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The first loan China received from the World Bank after getting a seat on the board of the global financial institution back in 1981 was for college development. It was also the first foreign-funded project in China's education system.

 

The positive educational and economic impact of the first college development project demonstrated the workability of China's using World Bank loans for developing education.

 

Since then, the country's education system has been boosted with a number of loans from foreign governments as well as the World Bank and the Japan Bank for International Cooperation (JBIC).

 

However, the education system currently faces serious challenges in using loans from international financial bodies and foreign governments.

 

The first challenge is the rising cost of financing as a result of the cutoff of "soft" or interest-free loans. The World Bank stopped granting interest-free loans to China in 1999 when the country's per capita annual income topped US$800.

 

The nearly US$10 billion interest-free loans China has received from the World Bank have been used primarily in social development -- education, agriculture, poverty relief, health and environment protection. The country's further use of World Bank loans for its education system has been seriously restricted in the absence of interest-free loans.

 

The second challenge comes from the increased risk in financing caused by fluctuating interest rates. Most international financial bodies such as the World Bank and the Asian Development Bank (ADB) now maintain a floating interest rate. The US Federal Reserve's ongoing interest rate hikes effectively raise the risk of US dollar financing for the education system.

 

Meanwhile, the changing exchange rates between the US dollar and Japanese yen and between the US dollar and the Chinese renminbi are also making it difficult for development projects to proceed because of greater risks in financing.

 

The third challenge is restricted financing capability as a result of less financing channels. The Japanese government decided to gradually end its yen-denominated loans, cutting back in 2005 and ending the loans in 2008. These loans account for the bulk of Japan government aid to development in China.

 

With the end of interest-free foreign loans, the attraction of foreign loans has been greatly diminished. The long evaluation process, complicated approval procedures and occasional incompatibility with conditions in China lead to high hidden financing costs.

 

The fourth challenge lies in the declining initiative of higher education management departments to obtain loans because the receiving departments often fail to repay them.

 

Theoretically the Ministry of Finance is responsible for debt repayment, because foreign loans are sovereign foreign debts. However, with the standardization of management, the Finance Ministry has decentralized the responsibility to various lower offices.

 

Also, some loan agreements fail to make clear the debtor department's responsibility to repay the loan as well as accrued interest. The debtor departments tend to neglect debt payment even when they have little problem paying, making it hard for their institution's higher offices to seek future loans.

 

The fifth challenge comes from lack of management staff, substandard management and the low economic gains of some projects. Foreign loans require project management, which is often incompatible with Chinese management style. The departments concerned must learn the rules and make the necessary adjustments.

 

Currently China lacks specialized personnel familiar with project management of foreign loans, a problem particularly serious in the field of education because of the lack of expertise. Project management in China emphasizes procurement, obtaining funds and monitoring accounts but does not include feasibility studies before the projects are launched and follow-up management after they are completed.

 

Inadequate feasibility study leads to changes in procurement, while poor follow-up management causes difficulties in debt repayment. Both problems greatly increase the cost of project management, while negatively affecting the implementation of the projects.

 

We have some policy suggestions to encourage the increased use of foreign funds in our education system.

 

Raise awareness of the importance of using foreign funds in education and strengthen initiatives in using foreign funds. Utilizing loans from international financial organizations and foreign governments is an important channel and a key component in the national policy of opening to the world.

 

Actively seek third-party donations or discounts for promissory notes to soften loan terms. In such social development areas as education, it is very important to ease loan terms to use foreign funds efficiently.

 

Take strong efforts to appropriately increase the scale of foreign funding and optimize the loan structure. Compared with domestic loans, foreign loans represent a key channel for funding education despite little if any advantage in terms of interest. This is because they usually allow longer terms for payment and come with the transfer of capital and management technology and production technology packages.

 

We need to take strong steps to appropriately increase the scale of loans while optimizing the loan structure to meet the demands of China's higher, vocational and basic education framework.

 

Combine the introduction of foreign funds with the introduction of talent, technology and management know-how. China benefited significantly from the introduction of foreign technology and management know-how as well as specialists that came with the World Bank loans in the early 1980s and 1990s. This occurred even though the international financial body never considered China a major recipient of its financial aid at that time.

 

For the five years from 2006 through 2010, the World Bank is placing more emphasis on the spread of knowledge and new concepts in its strategic assistance to China. At the same time, China's 11th Five-Year Plan (2006-10) is also stressing the importance of "attracting advanced foreign technology, management know-how and quality talent through the introduction of foreign funds".

 

Take effective measures to avoid the risks from interest rate and exchange rate fluctuations. Different from soft loans, which only bring risks from exchange rate fluctuations, hard loans come with the added risks of interest rate hikes.

 

To avoid such risks, we should enhance crisis awareness and build an early warning mechanism for foreign loans for the education system. We should also employ financial tools to minimize risks from interest rate and exchange rate spikes.

 

Strengthen loan repayment and awareness of the need to fulfill such responsibilities according to law. Foreign loans are sovereign foreign debts that cannot be waived and must be fully repaid.

 

Project management departments and project operators must abandon the ideas of "borrowing without paying back" and "light payback on heavy borrowing". Responsibilities must be explicitly spelled specifying the agreed loan terms and sources of debt repayment.

 

Strengthen management for smooth implementation of foreign-funded projects. Foreign-funded project management includes pre-launch, mid-term and follow-up stages, which are important in their own right and must be carried out.

 

Tang Zhixiang is a professor at Hunan University and vice-chairman of the provincial people's congress. Yu Zhisong is a PhD candidate in foreign trade at Hunan University's School of Economics and Trade and deputy-director of the foreign fund utilization office of the provincial government

 

(China Daily June 14, 2007)