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China’s Belt and Road initiative: can Europe expect trade gains?

By Alicia Garcia Herrero and Jianwei Xu

Abstract

The Belt and Road initiative, recently embarked on by China, aims to improve cross-border infrastructure in order to reduce transportation costs across a massive geographical area between China and Europe. We estimate how much trade might be created among Belt and Road countries as a consequence of the reduction in transportation costs (both railway and maritime) and find that European Union countries, especially landlocked countries, should benefit considerably. This is also true for eastern Europe and Central Asia and, to a lesser extent, south-east Asia. In contrast, if China were to seek to establish a free trade area within the Belt and Road region, EU member states would benefit less, while Asia would benefit more. Xi Jinping’s current vision for the Belt and Road, centred on improving transport infrastructure, is very good news for Europe as far as trade creation is concerned.

Introduction

The Belt and Road project is undoubtedly the most important international project that China has embarked on in the last few decades. It aims to stimulate economic development over a vast area covering sub-regions in Asia, Europe and Africa. Although there has been no official announcement about what countries are covered by the Belt and Road initiative, some official sources point to the involvement of at least 63 countries, including 18 European countries. Particularly relevant for Europe is that the Road ends where the European Union (EU) starts. Most importantly, this massive bloc between the EU and China accounts for 64 percent of the world’s population and 30 percent of global GDP.

One of the Belt and Road’s key objectives is to ease bottlenecks for cross-border trade, in particular through transport infrastructure. This should reduce the cost of transportation, thus stimulating trade between China and these countries. The same effect should be expected for the other end of the road – the EU – because cheaper transportation should also foster its trade with other Belt and Road countries, as well as with China. This paper measures empirically whether the reduction in transportation costs – shipping or railway costs – will have a positive impact on trade flows for Belt and Road countries and, most importantly, for EU countries.

In addition to estimating the size of the trade gains stemming from a reduction in transportation costs, we explore the possibility that the Belt and Road may eventually go beyond its current objectives towards the creation of a free trade area. To that end, we establish a scenario in which China embarks on a free trade agreement (FTA) with the 63 countries of the Belt and Road initiative. This exercise is particularly relevant at the current juncture because the Trans-Pacific Partnership (TPP), a free trade agreement between a number of Pacific economies and the US, is about to be created. China has so far been excluded from the TPP. In other words, we aim to identify empirically what kind of trade gains countries could expect from a reduction of transportation costs and to compare them with potential trade gains from reductions in tariffs stemming from a potential FTA. While our analysis estimates gains/losses for a large number of countries, our focus is EU member states. Our results indicate that the reduction in transportation costs from the Belt and Road initiative should benefit the vast majority of EU countries, especially landlocked countries. In comparison, if China reached a deal for the establishment of an FTA with the countries of the Belt and Road initiative, the benefits would be concentrated among Asian and non-western European countries. EU countries’ trade, in turn, would be harmed although in a relatively limited way. The reason for this is substitution of EU trade with countries within the Belt and Road as their intra-regional trade tariffs are dismantled. In a nutshell, this paper points to the benefits for the EU of Xi Jinping’s current vision for the Belt and Road initiative, which focuses on improving transport infrastructure rather than on a establishing a free trade area within the Belt and Road region.

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