THIMPHU -- Sustained investment in hydropower is pushing economic growth in the small and isolated Himalayan kingdom of Bhutan to new heights. This year the landlocked nation, which built its first modern road in the 1960s, is poised to post Asia's highest growth rates.
Amid slowing growth in China and India, the Asian Development Bank in April projected that Bhutan's gross domestic product would expand 8.2% for the fiscal year that ended June and 9.9% for the fiscal year ending in 2018. At about the same time the International Monetary Fund estimated growth for this year at 11.2%.
However, borrowing to finance the hydropower construction boom is making Bhutan the most indebted nation in Asia after Japan, in proportion to population, sparking concerns among opposition parties and the IMF ahead of a general election to be held next year.
As highlighted by a standoff between Chinese and Indian military forces on disputed territory at the junction of the three countries, Bhutan remains squeezed between its two giant neighbors. The Indian government is financing four of the five major hydropower projects under development, with the fifth financed by the ADB and loans from Indian banks.
When the projects are completed they will more than double Bhutan's hydropower generation capacity from 1,600 megawatts to more than 5,200MW in the next decade. More than 80% of the power generated would be exported to India.
Since the 1980s, hydropower exports have been the primary driver of Bhutan's economy. Today, they contribute more than 25% to national revenue and 14% to GDP.
However, the IMF's April 2017 World Economic Outlook said Bhutan's rapid hydropower development has led to a substantial buildup of debt, and the country was at "high risk of external debt distress." The IMF report forecast that total external debt would reach 112.8% of GDP by the end of 2017. Latest official figures from the Bhutan National Statistical Bureau put GDP at 132 billion ngultrums ($2.06 billion) in 2015. Separately, a government report published in May 2017 estimated total external debt at 178.5 billion ngultrums by the end this year.
Economic growth in 2018 will be boosted by the commissioning of the 720MW Mangdechhu hydropower project in the central district of Trongsa. With an estimated completion cost of 46 billion ngultrums, financed by a 70% loan and 30% grant arrangement with India, Mangdechhu is expected to generate annual gross revenue of 7.5 billion ngultrums through energy exports to India.
Three other hydropower projects under construction have been financed by the Indian government -- the 1,200MW Punatshangchhu I and 1,020MW Punatshangchhu II facilities in the western district of Wangdue, and the 600MW Kholongchhu project in the eastern district of Trashiyangtse. Kholongchhu is the first joint venture project between public sector units from the two countries.
Indian companies are leading the construction of projects as Bhutan gradually develops its own capacity to handle major works. However, lengthy construction delays are adding to overall costs. Construction of Punatshangchhu I, which began in 2008, has suffered huge cost increases, and the completion deadline has slipped from 2017 to December 2022. The delays caused the ADB to lower its GDP forecast for the current fiscal year to 8% in July, though that would still be the fastest in the region.
Conceived in 2002 with an estimated cost of 34 billion ngultrums, Punatshangchhu I's completion cost is now expected to hit 100 billion ngultrums. The project was delayed by a series of geological problems, with one bank of the dam site sliding several meters. The Punatshangchhu II project further downstream is expected to be commissioned by 2019, after a two-year delay.
In the past four years, Bhutan has borrowed 69 billion ngultrums from India's government to finance the ongoing projects. It has also received a commitment of $120.5 million in financing from the ADB and 3 billion Indian rupees ($46.7 million) from State Bank and Exim Bank in India for the fifth major project under development, the 118MW Nikachhu scheme in Trongsa. A further three hydro schemes are planned as joint ventures between the Bhutan and Indian public sectors, but are at the early stages of development.
The delays have compelled the government to change its revenue and expenditure forecasts for its 12th five-year plan that will kick off from July 2018.
The buildup of debt to finance the projects has alarmed the opposition Druk Nyamrup Tshogpa party, which has said that Bhutan risks becoming the Greece of South Asia -- a reference to the European country's extreme indebtedness, which prompted a financial rescue by the IMF and the European Union.
"The debt level today is worrisome and the government must do something about it to make sure the future generation is not unduly burdened," said party President Tandi Dorji.
Prime Minister Tshering Tobgay, of the ruling People's Democratic Party, was quoted in local media saying that under the power purchase agreement with New Delhi, India has agreed to buy all surplus power on a cost-plus basis, including a net return of 15%. He said this significantly reduced the risk of debt distress.
The DNT party has also argued that concentrating heavy investment in hydropower widens inequality, because relatively few people benefit from the related construction or operational jobs, despite the huge investments required.
However, a World Bank paper published in July supports the government's argument that debt is not worrisome and that investment in the hydropower sector can contribute to development.
"Current and future revenues generated from energy exports will help defray the cost of the hydropower investments, and Bhutan's arrangement with India ensures that the financial and construction risks of hydropower projects are covered by the investor, with India committing to purchase surplus electricity reflecting production costs plus 15%," said Yoichiro Ishihara, the World Bank's country representative, in a blog post.
Cap on borrowings
However, Finance Minister Namgay Dorji said that keeping a check on nonhydro debt was a concern because a significant portion of hydro earnings goes toward general debt servicing. According to another World Bank paper on public finance, Bhutan spent 18% of its hydropower earnings on debt servicing in 2014.
Namgay Dorji said the government had already capped external borrowings. Hydropower debt should not exceed 40% of hydropower earnings, while nonhydro debt will be limited to 35% of GDP over a five-year plan period, he said.
The finance minister said the debt policy was launched as Bhutan prepares to graduate from least developed country status -- one of the national goals in the government's Vision 2020 development strategy. In terms of income and human assets, Bhutan qualifies to exit LDC status, but it faces challenges because of its economic vulnerability because it is landlocked, isolated and has a narrow economic base heavily dependent on hydropower.
Bhutan is expected to graduate from LDC status by 2021 at the earliest, but the government is concerned that once it does so it will face rising financing costs as concessionary lending terms offered by multilateral agencies dry up. That would entail increased dependence on domestic borrowing.
A more recent concern about the hydropower sector is that many Indian states will eventually produce power surpluses, leading to lower prices. This could put Bhutan in a weaker position when finalizing electricity export tariffs to India, particularly on long-delayed projects such as Punatshangchhu I.
However, Bhutanese government officials say that the cost-plus bilateral agreements negotiated between the two countries counter such fears and help to justify continued investment in power generation. "Hydropower is an investment, not [a form of] consumption," Namgay Dorji said.