Caixin Online – by Ding Feng and Huo Kan
Beijing) – China’s rise has been epitomized recently by its push for two international financial institutions, the New Development Bank, or “BRICS bank,” and the Asia Infrastructure Investment Bank (AIIB).
What has set the two multilateral financing vehicles apart from established international development banks is that they are spearheaded by emerging economies and have made headway in a short period of time.
While the two institutions are designed to cater to the infrastructure financing needs of emerging economies, their success will hinge upon how they are governed and how they manage political and legal risks over the long term.
Leaders from Brazil, Russia, India, China and South Africa, known as the BRICS countries, agreed at the sixth meeting of their leaders in Brazil in July to launch, the BRICS bank in Shanghai after two years of preparations.
Late last month, China, India, Singapore and another 19 countries signed an agreement to set preparations in motion for the AIIB. Under the agreement, the new bank, to be based in Beijing, will be up and running before the end of 2015 once the parties nail down a charter.
Academics said that there is a grave shortage of financing for infrastructure development around the world, but the shortfall has little to do with money and more to do with the lack of a mechanism facilitating capital flows into projects.
They say there is no sound mechanism for mediating differences, incorporate each partner’s capital and technological advantages, and to safeguard efficiency and returns.
“If the BRICS bank cannot overcome barriers in these aspects, it can hardly aim for a real success,” said Chen Taotao, a Tsinghua University business administration professor specializing in China-Latin America studies.
Governance Questions
Under the AIIB memorandum, the 22 partners will contribute 20 percent of an initial US$ 50 billion commitment fund in accordance with their gross domestic product.
While the BRICS bank has a goal of US$ 100 billion yuan in capital, its five founding members will contribute equally regardless of their GDP, an experiment that has been hailed by China’s vice finance minister, Zhu Guangyao, as a democratic arrangement that will have a great impact on the oversight of international agencies.
As one of most high-profile international development banks, the World Bank has provided a template for the BRICS version and the AIIB. The two banks will be watched closely for how far they could go in the market-oriented direction.
The World Bank is governed by a board of 25 directors, including one from each of its top five stakeholders, namely the United States, Japan, Germany, France and Britain.
China, Russia and Saudi Arabia have a representative each on the board, and the other members are elected from representatives from other countries.
Zhu Jiejin, a Shanghai Fudan University professor who studies BRICS countries, said decisions from the 25 board directors will have political undertones because they inevitably represent interests of their home countries.
He said that the future composition of boards at the BRICS bank and AIIB will be a key if the banks want to play by market rules, which will be a focal point in future negotiations among the parties.
In light of the framework documents for the two banks, Zhu said that they opted against a sitting board of directors and instead the banks have sought to leave daily management to team of executives. The board of directors will meet several times a year to agree on strategies, loan policies and the banks’ code of conduct.
New Mechanisms
One consensus among academics is that there is plenty of interest from investors in infrastructure projects around the world, but there is a lack of platforms or mechanisms to attract their investment. New international banks will need to be more creative in formulating lending and capitalization strategies to attract such investors.
Feng Weijiang, an expert at the Chinese Academy of Social Sciences who specializes in international politics and economics, said that oversight and a sound appraisal mechanism are the keys for sustaining infrastructure investment.
An official from China Development Bank, the country’s policy bank, said that major infrastructure projects in some developing countries have had difficulty securing financing if they had have to deal with commercial banks because only rough sustainability studies were done.
He said the BRICS bank might be less political when vetting projects, but must set a strict benchmark for sustainability.
On top of loans to sovereign countries, the AIIB could introduce the public-private partnership (PPP) arrangement to attract social security funds and private equity funds.
Both banks could also set their eyes on international capital markets to maintain long-term and sustainable development.
Zou Jiayi, director of Ministry of Finance’s International Department, said the AIIB will not only issue bonds in regional markets, but also in global markets, becoming very active once it develops experience.
However, the AIIB may have to pay dearly to get financing from international capital markets because most of its member countries have a B grade credit rating.
Singapore is the only country with an AAA rating on par with that for the World Bank, Asia Development Bank, European Bank for Reconstruction and Development, and the African Development Bank.
Risks and Challenges
A shortage of financing for infrastructure projects in emerging markets has provided a window of opportunity for China to make use of it huge foreign reserves and oversupply in production capacity.
However, the risks arising from political, economic, cultural and legal complexities in emerging countries cannot be taken lightly.
Deutsche Bank global strategist Sanjeev Sanyal said China is shifting from a “world factory” to a “world investor” amid growing demand for infrastructure investment in other developing countries.
However, he urged caution when it comes to investment in these countries given their lower efficiency and lack of administrative resources.
Zhao Yan, executive secretary-general for the China Top 500 Foreign Trade Enterprises Club, a non-governmental platform promoting Chinese exporters overseas, said Chinese investors are relatively inexperienced and not necessarily aware of risks in international ventures, particularly regarding political and legal risks that have been become a major concern in recent years.
Such risks are underscored by a setback China suffered recently when the Mexican government canceled a US$ 3.75 billion contract with Chinese companies to build a high-speed railroad project after opposition from lawmakers.
Academics said the development banks China has championed need to address doubts over the possible failure of these institutions to match up with the level of oversight and transparency of counterparts such as the World Bank.
One delicate issue is how they are going to balance flexibility and still adhere to a high degree of oversight.
To minimize risks, Zhu, the Fudan professor, said that Chinese-led efforts in international financing should adopt more localization by seeking to work with local partners such as national development banks in destination countries.
“There are so many issues that investors from outside do not necessarily know,” Zhu said. “What’s more, international investors should also seek to align their projects to the national development blueprint in their targeted countries.”
(Rewritten by Li Rongde)