AIIB: Is It China’s ‘Achilles Heel?’ – Analysis

In recent decades, China’s become the ‘workshop of the world.’ Out of this China got high employment and economic growth. The world got cheaper consumer products.

In accepting this inward investment, China’s often limited foreign investors to joint ventures or minority stakes and required technology transfer.

This enabled China to develop her own world-class expertise in some high tech areas. These include energy and infrastructure — particularly electricity transmission and oil and gas technology. These are among  the things China now wants to export.

The best examples are State Grid Corp of China (SGCC) and China National Offshore Oil Company (CNOOC). Both are gargantuan enterprises. Together they employ more of China’s working age population (3%) than the People’s Liberation Army (2%).

These globally-competitive Chinese state champions face politically-destabilizing layoffs without refreshed project pipelines.

Similarly destabilizing is China’s growing international reserve hoard. This is now estimated at around US$4 trillion — triple the size of any other country’s.

China accumulated these reserves through a long-standing mercantile export policy centered upon a weak yuan. Now this expanding cash hoard is itself destabilizing for both China and the world.

This explains China’s motives for creating the Asian Infrastructure Investment Bank. The ‘good’ reason — of course — is to recycle China’s reserves into internationally-useful new infrastructure.

The ‘real’ reason may to create new contracts for China’s infrastructure state champions like State Grid and CNOOC. This will keep their large workforces employed.

Both are crucial to the Communist Party. China’s shallow and brittle social contract between rulers and ruled now rests almost wholly on rising personal incomes.

Choking pollution has strained this social contract. Rising unemployment could break it.

Seen this way, it’s easy to view the AIIB as an export pressure valve aimed at  channeling new infrastructure projects to State Grid, CNOOC and others.

For the most part, this is sensible economics. Recycling China’s trade surpluses benefits everyone. It stimulates the global economy and should have a positive effect on fighting global climate change.

But it’ll be astonishing if most of the money won for AIIB-funded infrastructure projects don’t flow to Chinese infrastructure state champions like State Grid and CNOOC.

This is the ‘devil’s bargain’ all parties have signed up for —  whether they say it or not. It’s also  more or less reasonable. It is China’s money.

Under a best-case scenario, the AIIB can foster broader technical standards, upgrade infrastructure, increase economic efficiency and combat climate change.

But other countries have more power over events at the AIIB than they might think. China needs this outward investment economic pressure valve  just as much as the rest of the world needs new infrastructure.

It’s upon this Chinese jugular the AIIB’s other members and her investment recipient countries can press. The result can be more equal bargain for the AIIB’s non-Chinese members.

This bargain can be achieved by applying China’s own economic playbook .

This Chinese playbook has included requiring foreign companies to invest in China through joint ventures, limited minority stakes in Chinese companies and by requirements to transfer intellectual property.

Now that China wants to engage in outward investment through the AIIB these rules can and should be applied in reverse.

Chinese state champions like State Grid building AIIB-funded infrastructure in other countries should be limited to holding only minority stakes in joint ventures with local partners to which China’s advanced intellectual property is transferred.

In large part, this is how State Grid’s 2007 contract to upgrade the Philippine grid is structured.

Other requirements could include requiring companies like State Grid and CNOOC tendering for AIIB projects to be majority privately owned. This is important for probity’s sake.

If China’s the main shareholder in the AIIB and most of the contracts flow to Chinese state-controlled state champions — the appearance of conflicts of interest and self-dealing between the China-led AIIB and China’s state-controlled companies will be impossible to escape.

Given this, increased privatization of State Grid and CNOOC (among others) should be a requirement of tendering. Otherwise, the AIIB will be viewed as merely massive ‘state aid’ funnel for incestuous Chinese investment.

Finally, AIIB contracts should require technology transfer as well and training and control of overseas infrastructure by local staff.

Having this requirement in place could have avoided  State Grid’s biggest kerfuffle to date: the Philippine government’s decision to expel Chinese technicians over inspecific worries of an electricity grid virus.

Given minority stakes, technology transfer and local control — these risks are eliminated.

In the cause of HVDC, technology transfer could include sharing China’s ‘smart grid’ expertise. This would assuage unease over viruses, grid vulnerability and Chinese back doors to overseas critical infrastructure in other countries.

Similar requirements could be placed on oil and gas drilling by CNOOC, for instance, with local control of infrastructure and sharing of all exploration data.

The creation of China’s AIIB represents an immense opportunity to solve a host of problems at once. If it adheres to global best practice everyone can gain. But if it acts merely as a funnel for Chinese Communist Part crony investments, the result could be disaster.