The China-led Asian Infrastructure Investment Bank with its 57 member countries aims to finance its first project early in 2016. The operational capital is likely to be raised by issuing unrated bonds, which means the debt will not be underwritten by any recognized financial institutions and will have to be bought "privately." While the AIIB's deputy chief, Chen Hun, was quoted as saying that South Korea will support the bond issuance, it is unprecedented that an international financial organization would come to market without a rating. In comparison, debt from the World Bank and the Asian Development Bank are investment grade, with triple-A ratings.
The AIIB was born out of China's frustration with the slow reform process of the International Monetary Fund and the World Bank but also with a legitimate goal of financing infrastructure, which Asia needs badly in order to reap its growth potential. Japan did not become a founding member even though China had offered the country the vice-governor seat at the bank. Japan had requested China provide clarifications on the governance structure and the lending standards of the bank, but did not get clear enough answers.
China says that the World Bank and the ADB are too bureaucratic and not effective in meeting Asia's huge infrastructure funding needs. It takes two to three years for the World Bank and the ADB to make a project assessment before distributing loans. Most of the time is spent on evaluating the effects on the environment, employment and people who live in the affected areas.
"The so-called best international standards are not Western ones. Do not confuse the two things," Jin Liqun, the president-designate of the AIIB, told Xinhua, China's state news agency, in November. "We need to learn merits from the West, but we also need to discard their demerits," he added.
After years of loose monetary policies in the U.S., Europe and Japan, the world is rampant with excess liquidity. Money is cheap and banks are looking for yields around the world. On the other hand, there are massive infrastructure funding needs in Asia, which seemingly offers a solution for lenders to tap into real growth.
Nevertheless, the common problem is that there are not enough bankable projects and where there are, they tend to be too risky. It is true that many Asian countries lack basic infrastructure such as power plants, railways, sea and airports, highways, clean water, to name a few, which should benefit and be available to everyone. For that reason, they need to be designed, planned and financed by governments. Private institutions do not finance projects if they cannot secure returns.
With overseas assets of around $500 billion more than the combined capital of the World Bank and the ADB, the Export-Import Bank of China and the China Development Bank have financed large projects in many countries with politically unstable and corrupt regimes, which Western investors have tended to avoid. The list of countries include Ecuador, Venezuela and Argentina, all of which defaulted on debts to the West, and other countries in Africa and the Middle East. China was the largest investor in five of the 10 riskiest countries in the world.
These countries welcome Chinese investments, which bring in immediate monetary as well as political benefits. But these loans come with strings attached, as Beijing expects the projects to be awarded to Chinese companies who will then bring in their own workers and know-how to construct the infrastructure.
By developing infrastructure, governments can deliver visible outcomes to its constituents. But while infrastructure spending boosts gross domestic product quickly, it is financed by debt, which can only be repaid when there are operational profits. The long life cycle of infrastructure projects and high maintenance costs means that it can take decades to generate profits.
By the end of 2015, two signs have been made clear that China will increase its clout within the established international order. First, the IMF decided in November to include China's yuan into its Special Drawing Rights basket of the currencies alongside the U.S. dollar, the euro, the Japanese yen and the British pound. The China's yuan weight in the basket will be 10.92% higher than the Japanese yen and the British pound.
Second, both the Republicans and Democrats finally announced an agreement on enacting long-awaited IMF reforms, which still need to be ratified by Congress. Within the IMF, the reforms still require 85% of votes from capital contributors. Under the reforms, China's voting share would increase from 3.8% to 6% while the U.S. would still preserve its veto power with its voting share at 16.5%, only down 0.2% from its pre-reform level.
While China is reshaping international norms and renegotiating international governance, Japan continues to resist being drawn into China's orbit of influence. Japan will continue to see its relative influence decline over years, and rightly so, if other economies are to become more prosperous. Moreover, the success of the AIIB and China's investments in general will not be judged by whether they comply with international norms and standards on the environment, human rights, or political regimes but whether they can facilitate economic growth and provide the necessary services.
Whether China gradually learns that following "Western best practices" is necessary to implement projects successfully or not, China will certainly do all that it can not to fail. Within this context, Japan should cooperate with China in developing and facilitating infrastructure development in Asia. While China's influence continues to grow, any Japanese contribution would be welcome by all in the region and it is not too late to do so.
Tomoo Kikuchi is a senior research fellow at the Centre on Asia and Globalisation, Lee Kuan Yew School of Public Policy, National University of Singapore.