The economics and politics of China’s New Silk Road
China’s New Silk Road project is evidence that Beijing is developing policies to realise President Xi Jinping’s “Chinese Dream” to “reclaim national pride and enhance personal well-being”.
In economic terms, this amounts to creating incentive compatibility between the state and the people.
Officially dubbed “One Belt, One Road” (OBOR), Xi’s plan is to connect Asia and Europe by investing in infrastructure projects using vast financial resources including the US$40 billion Silk Road Fund, the US$100 billion Asia Infrastructure Investment Bank (AIIB) and the US$50 billion New Development Bank (NDB).
It plans to build roads, railways, and gas pipelines across central Asia to Europe and ports and maritime facilities from the Pacific Ocean to the Baltic Sea. Building closer economic ties with the regional economies lays the foundation of an economic empire centred in China.
OBOR is the next step of China’s strategic development. The initiative will unleash a regional and domestic infrastructure boom, helping to stabilise mainland growth while structural reforms are implemented. China’s large state companies will likely lead most of the OBOR projects, paving the way for the small (including private) companies to follow.
But it would be wrong to view OBOR as an escape route for China to revive its investment-led growth model.
The expenditure-switching from investment to consumption in the Chinese economy is inherently liable to contraction. Investment cannot be allowed fall too quickly, otherwise growth will be crushed before consumption can catch up to compensate.
OBOR can help prevent investment from falling too fast during China’s structural reforms.
Arguably, OBOR is also an effort by Beijing to counter US-driven trade agreements, such as the Trans-Pacific Partnership (TPP) and the Transatlantic Trade and Investment Partnership (TTIP), which exclude China. These new trade pacts are seen as efforts to contain China.
From China’s perspective, economic growth is key to national security, as it legitimises the Communist Party’s rule. OBOR is part of its survival plan.
Since 2010, the US has been working closely with South Korea, Japan, Taiwan, the Philippines, Australia and India in its “pivot to Asia” policy initiative. This has made it hard for China to expand its influence over regions to its east and prompted China to rethink its strategy of concentrating investment in the eastern coast. Through OBOR, Beijing is expanding to the west.
The real question is not whether China can be contained, but through which channels it will exercise influence as a new international player.
Economic expansion is one possibility; military confrontation is another. China’s former leaders pursued a “peaceful rise”. The current generation of leaders may not necessarily take the same reserved approach.
Beijing probably still sees its geopolitical and security interests as best served by tying other countries into ever closer economic relationships. OBOR will enhance China’s economic and political clout and implies an expansion of its military influence.
But as China builds closer economic ties with the world, it will also have a lot to lose if it upsets international relations. It is not in Beijing’s best interest to instigate international instability.
OBOR, however, also carries some potentially big risks for China.
Some of the countries participating in the OBOR scheme have large fiscal and current account deficits. Beijing will be taking on greater default risk by investing in them or by providing them with capital. A wider use of the yuan may also expose China to currency risk.
The politics may also backfire. Given China’s poor track record in operating in foreign countries, including clashes in work ethics and the lack of human rights in labour treatment, a major increase in the scale of China’s external activities could increase the risk of damaging Beijing’s political image or creating instability in the host countries. Expansion of Chinese influence throughout central and south Asia will also create tensions with major players in those regions.
Nevertheless, if China encourages free trade and abides by international norms and market rules, OBOR would be positive for global markets by fostering new trade networks and better allocation of capital. The investment opportunities will outweigh the risk.
Chi Lo is senior economist at BNP Paribas Investment Partners