Author: Ye Yu, Shanghai Institutes for International Studies
On 21 November 2021, Chinese President Xi Jinping laid out the key principles for the next stage of the Belt and Road Initiative (BRI). Risk control of BRI projects was a key focus. Xi encouraged companies and their regulatory bodies to prioritise ‘small and beautiful’ projects in international cooperation and to avoid ‘dangerous and turmoiled places’.
The Central Bank of China also issued a new regulation setting limits on the external lending of Chinese banks, ‘aiming to forge a new development pattern mainly relying on domestic cycles and … promoting interactions of domestic and international cycles’.
Limits on external lending represent a shift in Chinese BRI lending policies. The BRI has featured large direct lending for physical infrastructure projects in developing countries. Chinese state-owned banks financed on average US$85.4 billion a year across 2013–2017. This amount was more than double the United States. The average size of Chinese loans was US$328 million in this period, compared to non-concessional loans of OECD countries valued at US$12.4 million on average in 2019. Although infrastructure projects will continue to be the focus of the BRI, the size of future projects is expected to decline.
The shift can be understood in the context of global financial market dynamics. After the 2008 global financial crisis, European mega banks reduced overseas lending sharply from US$15.9 trillion to US$8.6 trillion from 2007–2016 due to enhanced financial regulations. A similar curve for the BRI will likely be pushed by the regulations of the Bretton Woods institutions and traditional creditors due to the COVID-19 pandemic.
According to the IMF and the World Bank, half of the countries eligible for International Development Association assistance are already in or were at high risk of entering debt distress before the pandemic. As proposed by the two institutions, the G20 approved the Debt Service Suspension Initiative (DSSI) and the Common Framework for Debt Treatment beyond the DSSI for this group of countries in April and November 2020 respectively. A total of US$12.9 billion debt service was suspended between May 2020 and the end of 2021. Further countries, such as Chad, Ethiopia and Zambia, are in the process of applying the Common Framework.
The accommodative policies of advanced economies over the last two years have allowed most debtor countries to survive without applying for Common Framework treatment. But the IMF, the World Bank and the US Treasury are encouraging more countries to speed up their debt treatment process. They are also pushing for broader debt transparency requirements and stricter debt sustainability analysis for DSSI countries. Inflation is driving a tightening of the global monetary environment and is expected to bring more DSSI countries into the G20 debt treatment process. China — as the largest official bilateral creditor — will be the most affected lender.
BRI deleveraging is different to the retreat of European banks during the global financial crisis due to the highly geopolitical nature of the debt treatment, debates on the role of BRI debt and the appropriateness of international regulations. The Bretton Woods institutions strengthened debt sustainability analysis for poor countries while advanced economies are effectively abandoning public debt limit disciplines. African countries complain about the ‘institutional bias’ in the methodology of rating agencies as attacking poorest countries during their hardest times.
The Common Framework processes will be prolonged due to the broad base of creditors and the lack of trust and leadership. Ensuring a commonly accepted fair burden sharing between commercial creditors of advanced economies, including bondholders, and Chinese banks will be the key.
A serious issue to consider is the optimal regulation for modern development finance to meet the financing gaps of developing countries. Traditional creditors are pushing for development banks and export credit agencies to comply with the strict norms of official development assistance (ODA), such as the ‘full transparency’ requirement and the prohibition of credit enhancement measures. These will heavily discourage the financing of ‘big and stupid’ infrastructure projects where ODA-type finance is insufficient to meet demand.
While it might be easy for the BRI to get wiser, it is still difficult for the poorest countries to find real alternatives. A new tide of ‘development finance competition’ is emerging to fill the financing gap. A dozen initiatives, including the Indo-Pacific Economic Corridor, Build Back Better World and Global Gateway were put forward to replace the BRI. Their key narrative is to adopt innovative financing tools to crowdsource private sector funding for high quality infrastructure projects, but results have been limited. How private sector solutions for infrastructure can really work remains an open question.
Ye Yu is Associate Research Fellow at the Shanghai Institutes for International Studies.
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