instability and its rugged terrain as challenges to infrastructure investment, Chinese investors have deemed Nepal adequate for investment “because of investment-friendly policies from government side.” As Nepal continues to sign and expedite major projects under the Belt and Road Initiative (BRI) in the “hydropower generation, manufacturing, river training and agricultural industries,” for example, it is especially important to evaluate how infrastructure projects have fared in Nepal and what kinds of challenges they face in upholding the terms of the contract, progressing, and meeting deadlines.

Political and Geopolitical Challenges
According to Deloitte’s analysis of BRI projects and their conversations with BRI clients, political risks tops the other risks associated with the implementation of contracts for BRI projects. Deloitte suggests that this risk can be mitigated by understanding and overseeing the stability of the host country’s government through the duration of the projects. Such political instabilities are true of Nepal as well. For example, in late 2017, the $2.5 billion Budhi Gandaki hydropower project (anticipated to meet Nepal’s demand of 1,200 megawatts of the total 1,400 megawatts requirement) was scrapped by the government. The cancellation followed a change in the leading party of government from the Maoist-led government, although a lack of efficiency was named one of the reasons for the cancellation. Political interests will no doubt play a role in the future as well, as governing parties’ priorities change. It is important for the leadership to ensure that the progress of the national-interest projects continues.

Delays in the decision-making process are another major issue that threatens the productivity of infrastructural investments. As of late 2018, the Chinese government was still waiting on approval from the Department of Roads in Nepal to move forward with the second phase of the Ring Road expansion project. Delays from the Chinese side have also been an issue, as has been the case with Kulekhani-3 Hydropower Project, where one of the contractors, Jheijian Jialin, responsible for the electromechanical works of the project, has been repeatedly asked by the Nepal Electricity Authority to speed up construction and has been imposed with a fine of Rs. 80 million for the delays. The Upper Trishuli 3A Hydropower Project faced similar delays, as the lending bank, Export-Import (Exim) Bank of China, has delayed the deployment of funds to the contractor for construction.

In the same vein, Nepal’s increasingly close ties with China threaten to change the geopolitics of South Asia. After India-funded projects that failed to be completed, including road and hydropower projects, China has presented itself as a reliable partner for investment in infrastructure, including gifting a new training academy in 2018 for Nepal Armed Police Force, previously a project claimed by India. China promotes a narrative of unity in South Asia, supposedly to downplay the tensions between the two countries, and has asked India to join China in investing in infrastructural projects in Nepal. This type of proposition has hardly come from India; while China has promoted the connectivity of the China-Nepal-India economic corridor, India has generally been wary of the project.

Transparency and Fair Competition

At the European Business Summit held in the first half of the 2018, European delegation raised the issue of transparency of China-funded projects so that European companies can apply for projects and also ensure their sustainability. According to Nikkei Asian Review, 89 percent of contractors participating in Chinese-funded transportation projects are actually Chinese. In contrast, projects funded by multilateral agencies such as the World Bank and the Asian Development Bank are much more diverse, with 29, 40.8, and 30.2 percent contractors that are Chinese, local, and foreign, respectively. The reason for the popularity of Chinese contractors could be that Chinese contractors are highly competitive, and some contracts require recipients to hire only Chinese contractors. While this practice has been commonly used by Western lenders in the past, because of their inefficiency, the lack of a competitive bidding process, and pressures from international interest groups, the practice was abandoned.

Before the contract awarded to China Gezhouba Group Corporation for Budhi Gandaki hydropower project was briefly scrapped by the government in late 2017, it faced various delays to move forward in the process of construction (e.g., failing to receive an official letter from the PM’s office deciding to provide the viability gap funding). Following the delays, the government decided to mobilize domestic resources to build the infrastructure, and then, to call for international tendering to find the most competitive bidder. Ultimately, however, the $2.5 billion Budhi Gandaki hydropower project was restored in September 2018 to the China Gezhouba Group Corporation. But the details are yet to come out.

Before the contract awarded to China Gezhouba Group Corporation for Budhi Gandaki hydropower project was briefly scrapped by the government in late 2017, it faced various delays to move forward in the process of construction (e.g., failing to receive an official letter from the PM’s office deciding to provide the viability gap funding). Following the delays, the government decided to mobilize domestic resources to build the infrastructure, and then, to call for international tendering to find the most competitive bidder. Ultimately, however, the $2.5 billion Budhi Gandaki hydropower project was restored in September 2018 to the China Gezhouba Group Corporation. But the details are yet to come out.

Currently, the Budhi Gandaki Hydropower Project is only at 9.9 percent in terms of physical progress and financial progress is only 10 percent. The compensation of land acquisition to the displaced is still underway in various areas of the project, namely Arughat Bazar of Gorkha and Khahare Bazar of Dhading district. Critics quickly pointed out that the project should have undergone a competitive, international bidding process instead of simply being handed back by the Nepali government. The lack of a competitive tendering process can hurt the efficiency of the projects and the opportunities for local contractors as well as violate local tendering laws. Many things depend on the goodwill of the host government.

Patrick M. Norton, an independent arbitrator based in New York City, argues that there are two basic sets of contracts (performance agreements to construct infrastructure and underlying financial agreements) that BRI infrastructure projects will require. Various parties, including investors, contractors, local governments, and operational parties, will without doubt become involved in the projects during and much after the construction as well. To resolve contractual disputes arising from such joint ventures, Norton suggests a government-to-government mediation process, judicial resolutions (for, e.g., cases involving local laws in the areas of tax and real estate disputes), and arbitration (which will require a venue and an institution for administering the process).

Contractual Disputes
Patrick M. Norton, an independent arbitrator based in New York City, argues that there are two basic sets of contracts (performance agreements to construct infrastructure and underlying financial agreements) that BRI infrastructure projects will require. Various parties, including investors, contractors, local governments, and operational parties, will without doubt become involved in the projects during and much after the construction as well. To resolve contractual disputes arising from such joint ventures, Norton suggests a government-to-government mediation process, judicial resolutions (for, e.g., cases involving local laws in the areas of tax and real estate disputes), and arbitration (which will require a venue and an institution for administering the process).

China enjoys a competitive advantage because oftentimes, it offers the cheapest alternative to building infrastructural projects. However, some glaring issues may arise once the contract has been awarded, including quality assurance, speediness of the work, and meeting deadlines. These issues may lead to the violation of the terms of the contract between the parties as well. This was true for the Guangxi Transmission and Substation Construction Company, the contractor responsible for the first section of the Tamokoshi-Kathmandu Transmission Line Project. After multiple warnings, delays, and only eight percent of the project completed in the 74 percent of the elapsed contract period, the Nepal Electricity Authority finally fired the contractor in late 2018. Currently, the NEA is looking for another contractor who will be given 820 days to complete the remainder of the project.

In late 2018, at the conclusion of the Nepal-China Joint Oversight Mechanism, the officials associated from both countries with various joint ventures in Nepal put forth the issues they were facing in pushing their projects forward. It was reported that the Chinese side was especially concerned with the issues surrounding land acquisition for the projects as well as the ease with which foreign, Chinese works can attain work permits. The Chinese also expressed concerns over the limit on the number of foreign workers per project, an issue that the Nepalese representatives said they would take up with the relevant authorities. Given the complexities of these issues, many expressed that it would take some time before these changes are realized.

The issue of land acquisition spills into the issues of resettlement and rehabilitation of populations that would be displaced by the projects. In August 2018, Nepalese authority expressed that the West Seti Hydropower Project was financially unfeasible due to the high costs of rehabilitation and resettlement. They requested a revision of the contract, which included lowering the energy generation from 740 KW to 600 KW and extending the power purchase agreement to 12 years from 10 years, all the while maintaining the initial award of $1.2 billion. As of January 2019, the project is at a standstill, and the Nepali government has organized a task force to evaluate the future of the project and to produce a report with recommendations.

Issues relating to personnel can also hinder the progress of the projects, causing continued delays. For example, during the construction phase of the Upper Marsyangdi ‘A’ Hydropower Project in Lamjung, workers belonging to trade unions held multiple strikes and sit-ins when the authorities did not heed their demands for minimum wages, retirement benefits, life insurance, and leaves. They also claimed to have been unfairly compensated when compared with their Chinese counterparts and asked for the dismissal of a Chinese foreman accused of “manhandling the workers.” Chinese laborers are supposedly preferred over local laborers due to the language barrier and the finer skill level of Chinese laborers. Similarly, Chinese contractors tend to import from China the materials necessary for construction; this could further increase Nepal’s trade deficit.

As Nepal hopes to secure more investment in infrastructural projects in Nepal from China, it is important to carefully evaluate these challenges and find ways to combat them effectively.

Conclusion
As Nepal hopes to secure more investment in infrastructural projects in Nepal from China, it is important to carefully evaluate these challenges and find ways to combat them effectively. Even after projects have been completed, their functioning could be delayed further for, for example, maintenance, as was the case with the Middle Marsyangdi Hydropower Station that was halted from operation for ten days back in early 2018. It is important for project stakeholders to maintain the terms of the contract and resolve arising issues through arbitration and mediation, as litigation can cost both parties unnecessary capital. It is in the best interest of the country to ensure progress via quick resolutions of arising conflicts, such as those mentioned previously.

[Bipin Adhikari is a constitutional expert. Bidushi Adhikari is associated with Nepal Consulting Lawyers, Inc as a research assistant}

Published: 15-02-2019 07:33

For Nepal, the challenge is to achieve connectivity with international allies without the “Indianization” or “Chinisation” of Nepal

The Government of Nepal plans to construct railways for both internal and cross-border transportation of people and freight to neighboring countries, and these plans are being discussed with hope and pride at the cross-sections of the Nepalese society. Among the various issues regarding the development of such infrastructure, the necessity of creating suitable legal regimes for the projects to materialize and operate is also an important challenge. This also needs to be discussed in the spirit of Nepal’s national interest.

At present, Nepal’s Railways Act 1963, the only legislation of this type, provides some rudimentary provisions to govern the proceedings and operations of railways. Despite the fact that the Act has been amended by several statutes over the years, it has never received the necessary focus that it deserves. It is now time to erect a new railways act and other necessary statutes to respond to the demand of change, emulate internationally-accepted technical and operational standards, and also protect Nepal’s sovereign interests as a nation, while opening up Nepal further.

As Nepal has already subscribed to the Belt and Road Initiative (hereinafter, “BRI”) spearheaded by the People’s Republic of China, cross-border rails are no longer a matter of ambitions alone. Investments in BRI infrastructures like long distance roads and rails are meant to enable connectivity among Asian, African, and European countries. According to the Global Construction Review, just in 2019, China has committed $125 billion in investments in rail, reportedly due to China’s relatively slower economic growth rates compared to previous years and a slowdown of investments in its fixed assets. This investment will supposedly add 6,800 km of rail, of which 3,200 km will be high speed. Trade via rail, as seen from southwest China’s Chongqing to 30 European countries, has flourished between China and its neighbors and is predicted to grow through projects under the BRI. Apart from this, Nepal has its own reasons to aspire for such infrastructural connectivity.

Issues that need to be resolved
Nepal aims to connect with both India and China through railways. With differing jurisdictions, forms of government, and rules and regulations, many legal issues specific to the construction and operation of railways will arise.

According to the first edition of the publication “Monograph Series on Transport Facilitation of International Railway Transport in Asia and the Pacific” by the United Nations Economic and Social Commission for Asia and the Pacific (hereinafter, “ESCAP”), some generic issues that arise with the construction of international railways that can be addressed through legal mechanisms include: border procedures, lack of unification between required documentations (legal and otherwise), differing operating and tariff structures, contrasting customs and border regulations, safety and technical standards, and a lack of human resources.

Additionally, according to the Public-Private-Partnership Legal Resource Center of the World Bank Group, differences in technical and regulatory standards, immigration requirements, and custom regulations across borders will arise as challenges to the smooth flow of passengers and freight across borders.

Break-of-gauge (“gauge” meaning the spacing of the rails) is one such technical issue presented by the international nature of cross-border rails. Due to the differences in the spacing, trains cannot transfer smoothly and will require expensive methods to ensure that their contents can be transferred across countries. According to a 2015 ESCAP publication entitled “Efficient Cross-Border Transport Models” (hereinafter, “ESCAP Models study”), in the Trans-Asian Railway Network, there are breaks-of-gauge in the rails connecting China to the following countries: Vietnam, the Russian Federation, Mongolia, and Kazakhstan, among others. This is one such technical issue that will require harmonization across nations through legal mechanisms, like bilateral agreements.

Land acquisition will be a major issue for railway projects connecting Nepal with China and India, especially given Nepal’s difficult terrain and the dependence of the local populations on the land for their livelihoods. Nepal has a Land Acquisition Act in place, but the problem of implementation delay has been insurmountable. In July 2018, Nepal and India reached agreements to resolve land acquisition issues and remove physical obstacles, like electricity poles, in order to complete a railway line from Jayanagar (India) to Janakpur-Kurtha (Nepal) and from Jogbani (India) to Biratnagar Customs Yard (Nepal). Accounting for the higher population density in southern Nepal, land acquisition from private owners could be a major hurdle in the proposed China-Nepal-India railway line. A possible solution would be for the government to embrace the policies of land pooling; under this concept, small land-owners would pool together their land and, as stakeholders, hand it to the pooling agency for infrastructural development.

China has plans for a pan-Asian rail that will extend from Kunming, China to Laos, Thailand, Malaysia, and finally, end in Singapore. Currently, however, the government of Malaysia has decided to hold the 688-km east coast rail that would connect southern China to Kuala Lampur and postpone for two years the 350-km high-speed rail linking Kuala Lampur and Singapore. Cost, debt, and relatively low benefits are cited as reasons for the actions of the Malaysia government. Similar issues are sure to arise in the construction of international rails, further complicated by differing jurisdictions, laws, and currency as well.

With investments in railway, cross border disputes are sure to arise, and experts argue that a less formal, mediation or arbitration resolution process will be favored by both Chinese and international legal professionals. Moreover, Hong Kong, as a business hub and with experience in dispute-resolution involving Chinese companies, may be at the forefront of arising disputes in the BRI projects. Additionally, some countries may develop their own legal systems to address disputes through arbitration or mediation.

Legal mechanisms for resolution
From a legal perspective, cross-border agreements (multilateral or bilateral) between states and companies responsible for commercial projects could be a solution. Additionally, parties will need to ensure a cohesive, standardized approach to technical compatibility along the constructed railways, including the infrastructure, signaling processes, licensing requirements, and other laws and regulations. In this regard, for example, the UN Economics Commission for Europe (hereinafter, “UNECE”) guides the process of harmonizing and simplifying border crossing procedures for inland transport and includes an overview of the international UNECE Transport agreement.

For example, the “European Agreement on Main International Railway Lines (AGC)” signed in May 1985 by member states is a legal instrument that harmonizes the numbering of major international and national railway lines and their technical characteristics, including the number of tracks, the required space between track centers, and the minimum speed, among others. Such a legal instrument that details the specifics will also be required as Nepal pursues this railway track in order to ensure that a smooth flow of freight and passengers is a reality.

Additionally, as the ESCAP Models study argues, joint efforts between governments and the private sector will be necessary to ensure interoperability between countries. If contrasting technicalities are not harmonized before construction of the rails, effective and collaborative solutions need to be administered. For example, as the ESCAP Models study suggests, governments can support efficient transshipment operations (i.e., where freight is transferred from wagons under one jurisdiction to another due to the differing gauges) by ensuring (1) that customs proceedings occur at departure and arrival points so as to decrease congestion and delay at the borders, and (2) usage of technologies, like scanners, for inspection of wagons to save time during transshipment.

Currently, as reported in the “Study on Border Crossing Practices in International Railway Transport” by the ESCAP (Bangkok, 2018) (hereinafter, “ESCAP Border Crossing Practices study”), there are two international legal regimes on international railway transport: the Organization for Cooperation between Railway (hereinafter, “OSJD”) and the Convention concerning International Carriage by Rail. They provide comprehensive legal frameworks for various aspects of railway transport; for example, the OSJD provides that only a single contract for carriage of goods and a single consignment note are necessary when freight crosses borders. Additionally, the OSJD rules require using an eight-digit nomenclature for goods to ensure goods are harmonically organized and identified across borders.

The ESCAP Border Crossing Practices study also states that the World Customs Organization’s Revised Kyoto Convention of 1996 is most important in harmonizing and simplifying the customs procedures at international railway border crossings. The Convention provides guidance on transitional standards and recommended procedures that independent states can adjust to through legislation. These standards and recommendations address issues such as “arrival of goods in a customs territory, customs transit, transshipment and temporary admission,” among others. Other conventions, such as the Customs Convention on Container of 1972 and the Convention on International Customs Transit Procedures for Carriage of Goods by Rail under Cover of SMGS Consignment Notes of 2006, provide guidance for railway-related requirements, such as transport documents requirements, customs offices procedures, and the standardized markings of freight, among others.

There also exist regional agreements and initiatives that provide guidance for regional cooperation regarding cross-border issues with railways. For example, as the ESCAP Border Crossing Practices study highlights, the Regional Cooperation Framework identifies four fundamental issues regarding regional cross-border railways:

“Standards for railway infrastructure, facilities and equipment”
“Break-of-gauge”
“Differing legal regimes for railway transport contracts”
“Coordination of regulatory controls / inspections at border-interchange stations”
The Regional Cooperation Framework also suggests areas for cooperation among regional players, including, among others, “[p]articipation in international railway organizations,” “[f]ormulation of subregional and bilateral agreements,” “[c]ollaboration to standardize cross-border railway operations,” and “[d]evelop human resources for cross border railway operations.”

The Rail Services Agreement between the Nepal and India (2004) is one such agreement that attempts to harmonize standards across India-Nepal railways. The Agreement provides details regarding train schedules, maintenance of tracks and wagons, and offensive or dangerous goods, among others. Additionally, the Memorandum to the Protocol to the Treaty of Transit between Nepal and India outlines that, for transit through India, Nepalese import licenses, letters of credit, or official Nepalese certification on Customs Transit Declaration is required. The ESCAP Border Crossing Practices study suggests that because the “transit procedure is paper based and heavily burdened with document requirements,” an “[i]ntroduction of electronic information processing and electronic data exchange between customs stations in India as well as between the customs authorities of India and Nepal could be considered.”

A modern law is never too late to create legal mechanism through which issues arising from cross-border rails can be resolved. For example, according to S-RM, an intelligence and risk consulting company, Kazakhstan has introduced new legislation, as of 2015, to simplify arbitration procedures, which indicates an intention to rely on its own commercial arbitration mechanisms rather than on Chinese-led legal frameworks. Additionally, in March 2018, the Republic of Singapore passed the Cross-Border Railways Act 2018 specifically to address regulations related to “the construction, maintenance, operation and regulation of cross-border railways between Singapore and Malaysia in accordance with bilateral railway agreements, and to make related and consequential amendments to certain other Acts.”

Conclusion
Most of the issues discussed above have ramifications. For example, increased connectivity and an open border with India over the decades have resulted in an influx of Indian population in Nepal, demanding settlement and citizenship. For Nepal, the challenge is to achieve connectivity with international allies without the “Indianization” or “Chinisation” of Nepal. Without immigration procedures and the introduction of work permit laws in Nepal for foreigners, like Indians, connectivity will not help Nepal in the long run. This is a core issue.

Above all, it is very important to understand that the development of cross-border railways means some essential sovereign functions of the state have to be performed in a way that assists in creating symbiotic relations with the railway systems across the border from Nepal. The issues of inland security and information sharing are important in this regard. They must all be discussed and considered when creating a legal regime to enable infrastructural connectivity.

(Dr Bipin Adhikari is a constitutional expert and is currently associated with the Kathmandu University School of Law. Bidushi Adhikari is associated with Nepal Consulting Lawyers, Inc as a research assistant) 

The Belt and Road Initiative (hereinafter, “BRI”), introduced by President Xi Jinping of the People’s Republic of China in 2013, is an international development project focused on connectivity and regional economic integration. The project is guided by the principles of “policy coordination, facilities connectivity, unimpeded trade, financial integration, and people-to-people bond,” as summarized by Chi He in Normative Readings of the Belt and Road Initiative (2018). The Initiative prioritizes investment in infrastructure, education, construction materials, railways and highways, automobiles, real estate, power grids, iron and steel, and other such investments. This project aims to change how the countries in Asia, Europe, Eurasia, Africa, and Oceania trade, invest, and exchange ideas.

While the “road” part of the Initiative is to connect shipping and transportation routes via major ports from China to Africa and Europe, the “belt” part, perhaps more ambitiously, involves the creation of a high-speed, transnational railway network connecting the relevant countries. This grand vision for the investments and creation of coordinated trade routes on both land and sea, spanning more than five dozen countries, when completed, would provide extraordinary new opportunities for investment, trade and economic integration. Efforts are already underway to address the inevitable legal issues that will arise as a consequence of the enormity of the BRI projects. For example, China and numerous BRI countries have signed the Hong Kong Manifesto with the aim of organizing annual conferences to share legal knowledge and create a Belt and Road Lawyers Alliance.

Efforts are already underway to address the inevitable legal issues that will arise as a consequence of the enormity of the BRI projects. For example, China and numerous BRI countries have signed the Hong Kong Manifesto with the aim of organizing annual conferences to share legal knowledge and create a Belt and Road Lawyers Alliance.

From the very beginning, Nepal has approached the BRI as a potential opportunity to attract much-needed capital for infrastructural development. In the past decade, China has become one of the major investors in Nepal; according to Gateway House, an Indian foreign policy think tank, in 2015/16, 41 and 13 percent of Nepal’s total foreign direct investment were from China and India, respectively. In Nepal, China has prioritized investment in manufacturing, tourism, services, energy, and agriculture, including roads, bridges, airports, hydropower plants, and agricultural projects.

The BRI, as a new approach, presents an opportunity for Nepal to further increase such investments with enhanced speed. For example, recent understanding between Nepal and China to construct the railway line from Kerung to (1) Kathmandu and (2) to Pokhara to Bhairahawa are two major agendas for new investments. If they materialize, they will illustrate China’s seriousness about its commitment to developing infrastructure in this country. Obviously, with renewed faith and commitments, several new opportunities will emerge in Nepal, India, and the rest of South Asia. Pakistan, Sri Lanka, and Bangladesh are other countries like Nepal that are already involved in the BRI mega projects. Such projects are also expected to facilitate regional cooperation and create more opportunities for economic growth in South Asia. Therefore, the complex legal issues arising from the BRI should not be left to politics and cannot be minimized.

Legal Challenges

Legal Jurisdiction
Because the BRI spans so many countries with varying legal structures in various stages of development, it raises an important question about the legal jurisdiction that will oversee disputes that will inevitably arise along the belt and road route. For example, just within the ten Southeast Asian countries participating in the BRI, some are based on common law traditions, some on civil laws, and still, some are hybrids of the two. In this regard, Chinese State Councilor and Foreign Minister Wang Yi is on record expressing intentions to establish a single entity that will feature lawsuits, arbitration, and mediation mechanisms. As of July 3, 2018, China has established the Belt and Road International Commercial Disputes Resolution Mechanism and Institutions; moreover, two international commercial courts, in Shenzen, Guangdong Province, and Xi’an, Shaanxi province, in China, will be established to settle cross-border commercial disputes arising in the BRI projects.

Because the BRI spans so many countries with varying legal structures in various stages of development, it raises an important question about the legal jurisdiction that will oversee disputes that will inevitably arise along the belt and road route. For example, just within the ten Southeast Asian countries participating in the BRI, some are based on common law traditions, some on civil laws, and still, some are hybrids of the two. In this regard, Chinese State Councilor and Foreign Minister Wang Yi is on record expressing intentions to establish a single entity that will feature lawsuits, arbitration, and mediation mechanisms. As of July 3, 2018, China has established the Belt and Road International Commercial Disputes Resolution Mechanism and Institutions; moreover, two international commercial courts, in Shenzen, Guangdong Province, and Xi’an, Shaanxi province, in China, will be established to settle cross-border commercial disputes arising in the BRI projects.

Others argue, however, that it is more likely that a third party will be required to arbitrate the resolution process. In this regard, the United Kingdom has agreed that English law has the flexibility to easily adapt to commercial disputes due to the law’s mercantile and unideological nature. On the other hand, because state bodies are signing memorandums of understanding with China and dictating the details of the national-level projects, such bodies may be compelled to arbitrate in Chinese courts.

Cross-border issues will be another major legal hurdle for the BRI projects. A large part of the BRI is the exchange of information and human capital and the promotion of investment across borders. Inevitably, issues relating to immigration to service different projects, for example, will become prominent, as nuanced regulations may result in such issues becoming a barrier to the decisions about trade. Similarly, countries along the BRI route will have varying border control and customs regulations, and a unified approach will be necessary to ensure that the process of investment and trade is smooth and problem-free.

Contracts, Currency, and Competition
Another legal issue that arises from the BRI is regarding contract models. Usually, a governmental entity, acting as a third party, will serve as a mediator between the investors and the party that will oversee the entirety of the project, from designing to building, and reap all the benefits in revenue. However, since the BRI spans various countries and projects, it will be a legal challenge to ensure that the differing jurisdictions are able to still promote an integrated approach to a diverse investing climate.

Another legal issue that arises from the BRI is regarding contract models. Usually, a governmental entity, acting as a third party, will serve as a mediator between the investors and the party that will oversee the entirety of the project, from designing to building, and reap all the benefits in revenue. However, since the BRI spans various countries and projects, it will be a legal challenge to ensure that the differing jurisdictions are able to still promote an integrated approach to a diverse investing climate.

With projects spanning different countries, the issue of currency is another glaring one. Although many projects of the BRI are to be funded by the Asian Infrastructure Investment Bank, a Chinese entity established especially for this purpose, the project itself cannot ensure that a single currency will be used to fund, built, and operate the project and be raised as revenue. A currency risk hedging arrangement (i.e., settlements between parties to reduce future risks) may be necessary.

On a similar note, many countries require a competitive bidding market (also known as open tendering) for investors and builders in order to ensure that projects are executed competitively and effectively. The lack of multiple bidders could mean an ineffective project. For example, in 2017, the government of Nepal dismissed the construction of the Budhi-Gandhaki hydroelectric plant it had confirmed with China’s Gezhouba Group because of issues relating to open tendering. Ultimately, however, the terms of the project are being renegotiated, and the project is being handed back to the Group.

Additionally, in 2017, the Belgrade-Budapest high-speed railway (BB HSR) faced a setback of several months due to a failure to comply with the European Union’s (hereinafter, “EU”) regulations regarding infrastructural projects. As the only of three countries involved in the project that was a part of the EU, Hungary should have complied with the EU’s public tender regulations. However, a November 2015 treaty between Hungary and China only called for select Chinese companies to invest in the infrastructural project. Consequently, the Hungarian government has now launched a new public procurement procedure to uphold the EU’s open tendering regulations.

Debt hangover is another major legal issue for recipient countries like Nepal. A Center for Global Development policy paper (“Examining the Debt Implications of the Belt and Road Initiative from a Policy Perspective” (March 2018)) scrutinized the debt risk for 68 borrower countries and found that eight of them are at risk of debt distress. (Nepal is excluded from this list.) The paper suggests that in order to “mitigate the risks of commercial lending and better promote the development impact of that lending,” Chinese aid can “finance technical legal support to developing country borrowers, through new and existing multilateral mechanisms.” Legal mechanisms can be a solution to overseeing the loan terms that many projects will agree to with investors in order to ensure that debt hangover will not become a major issue in the future.

Debt hangover is another major legal issue for recipient countries like Nepal. A Center for Global Development policy paper (“Examining the Debt Implications of the Belt and Road Initiative from a Policy Perspective” (March 2018)) scrutinized the debt risk for 68 borrower countries and found that eight of them are at risk of debt distress. (Nepal is excluded from this list.)

National and International Interests

An international project of this magnitude will face many challenges in ensuring that all the projects under the BRI follow a universal standard. For example, some countries prioritize infrastructural projects’ effect on the social and environmental harmony of the locale. Various projects in Nepal have faced uproar from the local community, activists, and international sympathizers because of their effects on the surrounding land, resources, and environment. Reportedly, there are talks in China to develop a collaborative Belt and Road network of regulations and the rule of law that will address issues relating to finance, intellectual property rights, taxation, environmental protection, as well as transportation.

Moreover, throughout the process of building infrastructure, individual countries will likely face national challenges, ranging from political instability to the countries’ ability to ensure that the aims of the projects are met and that they are, indeed, completed. The varying forms of government with their own political agendas and climates will likely present non-economic challenges to the projects. Recently, at China’s request, the government of Nepal has reportedly decreased the list of projects signed under the BRI banner from 35 to nine, mainly due to lagging progress in kick-starting the negotiation process. However, because this is only the first round of projects, Nepal can still pursue other projects once there is some progress in the selected nine.

Recently, at China’s request, the government of Nepal has reportedly decreased the list of projects signed under the BRI banner from 35 to nine, mainly due to lagging progress in kick-starting the negotiation process. However, because this is only the first round of projects, Nepal can still pursue other projects once there is some progress in the selected nine.

What is important for Nepal?

Regardless of Nepal’s participation in the BRI and the challenges that may arise, the Nepali legal system requires reforms; the safety of investment and compliance with internationally-accepted norms and standards are important for Nepal, whether a particular project comes from the BRI or from any other country or foreign direct investment. These issues need to be tackled as soon as possible. For example, the Kathmandu University School of Law (KUSL), as a leading academic institution in Nepal, has already welcomed postgraduate legal research in the areas of trade, investment, energy, and infrastructure laws in hopes of addressing the legal challenges that the BRI and other investment projects in Nepal will raise. As such, it is high time that the federal government gives due emphasis to creating a conducive legal environment for international investment, including for the BRI.

[Dr Bipin Adhikari is a constitutional expert and is currently associated with the Kathmandu University School of Law. Bidushi Adhikari is associated with Nepal Consulting Lawyers, Inc as a research assistant].