The Belt and Road myths and hopes

Xi Jinping’s ambitious plan can speed up Russian economy’s transition to a post-industrial model.

Alexey Chekunkov, CEO, Far East and Baikal Region Development Fund.

Soon, in May, the heads of 20 states will meet in Beijing for the One Belt-One Road summit. Politicians, businesspeople, and diplomats from different countries have been saying these four words like a mantra over the past three years. In China, the expression "i tai i lu" (一路 一路) has started something close to a miniature religion. It was the most used phrase by China’s main newspaper Renmin Ribao in 2016. In his annual address to the Parliament, Leung Chun-ying, Chief Executive of Hong Kong, said it 48 times, which resulted in excitement of the Hong Kong residents, not yet accustomed to crisp slogans coming from the mainland. What is the Belt and Road project, why does China need it, what does it mean for the world and, most importantly, what opportunities does it present for Russia?

Chinese President Xi Jinping first mentioned the outlines of the Belt and Road project in the fall of 2013 and invited the international community to join China in its ambitious Beijing-to-Lisbon infrastructure renovation program. Notably, China used the word “belt” to refer to the ground routes connecting China to Europe, and “road” to denote sea routes. A pragmatic observer could come to a conclusion that China simply used one term to combine the efforts designed to promote the interests of its construction, energy, and financial companies in Eurasia.

China’s motivation is noteworthy. Throughout 5,000 years of its history, the Middle Kingdom focused on domestic affairs and interacted with the outside world exclusively on as-needed basis. However, the circumstances have changed dramatically over the past 30 years with China becoming a “global factory” accounting for 25% of the global industrial output and 14% of global exports and the world’s top buyer of commodities. Also, China has accumulated the world’s largest financial capital with its banking system assets amounting to a whopping $33 trillion, which is two times higher than that of the United States, and 25 times higher than that of Russia. The largest in the history of humankind construction project went hand in hand with the Chinese economic miracle. In 2016 alone, the investment in fixed assets in China amounted to $9 trillion. Rapid growth invariably leads to distortions. According to the Oxford Business School, the amount of debt accumulated due to the rising costs of the infrastructure projects reached $10 trillion. The economic viability of the newly created infrastructure was often disappointing: traffic on two out of three toll roads was 41% lower than anticipated. There are signs that the Chinese infrastructure boom has peaked out. The country needs to digest what has already been built and to stop unwinding the loan spiral. However, a decline in domestic investment will unavoidably affect business activities. The companies will find it difficult to not only service their debt, but to pay wages as well: the social balance of 1.4 billion people is at stake. It is imperative to relocate excess production forces abroad. The money for doing that is there, which is a good thing.

China took to implementing the proclaimed course in an orderly manner and on a grand scale. The new institutions, the Asian Infrastructure Investment Bank ($100 billion, 57 member countries), the New Development Bank (aka the BRICS Bank, $50 billion), and the Silk Road Fund ($40 billion), are the Belt and Road vanguards. These forces have arrived to the already ploughed field: over the past eight years alone, the China Development Bank and Exim Bank of China have financed transactions worth over $800 billion worldwide as they provided financial support to foreign trade, energy, and construction projects operated by the Chinese, usually state-owned, companies. Construction megaprojects were launched, such as the New Cairo ($45 billion), the Trans-Kenyan Railway ($14 billion) and Moscow-Kazan High-Speed Railway ($16 billion).

Chinese companies acquiring foreign businesses deserve separate mention. In 2016, China spent $247 billion on acquisitions, which is 4.5 times more than in 2013. Reliance on template solutions is specific to Chinese mentality. In China, it is critical to identify and test a working template that can later be used multiple times. The manyfold increase in foreign acquisitions can be accounted for by the success of the first several landmark transactions, such as acquisition by the Hong Kong-based Lenovo of IBM’s personal computer division for $1.8 billion in 2005. Since then, many iconic national manufacturers have ended up in the hands of Chinese owners, such as Swedish Volvo, Italian Pirelli, Waldorf Astoria New York Hotel, and the Swiss chemical concern Syngenta that was acquired by ChemChina for $44 billion.

How do the affected countries react to the march of the Chinese capital, this time under the banner of the Belt and Road? In his speech at the international Boao Forum for Asia, former French Prime Minister Jean-Pierre Raffarin said, “The Belt and Road is the largest integration project since World War II. It’s more than just about economic growth. This project is about preserving peace. It includes humanitarian, cultural, and political ties.” Three billionaires from Southeast Asia discuss the Belt and Road in favourable terms – in Chinese. This serves as a reminder that ethnic Chinese represent business elites of Indonesia, Malaysia, Thailand, and, of course, Singapore. The ASEAN region with a population of 625 million people is the world’s fourth largest economy and the primary (and the most attainable) goal of China’s foreign investment effort.

I deliberately refrain from analysing the Belt and Road geography. Numerous infographics show meandering lines and corridors connecting China with Europe, which quite fancifully dart through Australia, Kenya, Finland, and Moscow. Clearly, the Belt and Road are not limited to 60 countries listed in Wikipedia, or even the Eastern Hemisphere. The Minister of Economy of Portugal enthuses about the role of his country as the outpost of the Belt and Road in the Atlantic, and then goes on to discuss Sino-Portuguese investments in Portuguese-speaking Brazil, Angola, and Mozambique, thus including Latin America and southern Africa into the scope of this project. Of course, it would be naive to presume that such an initiative may have left the United States uninvolved. The protectionist rhetoric of the new US President Donald Trump helped the Belt and Road project go from a catchy slogan to Xi Jinping’s main foreign policy doctrine. In his memorable speech in Davos in January 2017, the Chinese leader spoke in favour of globalisation and freedom of international trade. For the first time in history, China has tried on a role of a global leader who has a strong opinion on the fundamental issue of the world order. Assuming that the Celestial Empire is just defending its interests would be a short-sighted approach: China buys $1.6 trillion worth of goods and services from other countries in a matter of one year. The China-driven demand has created millions of jobs around the world and determines the price for the key items of Russian exports. Should the Chinese economy stumble, the global economy will suffer a severe shock.

Some people believe that Russia is nothing more than an artificial appendage to the Belt and Road project that became part of it thanks to good personal relations between President Putin and President Xi. Indeed, Russia was conspicuously absent on the maps during the early stages of the project. It accounts for only 1.8% of China’s foreign trade. For Russia, though, China is a major trading partner accounting for 14% of its foreign trade (Russia-China trade amounted to $66 billion in 2016, and both countries want to bring it to $200 billion). Russia and China have common interests in the sphere of security, international relations, and cross-border cooperation (the land border between our countries is 4,200 km long). However, trade and investment areas are still plagued by objective and psychological barriers. Russia is reluctant to see its role reduced to a raw material supplier and keeps its friends from the Middle Kingdom at bay not letting them near its natural reserves, whereas China, in turn, does not make any efforts to debunk the stereotype about its businesses’ arrogant behaviour in foreign countries. Despite the optimistic rhetoric of diplomats about “comprehensive partnership and strategic interaction,” a large number of joint ventures are treading water.

The economies of Russia and China share an important similarity. Both countries have a special place in the global economy due to their abundant resources of raw materials in Russia and labour in China. However, the outlines of the future are becoming ever more discernible, where oil will be replaced by electricity, composites will take the place of steel, mass production will give way to customised 3D printing, and data will be shipped instead of containers. Technological advances will render useless both Russian minerals and thousands of Chinese factories. China is serious about history, and remembers well how the country was late with modernising its economy during the industrial revolution, which led to two centuries of decline and turmoil. Therefore, the true purpose of the Belt and Road is not just about exporting surplus productive forces, but strengthening China’s position in the global economy in the post-industrial era. This is what Russia should be mindful of when building its own policy in relation to the Belt and Road. When it comes to joint projects with China, many people in Russia are concerned that its contractor companies that look and sound like regular army formations (e.g. Shandong Energy Construction Company No. 5) will follow in the wake of the Chinese capital. However, they are nothing but foot soldiers, the troops of the economy of the past. The avant-garde forces include Alibaba (e-commerce), Huawei (telecommunication equipment), Haier (home appliances) and other world-class companies with advanced technologies and powerful brands. They take over markets even without tied loans. Keeping the Chinese away from Gazprom construction sites may be easy, but doing the same with regard to consumers’ wallets will be a tad more difficult. Take, for instance, AliExpress (an e-store operated by Alibaba) that came to Russia in 2012 and is already selling $2 billion worth of goods to the Russian consumers annually. The market capitalisation of Alibaba has reached $265 billion. To put this in perspective, Yandex, the leader of the Russian online business, is worth $7 billion, and the capitalisation of all the companies on the Moscow Stock Exchange amounts to $450 billion. Just like all other countries, Russia needs to brace itself not only for Alibaba, but for many other Chinese companies as well that are tripling their efforts in an attempt to expand beyond China, following Xi Jinping’s call to follow the Belt and Road route. The “incantation messages” are very powerful in China. Just think of Deng Xiaoping’s “to grow rich is good” or “it doesn’t matter whether the cat is black or white, as long as it catches mice.” The Belt and Road project will go beyond the scope of the plans approved by the Politburo and will manifest itself in the ever-growing desire of China’s businesses to foray into new markets and make investments abroad.

So, the Belt and Road project has created a new powerful gravitational field in the global economy and politics with re-aligned forces in the international arena, trillions of dollars in potential investments, and looming fierce competition. Russia must decide on its strategy and approaches as it is about to face the Chinese way of globalisation. I believe that Russia’s policy with regard to the Belt and Road should include the following seven components.

1. Develop a thorough understanding of own strengths and weaknesses and identify priority investment sectors. To be able to implement continental projects Russia should think about recreating a modern version of the State Planning Committee – a duly qualified project office that would describe the state of the Russian economy in terms of SWOT analysis and use this analysis to suggest a list of “low-hanging fruit,” namely, investment facilities that will benefit from local advantages and create the maximum possible amount of added value. Such work must be done even notwithstanding the Belt and Road initiative. However, this initiative will make it possible to attract considerable amount of capital and speed up the implementation of such projects. 2. Smart interaction, rather than the all-out defence. The example of rapid growth of AliExpress sales, with the Russian online stores getting outraged and demanding protection from the state (by imposing taxes on the intruder), reveals the unity and the conflict of the market forces, as well as protectionism that will inevitably exacerbate as the Belt and Road project progresses. In case of AliExpress, the state could initiate talks with the multi-billion dollar Alibaba Group about making investments in Russia, incorporating a Russian subsidiary, or engaging in other positive interactions that would contribute to Russia’s prosperity, rather than reduce the purchasing power of the Russian consumers. It is imperative to provide foreign, including Chinese, investors with transparent rules, which should clearly state that the Russian market is not a milk cow, but needs investments, in which case the state will make every effort to ensure that the investors earn a steady revenue over the long term. It is important to keep in mind that template projects serve as benchmarks for those who will follow the trailblazers. The first few projects in respective industries, geographic locations, etc. should enjoy personal attention of the authorities. The recent meetings between Deputy Prime Minister Yury Trutnev and Chinese entrepreneurs in the Russian Far East impressed Chinese investors, as they were in line with the Confucian model, where a wise leader takes on and resolves issues.

3. Provide Russia with enhanced access to financial markets in Asia. The Russian economy has been plagued by underinvestment for quite a while. Over the past 20 years, the share of investments in GDP amounted to about 20%, while in China it exceeded 45%. There is a direct correlation between the economic growth rates and the amount of investment in GDP. To be able to invest 30% of its GDP during the next 10 years, Russia needs to have additional $1.5 trillion available, which is more than the assets of the entire banking system of this country. Russia’s financial market is shallow: with the population and GDP standing at about 2% of the global figures, Russia accounts for mere 0.6% of the international stock market and 0.3% of the bond market. The capitalisation of the Chinese stock market is 25 times higher at $11 trillion. Also, business assessment ratios on Asian stock exchanges are higher than in Russia. One billion in profit in Russia is worth 8–10 billion on the international market, and 15–20 billion in China. Mineral reserves and future cash flows, to name a few, have similar estimates. It makes economic sense to suggest that China list the shares of the key Belt and Road projects on its stock exchanges. This will open the door for Asian investors to new lucrative projects, and Russia will thus receive significant financial resources as a down payment.

4. Launch a massive program for upgrading the transcontinental logistics infrastructure. Russia is a vast country with low population density. Our transport infrastructure relies on the technologies dating back to the 19th century, such as railways and internal combustion engines. Developing the 21st century logistics with the use of computer and drone technologies, as well as new sources of locomotion (LNG, electricity or maglev), should become a national priority. Russia will decide on technical solutions and routes that work best for domestic transportation with account taken of the trans-Eurasian routes, and come up with joint Russia-China investment proposals for thoroughly thought-out projects. The first $10 billion for launching pilot projects will need to be invested by ourselves in order to attract another $100 billion, which will be used to deploy a network on the Belt and Road’s financial markets. 5.  Act fast enough to be able to capitalise on the country’s resource heritage. A veteran geologist in Magadan had the following to say about the innovation-driven development, “we all really want this. However, leaving in the ground everything that several generations of prospectors have discovered would be a crime with regard to the people who live here.” The markets for many metals and hydrocarbons are scheduled to decline in the next 20 to 30 years. This is less than the life of one deposit. Many deposits with poetic names will remain forever buried in the ground. Nonetheless, the discovered deposits remain valuable assets, and they need to be developed. The practice of Norway, Alaska, and even Middle Eastern monarchies is also applicable to Russia: it is imperative to maximise today’s mineral rent in order to ensure the prosperity of future generations in a changing world. As mentioned above, it is possible to use the financial market tools, such as allowing foreign companies to have simplified access to mineral deposits provided their shares get listed on leading exchanges and letting Russia have a 20-percent block of shares, for example. Having the state as a partner is not a liability, but a privilege for the investors. Thanks to state participation, the premium to market capitalisation more than compensates for the 20% that it will share with the budget. After all, those who buy shares will see the state as a partner who is also interested in seeing the market capitalisation grow. In addition, it is advisable to establish requirements regarding the depth of processing of the output setting it at three refining processes at least. This will encourage the creation of new industrial clusters in metallurgy, chemistry and other industries that are tied in with the general areas of Russia’s industrial policy and designed to promote import substitution and increase the amount of added value created in the country.

  6. The state must share the risks with private capital. According to Eli Groner, the head of the Israeli prime minister’s office and the chairman of the Israeli-Chinese Council, the PPP projects are extremely complicated, and they failed to work for a long time even for Israel. Proper risk sharing between the state and the businesses takes skills, patience, and even courage on both sides. The prequalification of private partners and financial institutions with which the state is willing to share the financial risk in the form of joint investment or state guarantees could be a solution. If major companies of international standing invest their money in the consortium, they risk not only their capital, but also reputation, which is the best insurance for state participation. The prestige is another factor of state participation. Keep in mind the phenomenal popularity of Putin in China (perhaps, the Russian president is the second most popular figure in China after Xi Jinping). The key Belt and Road projects being overseen at the level of the leaders will speed up the investment process.

7. To increase investments in human capital and post-industrial development sectors. If the Soviet Union had a stock market in the late 1950s, its capitalisation would have doubled after the launch of the satellite in 1957, and investors from around the world have rushed to invest in the Soviet projects. The prestige of the country and the investors’ appetite are determined by its best people and technological advances. Just like the atom, outer space and ballet were the crown jewels of the Soviet Union in the eyes of the international community, and it is now time for Russia to focus on creating new legends, such as quantum computers, artificial intelligence, robotics, genetic engineering, and other breakthrough technologies. Like exclusive university communities, the integration clubs of the 21st century expect their members to show similar interests and diligence in implementation thereof.

   The new global initiative promoted by Beijing has compelled tens of countries to look for recipes for stepping up their interaction with China with renewed enthusiasm. The Belt and Road is a two-way project. For Xi Jinping’s plan to become a new Marshall Plan, China needs to adopt the Coca-Cola approach: think globally, act locally.

Russia can gain significant benefits from participating in the Belt and Road if it approaches it pragmatically and focuses on its own long-term strategy for moving from a raw material economy to a post-industrial society. In this case, large-scale joint investments in infrastructure, logistics, production, and processing of natural resources will form, within the next 10 years, a financial foundation for developing human capital and creating innovative industries in Russia before the middle of the 21st century.

The Expert magazine