China has hedged its consignment loans since it has extended credit abroad. The Exit strategy of 1999 gave way in 2011 to the Community of Common Destiny, quickly eclipsed two years later by Xi Jinping's Belt and Road vision. Throughout that period, no matter how the slogans changed, one type of project dominated: overseas infrastructure financed with Chinese loans. The country's banks have financed all kinds of projects, from the Mecca metro (which is being built in that Saudi city at a cost of 16.5 billion dollars by the same construction company that once laid railway lines for Mao) to the first works of Bandar, a shiny new development project in the Malaysian state of Johor, an attempt to establish a rival to Singapore.
By the time the Covid-19 pandemic hit and loans dried up, China's approach had already started to look unsatisfactory. According to our estimates, the world owed the eight largest Chinese state-owned banks at least $1.6 trillion, or about 2% of global GDP. Critics accused China of luring poor countries into debt traps for geopolitical purposes. Technocrats worried about how to fit China into the structures that the rich world used to relieve the debt of poor countries. Chinese officials, meanwhile, increasingly feared not turning a profit on an awkward number of projects. Now that lending is on the rise again, China is changing tack. The system that emerges is more streamlined and sophisticated, but just as intent on shaping the world to Beijing's advantage.
It is not the institutions that have changed. Poor countries borrow from the West through multilateral agencies, aid agencies, banks, and bond markets. Overseas Chinese lenders, including the two largest, Exim and China Development Bank, are state-owned, blurring the lines between for-profit lending and aid. While Western lenders deliver the loans to borrowers, or to charities in recipient countries, almost all of China's loans finance infrastructure built by Chinese state-owned companies, meaning the money may never leave the country.
At its inception, the system seemed to benefit everyone. In China, weak demand for some types of construction has left state-owned construction giants at a standstill. The state banks had surplus dollars obtained thanks to the increase in exports. The heads of construction companies and banks not only obtained valuable business by looking abroad, but also gained points with officials. In return, these officials gained diplomatic leverage over the borrowers. Loans flowed, in particular, to Africa, which was home to responsive governments and a wealth of untapped resources. Yet the big eight state banks made loans everywhere. The volume of loans owed to China worldwide rose from $390 billion at the end of 2010 to $1.5 trillion in 2017.
Now, towards the end of that period, cracks began to emerge. Xi's orders to focus on a “route” of global sea lanes and a “belt” of land routes connecting remote China with the far reaches of Africa and Europe failed to transform the loans. Belt and Road loans continued to flow to countries too hostile or far away to be useful. Poor countries faced difficulties in repaying them, leading to the abandonment of an increasing number of projects. State construction companies (the part of the credit system that dealt most with borrowers) had little to lose. If a loan went bad, banks lost money and officials were embarrassed, but builders still got their share. According to the American Business Institute (AEI), a think tank that tracks China's lending, new construction projects began to dry up even before the pandemic hit, indicating that authorities have already they were putting a stop to the lenders.
Western observers expected the brake applied early in the pandemic to last until China finished tidying up the restructuring caused by earlier waste. Instead, policy makers are instructing lenders to head abroad again, with senior diplomats accompanying them to facilitate the process. China never recognized the stoppage of the pandemic, which has only been visible in the figures from the recipient countries. And those numbers are now increasing. Meanwhile, data from consultancy fDi Markets shows that new project announcements (indicative of upcoming loans) increased in the second half of 2022.
The characteristics of this new era are beginning to take shape. In 2020, authorities told construction companies that future Belt and Road projects should resemble "careful drawings." In a speech in 2021, Xi reminded them that "small is beautiful." Sinosure, a state insurer, is now refusing to lend to countries already heavily indebted to China. Construction companies also have to take a small stake in the projects they work on. According to the AEI, the median construction project value fell from $526 million in 2012-2017 to $423 million in 2018-22. Another database, maintained by researchers at Boston University, shows that acreages are also shrinking, from an average of 90 km2 in 2013-2017 to 16 km2 in 2018-2021.
And Chinese policymakers are taking more control over spending, too. Before the pandemic, capital funds owned by ministries, official credit institutions and other pro-government segments were the fastest-growing source of foreign financing, according to data from Boston University. Those funds help officials direct state money where they want it, without having to go through state construction companies. Some funds are partnerships between China and Gulf countries; others act in a similar way to private equity funds. Fund managers make the big decisions. So far they have chosen to invest in green and financial technology. Over time, China might even use those channels to invest in rich countries unwilling to borrow.
Many of the new generation projects are located in places with an abundance of raw materials that are crucial for the ecological transition. China's manufacturing industry used to require oil and iron ore. It now makes more electric vehicles than anywhere else in the world, and seeks vast quantities of cobalt, copper and lithium. Between 2018 and 2021, even as state-owned banks stopped lending elsewhere, they sent billions of dollars into partnerships between Chinese state-owned companies and local metal mining operations in Latin America. That spurred a wave of purchases by state-owned companies and equity funds, three of which are dedicated specifically to the region.
In this more streamlined, centralized system, money goes to two types of borrowers: those who have a good chance of repaying it (because projects are likely to generate profits or because governments are rich enough) or those with whom any loss of money constitutes a price worth paying for diplomatic or military advantages. Loans to friendly countries with limited geopolitical utility, such as Angola and Venezuela, have dried up. However, the China Pakistan Economic Corridor (a name for some $60 billion worth of megaprojects in a country that already owes more than 30% of its foreign debt to China) appears to be an exception to Sinosure's new credit rule. The Center for Research on Energy and Clean Air, a think tank, estimates that at least four Pakistani power plants would have been scrapped had officials stuck to recently adopted climate policies.
Thus, the map of Chinese finance abroad is being redrawed. Banks offer fewer loans to Africa. Instead, they turn to closer countries, new sources of raw materials, and places where Chinese companies can circumvent Western trade tariffs. Malaysia and Indonesia have benefited from their proximity; Latin America, for its minerals. A small but growing number of state-owned manufacturers turn to countries that are friendly to both Beijing and Washington, where they use loans from state-owned banks to do business with local governments and companies. One such deal is the Kuantan industrial park in Malaysia, whose infrastructure cost at least $3.5 billion and was financed by a joint venture between the countries and their state-owned companies. The Middle East, where Oman and Saudi Arabia are home to clusters of Chinese manufacturing companies, offers similar access to Europe.
The new era presents unknowns. One of them is the size of the investment. Mutual fund money goes through places like Hong Kong and the British Virgin Islands, making it hard to track. Although state bank loans are shrinking, they are also being spread more quickly. Another unknown refers to the separation. In earlier times, China's great ambition was to integrate into the world economy. Now he also wants to insulate himself from America's economic warfare. If relations continue to deteriorate, China could redouble its efforts to avoid tariffs, entrench allies and secure global supply chains. A final question mark is whether such efforts will be hampered by the country's desire to take a more sustainable approach to debt. Some wonder if China's behavior has really changed. In time, will he return to building and financing megaprojects, as well as engaging in his various new activities?
Before, Chinese banks lent to poor countries to carry out massive and useless projects. Yet the same banks also lent for massive, useful projects, like dams and highways, in countries that couldn't borrow from anyone else because they couldn't really pay anyone else. The consultancy Oxford Economics calculates that by 2040 there will be a global "infrastructure investment gap" of 15 trillion dollars, between the financing for construction that economies need and the one that will actually be available to them. With its change of approach, it seems unlikely that China will intervene, and other countries are not too willing to do so either. China's new lending era will be more targeted and better for its own public finances. Some countries, especially in Africa, will miss the old way of doing things.
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Translation: Juan Gabriel López Guix
