Southeast Asia is a region of imperfect institutions where many governments are struggling to rid themselves of reputations for endemic corruption and bad governance. The emergence of China as the region's most important trading partner could complicate the region's efforts to clean up its act.
The impact of Western investment has long been overwhelmingly significant. But that is starting to change. Over the past decade, China has become Southeast Asia's biggest trading partner and is an increasingly important target for investment, development aid and political support.
Chinese companies are seeking to build low-cost production bases, access markets, tap natural resources and win big infrastructure contracts. With investment flows come aid and other largesse as Beijing bids to widen its geopolitical clout.
No leadership in Southeast Asia will want to be seen losing out on such lucrative ties. The growing magnitude of these investments will shape the way that the region's governments, local authorities and companies behave. As with incoming Western investment decades ago, local officials will want to show that they can bring benefits to their populations. Some will inevitably fall prey to the temptation of lining their own pockets.
Economic relationships between China and Southeast Asia are not usually accompanied by demands for transparency and respect for the rule of law, and shared governance values are, at best, shallow. Southeast Asian governments and businesses perceive Chinese investors as more flexible than their Western counterparts in terms of how they do business, with fewer constraints imposed by regulatory authorities and public opinion as compared with Western institutions.
Cambodian Prime Minister Hun Sen has criticized Western donor agencies for their emphasis on governance, corruption and human rights, even going so far as challenging the U.S. last month to cut off all aid. Chinese investors and their government now vastly outspend their Western counterparts.
But while this approach may help China win more contracts and implement more investment projects in the near term, they may also generate substantial risks over the long term, both in the countries that receive Chinese money and for Beijing.
If Southeast Asian countries have easier access to unsupervised money flows, then corruption will likely worsen, and the risks of past economic and social problems recurring will increase, including environmental damage, heightened economic inequality, displacement of workers and purchases of inappropriate technology.
Such difficulties could, in turn, feed latent resentment of China in the region, as they already have done in some African countries targeted by Chinese investors.
There are signs of this in Southeast Asia. In northern Vietnam, the Haiphong Thermal Power Plant was built primarily by Chinese workers a decade ago. Locals resented the foregone work opportunities.
In the Philippines, Chinese telecommunications equipment maker ZTE became mired in a corruption scandal when a whistleblower accused local officials of trying to solicit bribes. This eventually led to the cancellation of the company's $329 million broadband network contract and the political weakening of then-president Gloria Macapagal-Arroyo.
In Cambodia, the Lower Sesan II Dam hydroelectric power plant was built using Chinese financing after the Asian Development Bank backed out because of forecasts of its negative environmental impact. Villagers whose homes were to be flooded protested against the dam until its flood gates closed in September.
The region is certainly replete with stories of how Western investment and development aid were mismanaged or entangled in corruption over the years, with terrible effects on governance and local communities. In a landmark case in the 1970s in the Philippines, resistance to the World Bank-funded Chico Dam galvanized tribes into armed revolt.
Even now, allegations of labor abuses plague Cambodian clothing factories and the fishing fleets which supply well-known Western consumer brands. A report by three activist groups in late November accused PepsiCo and Nestle of turning a blind eye to labor abuses at Indonesian palm oil plantations run by their local partner, Indofood Sukses Makmur.
Turning a corner
But Western lenders and investors have improved the ways in which they conduct business over time, moving away from contracts heavily weighted against developing countries or providing inadequate protection for vulnerable communities. Changes in behavior have included greater scrutiny of how investments and businesses affect local communities and the environment and efforts, as seen with the U.S. Foreign Corrupt Practices Act, to curtail bribe-paying. Sustainability has become a more important concern.
Globalization contributed to this improvement. The reach of Western regulators became increasingly global, while companies found that mismanagement in a developing country could quickly affect reputations at home. Smart executives were quick to respond. For example, Swedish clothing retailer Hennes & Mauritz has made changes to its supply chain, after reports of sweatshop conditions at suppliers' sewing plants in Cambodia and South Asia, and of child labor at factories in Myanmar.
Multilateral organizations have recognized the value of governance standards in their lending, from ensuring that local communities are protected to improving gender inclusivity. When they were slow to act they often faced Western public pressure, sometimes magnified by the power of the internet.
In China's case, if projects in Southeast Asia deliver benefits only to narrow groups of powerful people -- especially in countries where ethnic Chinese are perceived as holding a disproportionate share of wealth -- then resentment of China may grow. With growing nationalism and populism growing, the importance of spreading the gains from investment is even more important than before.
None of these problems are specific to Chinese investment, but the amount of money flowing from Beijing means that its approach to governance issues could have a disproportionate effect on the region. While China may find it difficult to implement governance reforms to prevent these problems by itself, there are some near-term fixes.
In providing development lending, it can partner more with regional and multilateral institutions such as the Asian Development Bank and the International Finance Corp. or even with institutions based in the 10-country Association of Southeast Asian Nations, to benefit from their long-standing experience of governance standards. Monitoring private investment is more difficult. But directing investment flows through Hong Kong or Singapore, where more advanced regulatory systems and risk professionals are available, may help.
Western countries and companies have learned to their cost that the burden of past misdemeanors can last for decades. China would do well to avoid taking on this baggage. Otherwise Beijing may find its own investments fomenting conflict and nationalism, generating anti-China animosity and damaging China's interests. In comparison with the U.S. or Europe, however, this animosity would be a lot closer to home.
Bob Herrera-Lim is Southeast Asia managing director of Teneo Intelligence, a political risk consultancy.