May 22, 2019 YASHENG HUANG
Through its Belt and Road Initiative, China is building ties to some of the world’s most authoritarian, financially opaque, and economically backward countries. Rather than exposing itself to massive political, economic, and default risks, Chinese policymakers should instead seek to repair relations with the West.
CAMBRIDGE – Critics often claim that China is using its massive “Belt and Road Initiative” as a form of coercive “debt-trap diplomacy” to exert control over the countries that join its transnational infrastructure investment scheme. This risk, as Deborah Brautigam of John Hopkins University recently noted, is often exaggerated by the media. In fact, the BRI may hold a different kind of risk – for China itself.
At the recent BRI summit in Beijing, Chinese President Xi Jinping seemed to acknowledge the “debt-trap” criticism. In his address, Xi said that “building high-quality, sustainable, risk-resistant, reasonably priced, and inclusive infrastructure will help countries to utilize fully their resource endowments.”
This is an encouraging signal, as it shows that China has become more aware of the debt implications of BRI. A study by the Center for Global Development concluded that eight of the 63 countries participating in the BRI are at risk of “debt distress.”
But as John Maynard Keynes memorably put it, “If you owe your bank a hundred pounds, you have a problem. But if you owe your bank a million pounds, it has.” In the context of the BRI, China may turn out to be the banker who is owed a million pounds.
In particular, China may fall victim to the “obsolescing bargain model,” which states that a foreign investor loses bargaining power as it invests more in a host country. Infrastructure projects like those under the BRI are a classic example, because they are bulky, bolted to the ground, and have zero economic value if left incomplete.
Unsurprisingly, some BRI partner countries are now demanding to renegotiate terms, and typically after the projects have started. China may be forced to offer ever more favorable concessions in order to keep the projects on track. In mid-April, for example, Malaysia announced that a major BRI rail project, put on hold by the government after last year’s election, would now go ahead “after renegotiation.” According to media reports, the costs of construction were reduced by as much as one-third. Other BRI countries will probably also ask for debt forgiveness and write-offs, the costs of which will ultimately be borne by Chinese savers.
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The BRI may well have additional hidden costs for China down the road. For starters, it is extraordinarily difficult to make money on infrastructure projects. There is a widespread belief that infrastructure investment powers economic growth, but the evidence for this is weak. In fact, China itself built much of its current infrastructure after its growth had taken off. In the 1980s and 1990s, for example, China grew much faster than India despite having a shorter railway network. According to the World Bank, in 1996 China had 56,678 kilometers (35,218 miles) of rail lines, and India had 62,915 kilometers. Chinese growth was not jump-started by infrastructure, but by reforms and human capital investments. If growth fails to materialize in BRI countries, Chinese companies may end up bearing the costs.
Furthermore, many of China’s BRI partner countries are risky – including Pakistan, a major recipient of investments under the scheme. In addition to its high political, economic, and default risks, the country also scores poorly on education indicators. According to one report, Pakistan ranked 180thamong 221 countries in literacy. This is a potential red flag for Chinese investments in Pakistan, because research suggests that investments in physical infrastructure promote growth only in countries with high levels of human capital. China itself benefited from its infrastructural investments because it had also invested heavily in education.
Nor should the BRI be compared to the Marshall Plan, the US aid program to help rebuild Western Europe after World War II, as an example of how large-scale investment projects can boost growth. The Marshall Plan was so successful – and at a fraction of the BRI’s cost – because it helped generally well-governed countries that had been temporarily disrupted by war. Aid acted as a stimulus that triggered growth. Several of the BRI countries, by contrast, are plagued by economic and governance problems and lack basic requirements for growth. Simply building up their infrastructure will not be enough.
Finally, the BRI will probably further strengthen China’s state sector, thereby increasing one of the long-term threats to its economy. According to a study by the American Enterprise Institute, private firms accounted for only 28% of BRI investments in the first half of 2018 (the latest data available), down by 12 percentage points from the same period of 2017.
The BRI’s massive scale, coupled with the lack of profitability of China’s state sector, means that projects under the scheme may need substantial support from Chinese banks. BRI investments would then inevitably compete for funds – and increasingly precious foreign-exchange resources – with China’s domestic private sector, which is already facing a high tax burden and the strains of the trade war with the US.
Moreover, Western firms, an important component of China’s private sector, are retreating from the country. Several US companies, including Amazon, Oracle, Seagate, and Uber – as well as South Korea’s Samsung and SK Hynix, and Toshiba, Mitsubishi, and Sony from Japan – have either scaled down their China operations or decided to leave altogether. Partly as a result, US foreign direct investment in China in 2017 was $2.6 billion, compared to $5.4 billion in 2002.
This is a worrisome development. Through the BRI, China is building ties to some of the world’s most authoritarian, financially opaque, and economically backward countries. At the same time, a trade war, an ever-stronger state sector, and protectionism are distancing China from the West.
China has grown and developed the capacity to undertake BRI projects precisely because it opened its economy to globalization, and to Western technology and knowhow. Compared to its engagements with the West, the BRI may entail risks and uncertainties that could become problematic for the Chinese economy. As the Chinese economy slows down, and its export prospects are increasingly clouded by geopolitical factors, it is worth rethinking the pace, scope, and scale of the BRI.
Writing for PS since 2001
Yasheng Huang is International Program Professor in Chinese Economy and Business and Professor of Global Economics and Management at the MIT Sloan School of Management.
BRAHMA CHELLANEY highlights the perils of Chinese infrastructure loans and investment in developing countries.
0 Comments on this paragraph, 8 in all8 Comments on this article
J. VON HETTLINGEN May 25, 2019
Yasheng Huang says China’s Belt-and-Road Initiative (BRI) is a boon to some tin-pot dictators, who rule some of the world’s “most authoritarian, financially opaque, and economically backward” countries. With China’s help, despots and crooks are using its infrastructure project to stay in power. Many of the recipient countries rank high on the list of the world’s most corrupt countries, while scoring low on literacy rates.
Although China dismisses the claim that it uses BRI as a “geopolitical pool” and portrays it as a “platform for cooperation”, critics see it is as a form of “debt-trap diplomacy.” It enables Beijing to cement its influence, and financially bind countries to China, which exerts control over them, if they fail to repay the loans for investing in their infrastructure. Yet others say the project could also “hold a different kind of risk – for China itself.”
In 2013 President Xi Jinping outlined his $900 billion project – the recreation of the old Silk Road trading routes between Asia and the rest of the world, which aimed to herald the most ambitious infrastructure investment plan in history. The BRI was hailed as a coherent plan of quasi-coercive economic statecraft that would ensnare all its participants into the Chinese sphere of influence – an extension of China’s rising power, that came to unsettle the world.
Xi sees it as a personal victory and a prestige for China, that his BRI attracts much interest and attention across the globe. Critics say the recipient countries allow Xi to then tell his Chinese citizens that the entire world is endorsing his policies and that he is the one to have put China firmly back at the centre of the global stage.
Five years after BRI was first unveiled, questions still remain whether foreign participants can actually benefit from it. Infrastructure projects like those under the BRI are a classic example of an “obsolescing bargain model.” It says a foreign investor tends to lose its bargaining power, which will shift to the government of the host country, the more it invests there. Besides it involves bulky objects, “bolted to the ground, and have zero economic value if left incomplete.”
The author says, China has been economically weakened by the ongoing trade war with the US, its inability to ditch its state-capitalist economy and protectionism. Facing criticism, Beijing had renegotiated or written off debts incurred by recipient countries of BRI loans, sometimes in exchange for geostrategic sites. Sri Lanka finally agreed to turn over the port of Hambantota to China for 99 years following the cancellation of its debt.
Apart from hidden costs that will come back to haunt Beijing, critics have also called for China to institutionalise BRI, so that the project is not seen as entirely Chinese-led. But state-owned companies lead most of the existing investments in the projects. This clientelistic relationship between the government and SOEs makes it harder for these firms to resist government requests to change their trade and investment patterns in support of official goals.
Others have cited environmental concerns, as Chinese companies build coal and hydro power projects across the world, posing a risk to biodiversity, and causing floods and landslides. A study titled ‘Greening the Belt and Road Initiative’ released by the World Wildlife Fund (WWF) and HSBC in January found that getting the BRI to “go green” has not gained the proper attention in the absence of information on sustainable and green investment opportunities.
The author says “rather than exposing itself to massive political, economic, and default risks, Chinese policymakers should instead seek to repair relations with the West.” Not least thanks to its WTO membership had China’s economy been able to benefit from globalisation and access to Western technology and knowhow.
Beijing should know by now that engaging with the West brings much less risk that its BRI does, which could “entail risks and uncertainties that could become problematic for the Chinese economy.” It is time for Beijing to rethink the “pace, scope and scale” of its BRI, as its economy is slowing down, with little light on the horizon for its export due to geopolitical factors.
I am a good bit more hopeful that the "belt and road" initiative will succeed. Incomes in China are rising. It is in the process of changing from being the world's biggest producer of manufactured consumer goods to being the world's biggest consumer of such goods. The world will be needing new countries to supply cheap labour. Infrastructure connecting poor countries to China seems an ideal way to get industrialization started in these countries. And industrialization is what is needed for the loans to be re-paid.
Past "western" aid that resulted in debt traps took place in a very different context. No thought was given to the need for industrialization. "Small is beautiful" projects did little or nothing to advance industrialization, and many countries just had no activities that could generate the required revenue.
A Chinese expert said to a Japanese on condition of anonymity in 2014, "No one will be talking about the Belt and Road Initiative ten years later." Another said, "The massive loans China is giving will be turned into non-performing ones."
There has never been a world-wide Pax-Americana at any time in the postwar world; there were if any only two local or regional Pax-Americanas, one covering Western Europe and one covering Japan. They were not the product of unilateral imposition of an American will on reluctant countries. Western Europe and Japan were too devastated by war to rise on their own economically and for their security; they could not assume their own responsibility; they desired the US to take it for them; Washington did it.
If China wants to have a place of honor in the world and be respected again as it once was, it will need to do what will please other peoples.
More of the same wild spending! China is hellbent on pursuing its goal of galvanizing itself as the leading global power.
The Chinese are actively pursuing a scheme to expand China's One Belt One Road into new areas by promising loans and investments to countries struggling economically. More on the size and implications of their risky initiative in the article below.
It is probably fair to say that China's BRI is financed by its huge accumulated foreign exchange holdings. To the extent that these are run down and it trade imbalances with the West are reduced, it will have truncated capacity to advance its BRI. There will be limits.
China has the potential for greatness. It must eschew its desire for domination. Domination does not equate with greatness.
Its desire for domination has driven it to appalling excesses internally and military adventurism in the South China sea, threatening Taiwan, annexation of Tibet).
If its BRI is also driven by its desire for domination, it will fail.
China has the potential to be a force for prosperity, stability and peace in the world. Whether it can contribute thus is a matter of its own choosing.
Yes, your darned little comment says it all. It also has been the fond wishes of majority of mankind too- no conflict, no war, peace, prosperity and justice for all, so on! Excellent summary.
The author makes good points here.
No one can deny well concealed uglier facets of Communist China re: authoritarian, genocidal behaviour towards its occupied states like Tibet, unacceptable state of human rights, bullying weaker states around South China Sea and protecting universally condemned religious terrorist in her client state Pakistan. Yet China deserves praise for her efforts in the past decades, to raise millions out of dreadful poverty at home and for her efforts to build a global BRI infrastructure on which future strength of China would rest. It is using her well earned wealth indeed. Compare this to what some oil rich ie Saudi Arabia- which has invested in building mosques and Madrassas in many countries to preach conservative and harmful ideologies!
What seems going well in poor , corrupt, incompetent countries in Asia, Africa that receive BRI funds , may run into rough weather in countries in Europe. We shall see - que sera, sera!