AIIB outbound investment agenda is key to China’s economic rebalancing
The numerous major developed economies that have joined the Beijing-backed Asia Infrastructure Investment Bank (AIIB) as founding members have raised questions about its governance and potential clashes with existing multi-lateral lenders.
Arguably the early participation of countries with high governance standards is an external market discipline that will help prevent Beijing using the AIIB in morally and environmentally damaging ways.
More crucially, Asia needs far more infrastructure investment than the World Bank and ADB can finance.
The ADB and investment banks estimate that Asia needs US$8-11 trillion in infrastructure spending between now and 2030, mostly outside China.
The ADB’s capital base is about US$165 billion, the World Bank’s is US$223 billion with an annual borrowing of some US$30 billion.
Add in the capital of the two other major regional development banks that don’t even focus on Asia – the Inter-American Development Bank and the African Development Bank (US$70 billion and US$100 billion, respectively ) – and the total financing capability of them is less than 8 per cent of what this region needs.
The AIIB capital base of US$100 billion hardly constitutes competition to Asia’s existing development lenders.
Of course the AIIB is only one of Beijing’s financial initiatives to change the regional investment landscape.
Others include the US$40 billion 21st Century Silk Road project (also known as the One-Belt One-Road, OBOR plan) announced in October 2013 and the US$50 billion New Development Bank – the so-called BRICS Bank.
These initiatives will unleash a regional infrastructure boom in the coming years. The AIIB in particular will augment the funding capability of the existing lenders and when it starts to tap capital markets for funding, it will also help foster the development of a regional bond market.
So what’s in it for China?
Strategically, Beijing sees the AIIB and the NDB as multilateral tools to support its own policy banks in financing overseas investment and encouraging mainland companies to globalise. It also wants to cement its position at the centre of a new economic order with all roads leading to Beijing.
Higher return outbound investments will help offset domestic inefficiency that has seen declining marginal returns on investment since 2000 and created huge excess capacity – most notably in steel, cement, solar energy and construction. Promoting infrastructure development abroad exports excess capacity while boosting the overseas market share of the mainly state-backed firms that control heavy industry.
At the same time Beijing wants to globalise the yuan. This can be done by becoming a net importer of goods and services. Or it could become a large exporter of capital by buying foreign assets and expanding lending overseas. Or it could replicate the US strategy of creating the Marshall Plan, the World Bank and the International Monetary Fund and create institutions that use yuan to fund spending.
The AIIB, NDB and OBOR are clearly geared towards the third way of internationalising the yuan. And they imply an accelerating trend of capital outflow from the mainland in the form of foreign direct investment in the coming years. Financing infrastructure projects is a more attractive alternative than keeping the mainland’s foreign exchange reserves in low-yielding US financial assets.
The core challenge at the heart of this infrastructure agenda is Beijing’s urgent need to rebalance growth in a society which has a markedly smaller appetite for consumption than many other economies.
The mainland’s marginal propensity to consume is only about 0.34 versus the typical 0.6 or higher. If the government were to push for a fast rebalancing by cutting investment, every dollar not spent on domestic investment would be replaced by private consumption of only 34 cents – a net contraction in activity.
But encouraging consumption through structural reforms, such as financial liberalisation, social safety net improvements and income growth and redistribution is a slow process. In a nutshell, investment cannot fall too fast.
The AIIB has the potential to facilitate the expenditure-switch. But doing so will require strong management that tackles the risk of governance problems head-on.
Chi Lo is senior economist at BNP Paribas Investment Partners