10 April 2017
One Belt, One Road: Can China Overcome the Obstacles?
By CCR Advisory Group
In September 2013, just six months after his election as President of China and ten months after his election as General Secretary of the Communist Party of China, Xi Jinping made a tour of Central Asia. In a speech at Nazarbayev University in Astana, Kazakhstan, he announced, for the first time, the One Belt, One Road (OBOR) project for Eurasian integration, comprised of the New Silk Road and the Maritime Silk Road. Since that initial announcement, OBOR has emerged as a cornerstone of China's economic and political outreach to Eurasia, Africa and beyond.
A Network of Development Banks
Under the OBOR umbrella, China has launched a series of development banks, including the multilateral Asia Infrastructure Investment Bank (AIIB), and the Silk Road Fund. AIIB now has 57 member states, including major United States allies in Europe, as well as South Korea and all the countries of ASEAN. China is one of five founders of the BRICS New Development Bank (NDB), along with Russia, India, Brazil, and South Africa. Between these three institutions, there is a capital base of $240 billion.
The Chinese government, in addition to its capital contributions to these three funds, has invested $62 billion in infrastructure capital through the China Development Bank, the Export-Import Bank of China, and the Agricultural Development Bank of China, outside of the formal structure of the OBOR projects. The China Construction Bank, another Chinese financial institution focused on infrastructure lending, has been investing $40 billion per year since the launching of OBOR in 2013, and has partnered with the Singapore state development board to invest an additional $22 billion for projects, largely in Southeast Asia, which are part of the Maritime Silk Road.
In a speech in Beijing on August 17, 2016, President Xi Jinping reviewed the progress of the OBOR effort, telling the audience that over 100 countries and international organizations have signed on to the project in one way or another. he One Belt, One Road project has been called "The Second Marshall Plan," but boosters point out that the Chinese initiative is 12 times larger than the Marshall Plan, in constant dollar terms. It extends across all of Eurasia, from eastern China to the Atlantic Ocean and inland ports of Western Europe.
Scope of Major Projects Underway or Planned
The OBOR project extends from the Pacific Far East through Southeast and Central Asia into Europe, the Middle East, and Africa. Maritime projects intersect the New Silk Road overland rail and road projects.
China is heavily investing in African infrastructure as part of the Maritime Silk Road component. In recent years, China has invested in 1,000 African projects, including the construction already of 2,200 kilometers of railroads and over 3,300 kilometers of paved highways. In trips to South America, Xi Jinping and other Chinese officials have negotiated for the building of a trans-continental railroad, linking the Atlantic coast of Brazil with the Pacific coast of Peru.
Within Eurasia, China has modernized the Greek port of Piraeus. As of August 10, 2016, China's State Owned Enterprise (SOE), China Ocean Shipping Company (COSCO), has bought a 51 percent ownership in the Piraeus Port Authority.
At the heart of the OBOR program is a Eurasia-wide grid of freight and passenger rail, running along three corridors, extending from Eastern China to port cities on the Atlantic coast of Western Europe. China, in the past two decades, has built more high-speed rail (HSR) than all the rest of the world combined. While some of the rail projects simply involve connecting links between existing regional rail grids, the fact is that there are already regular freight shipments, by rail, between Xian and Belgium, Yiwu and Madrid, and Eastern China and Duisburg in Germany, at the juncture of the Ruhr and Rhine Rivers. The first freight rail train arrived recently in Iran from Eastern China, cutting the travel time by 2/3 to just 14 days, at a greatly reduced cost.
The potential scope of the OBOR project is vast, directly impacting 65 percent of the world population, a third of the world's GDP, a quarter of the world's goods and services, and three-quarters of the world's proven energy supplies. That translates into 4.4 billion people and $21 trillion per year in economic activity, carried out in the regions directly involved in the OBOR.
This has positioned Chinese SOEs to play a pivotal role in rail construction projects globally. The trans-continental railroad from Brazil to Peru, cutting through the Amazon Jungle and the Andean Mountains, alone, is a $250 billion project, which China has proposed to finance and construct. As part of the integration of the Maritime Silk Road and the New Silk Road, China is building a high-speed rail system between Belgrade and Budapest, which will link the Piraeus port to the Danube River basin, through additional rail and road grids running up from Southeast Europe. China is also bidding on a high-speed rail project in the United States, running from San Diego through Los Angeles to San Francisco. China is prepared to finance half the cost of the project.
As part of the Maritime Silk Road, China is building a deep water port at Gwadar in Pakistan on the Arabian Sea, at an initial cost of $1.6 billion. The port will link the New Silk Road and the Maritime Silk Road, and will be part of a larger complex in Gwadar which will include an LNG (liquefied natural gas) facility. The China-Pakistan Economic Corridor (CPEC), a showcase project of the overall OBOR, is a $46 billion investment from China, which is greater than all foreign direct investment (FDI) in Pakistan since 1970.
Can China's Financial Resources Meet Funding and Governance Demands?
After a period of sharp decline, China's foreign hard-currency reserves have stabilized, and as of September 2016, the People's Bank of China set the reserves at $3.18 trillion. China has the cash to back up the ambitious OBOR plans, and has clearly demonstrated a willingness to "put their money where their mouth is." Between the multilateral development funds (MDF) and the direct Chinese investment in OBOR, a significant amount of long-term credit can clearly be generated. But World Bank and other agencies estimate that Asia alone requires $2-3 trillion a year in infrastructure investment to fill the "infrastructure gap," and the combined efforts of China and the newly-established MDFs can only provide a portion of those needs, at least for the next decade.
However, a 2015 study by the German Development Institute, "Financing Global Development: The BRICS New Development Bank," concluded that, with proper management of its lending, and by partnering with other multi-lateral development funds, NDB alone can provide as much as $34 billion a year in development loans in a short number of years. That would represent a more than ten-fold increase over the $2.5 billion in lending that has been announced for 2017 at the just-concluded BRICS summit in Goa, India. This would put the NDB on a par with the European Investment Bank, which is otherwise the largest regional development bank in the world, with $32 billion in infrastructure investment in 2012.
The German study contained a number of caveats and guidelines for the NDB to achieve those goals: "The scale of lending of the BRICS bank needs to be large enough to make a meaningful impact, given the significant level of needs identified. The impact of a BRICS bank must also be measured in terms of its capacity to enact leverage through its co-financing of projects in the private and public sectors.
"National and regional development banks, as well as the World Bank, will be natural partners. Indeed, the creation of the NDB and the AIIB also reflects a shift toward a greater emphasis on public development banks, regionally as well as nationally. There is a growing consensus that well-run public development banks can play a positive role in funding the real economy, especially in light of the limitations of the private financial system in doing so. This is the case in particular in certain sectors, such as infrastructure, where long-term finance is required before investments become profitable, often beyond the maturity dates that the private banks are willing to lend for, especially in poorer countries."
The first question that must be answered in assessing the feasibility of China's OBOR project is whether the new development banks—the AIIB, the Silk Road Fund and the NDB—can live up to and surpass existing world standards. From the outset, the Obama Administration expressed reservations about whether a Chinese initiative could meet those global standards. Following Britain’s announcement that it was joining the AIIB as a charter member, the National Security Council issued a statement to The Guardian newspaper, explaining the Obama Administration’s stance:
"Our position on the AIIB remains clear and consistent. The United States and many major global economies all agree there is a pressing need to enhance infrastructure investment around the world. We believe any new multilateral institution should incorporate the high standards of the World Bank and the regional development banks.
"Based on many discussions, we have concerns about whether the AIIB will meet these high standards, particularly related to governance, and environmental and social safeguards… The international community has a stake in seeing the AIIB complement the existing architecture, and to work effectively alongside the World Bank and the Asian Development Bank."
Now, 18 months later, many of those reservations have been at least initially proven to be over-stated. The fact that so many countries have joined the AIIB and have been given full participation in the designing and staffing of the governing structures of the bank, has actually translated into compliance with those global standards and norms.
The AIIB charter was devised on the basis of the Zedillo Commission study on needed reforms of the World Bank. The Commission, chaired by former Mexican President Ernesto Zedillo, formally called the "High-Level Commission on Modernization of the World Bank Group Governance," recommended crucial streamlining of the loan review process to avoid costly overhead and long delays in loan approval. Those reforms were absorbed into the design of the AIIB.
Security and Geopolitical Challenges
While the governance issues appear to have been resolved, at least in the initial phase of operations of the AIIB and the NDB, there are other daunting challenges that must be overcome for the full OBOR program to succeed. Those obstacles relate to security issues and geopolitical considerations that pose far greater challenges than structural issues or short-term capital shortfalls.
The flagship China-Pakistan Economic Corridor (CPEC) is itself the best example of the security and geopolitical challenges. Along the route of the CPEC, which is comprised of a road-and-rail link from Western China, a series of oil and gas pipelines, and other infrastructure projects, there are formidable security challenges. At least three major insurgent groups operate along the route, including the East Turkistan Islamic Movement (ETIM), the Pakistani Taliban and several Baluchistan separatist movements. The project has moved ahead slowly, because Pakistani security forces cannot even secure the Chinese workers who are part of the labor force for these roads, railroads, and pipelines. The proposed route of the CPEC also runs through part of Pakistan-occupied Kashmir (POK), which is the Indian name for the disputed border territory.
While India, in hosting the October 15-16 BRICS heads of state summit, chose to focus exclusively on areas of common interest among the five participating nations, the bilateral meeting between Indian Prime Minister Narendra Modi and Chinese President Xi Jinping focused on two major areas of China-India contention: China’s refusal to support India’s membership in the prestigious Nuclear Suppliers Group (NSG) and China's opposition to India’s Comprehensive Convention on International Terrorism (CCIT), which has languished at the United Nations Security Council since 1996, due to China’s reticence to open up ally Pakistan to sanctions for state support of the terrorists who have carried out attacks on India (the Indian parliament attack in 2001 and the Mumbai massacre in 2008, Kashmir 2016).
Writing in The BRICS Post on October 16, 2016, Jabin T. Jacob of the Institute of Chinese Studies in New Delhi called on Indian Prime Minister Modi to adopt a more proactive approach to the disputes, by openly joining in the CPEC project, thus taking a stake in the Pakistan-China economic advancement and providing Indian security assistance. He argued that, under such circumstances, India would be in a stronger position to shift China’s opposition to Indian accession to NSG. Ultimately it is to India’s advantage to boost trade ties with China and Pakistan. China has already offered to invest in Modi's signature "Brand India" initiative, and in India's major investment in Iran's Chandahar deep-water port on the Arabian Sea.
The China-Pakistan-India case is but one example of the complex geopolitical minefields that China and the other OBOR participating states will have to navigate. Chinese leaders are hardly unaware of these pitfalls. Xu Fengxian of the Chinese Academy of Social Science recently wrote that the biggest challenges to the success of the OBOR initiative are the “unbalanced economic development” of the countries included in the plan and the immense security challenges. He cited the China-Pakistan Economic Corridor as the test case for whether the project can succeed. Can the prospect of economic development trump the ethnic and other conflicts that abound along the New Silk Road route?
There are further concerns related to China's own internal economic growth. While the IMF recently projected that China's GDP growth would remain at a healthy 6.5-7 percent per annum in the coming decade, some analysts project economic turmoil in the next decade, due to bloated SOEs, high rates of internal debt, including in the vast shadow banking sector, and pressure to continue to increase wages and establish a genuine social safety net (Chinese wages have increased at an annual rate of 10 percent over the past decade, the highest rate in Asia). A July 2015 study by the Brookings Institution's David Dollar concluded that the OBOR project will only have a minimal impact on solving China’s SOE-centered over-capacity problems.
But that same study, as well as a more recent presentation by the McKinsey Group, concluded that the potential for conflict between the Obama Administration's signature Trans-Pacific Partnership and China's OBOR initiative is overrated, and that TPP provides the "software" for future trans-Pacific trade, while the OBOR provides the "hardware" in the form of infrastructure for trade growth.
Underlying all of the problems that lie ahead for China's OBOR is a broad-based uncertainty, in many leading nations, about China's motives. President Xi Jinping has branded the OBOR project as a model for "win-win cooperation" aiming towards creating a "community of common destiny."
However, in Washington and New Delhi, the Gwadar port, a key element of the CPEC, is viewed as a future potential base for the Chinese PLA Navy's growing submarine fleet, which is looking to project sea power beyond the nine-dash-line into the heart of the Indian Ocean.
Throughout the West, there is another growing concern over the emerging geopolitical alliance between Russia and China, which in recent months has included a number of joint Russian-Chinese military maneuvers in the Pacific Northeast, including joint naval maneuvers. Already, a preliminary agreement has been reached to integrate China’s OBOR program with the Russian Far East Development Program, and a $40 billion gas deal between Russia and China is already being implemented. The Russia-led Eurasian Economic Union has already signed cooperation agreements with China's OBOR, and the two countries are moving towards bilateral trade denominated in local currencies, potentially bypassing the role of the U.S. Dollar as the reserve currency for global energy trade.
China First, or Genuine 'Win-Win'?
When he visited Seattle, Washington earlier this year, President Xi Jinping assured American corporate leaders that China is a fully responsible player in the existing global financial architecture. He cited, as an example, China's pivotal role during the 2008 financial crisis in stabilizing the U.S. Dollar by maintaining its vast Treasury holdings. But despite those reassurances, there is a persistent concern that, beyond the "win win" rhetoric, there are long-term Chinese global geopolitical ambitions underlying the OBOR. China's assertive moves in the South China Sea, while it is advancing the 2010 China-ASEAN Free Trade Area, has raised concerns among many smaller states of the region, who seek American military guarantees while pursuing Chinese investments and trade expansion.
Over 2,500 years ago, the great Chinese strategist Sun Tzu wrote in his The Art of War that "winning a hundred victories out of a hundred battles is not the ultimate achievement; the ultimate achievement is to defeat the enemy without ever coming to battle." To succeed in the ambitious "Second Marshall Plan," Chinese leaders are going to have to convince skeptics that China is advancing a reform of the global system, and not merely pursuing a "China First" agenda while engaging in a great deception.
- German Development Institute (Deutsches Institut fur Entwicklungspolitik) briefing paper, "Financing Global Development: The BRICS New Development Bank," Paper 13, 2015, by Professor Stephany Griffith-Jones.
- "U.S. anger at Britain joining Chinese-led investment bank AIIB," by Nicholas Watt, Paul Lewis and Tania Branigan, Guardian, March 12, 2015.
- "Repowering the World Bank for the 21st Century, Report of the High-Level Commission on Modernization of World Bank Group Governance," October 2009. http://siteresources.worldbank.org/NEWS/Resources/WBGovernanceCOMMISSIONREPORT.pdf
- "India and OBOR: It’s Not Complicated," The BRICS Post, October 16, 2016, by Jabin T. Jacob.http://thebricspost.com/india-and-obor-its-not-complicated/
- "China’s Xi Jinping Talks Up 'OBOR' as Keynote Project Fizzles," Time magazine, August 18, 2016, by Charlie Campbell from Beijing.
- China's rise as a regional and global power: The AIIB and the 'one belt, one road,' by David Dollar, The Brookings Institution, July 15, 2015. https://www.brookings.edu/research/chinas-rise-as-a-regional-and-global-power-the-aiib-and-the-one-belt-one-road/
- "China’s One Belt, One Road: Will it reshape global trade?" a McKinsey and Company podcast, July 2016, with Cecilia Ma Zecha, Kevin Sneader and Joe Ngai.http://www.mckinsey.com/global-themes/china/chinas-one-belt-one-road-will-it-reshape-global-trade
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