China's Belt and Road Initiative energises construction activity globally

From 206 BCE to 220 CE, China’s Han dynasty fostered a booming trade industry for silk, a precious commodity in high demand among the elites of the Mediterranean. The Silk Road was the name given to the network of trade routes connecting the East and West at the time. Later, spices and other precious cargo would be traded using the system, fostering not only economic, but also cultural links between Asia and its contiguous continents. As such, the network became the information superhighway of its time as well, transmitting knowledge and expertise across distance and cultures.

Extremely rapid economic expansion in China in the four decades since former leader Deng Xiaoping’s revolutionary reforms in 1978 has seen the country once again emerge as a global economic powerhouse. It is the largest country by population and is on course to become the world’s biggest economy in dollar terms in the coming decades.

Global Vision

In recent times, China has flexed its diplomatic muscle across Asia and further afield. Upon assuming leadership in 2013, President Xi Jinping launched the Belt and Road Initiative (BRI) as a means to strategically expand China’s economic footprint and diplomatic leverage, as well as to facilitate the east-west trade on which it depends and boost its access to raw materials. In essence, the BRI is the Silk Road of the 21st century – a network of maritime (the “belt”) and terrestrial (the “road”) trade routes connecting its East Asian hinterland with Western Europe via South-east and Central Asia, the Middle East, Africa and Eastern Europe. In the Pacific, Latin America and Australasia have also been included in the trade network.

The BRI is multifaceted, but its cornerstone is the vast amount of Chinese investment in hard transport infrastructure across the network. As such, it is perhaps the most significant development within the global construction sector since the beginning of the 21st century, particularly in emerging markets where the initiative has a presence. The fact that a large majority of transportation construction contracts in developing economies have been won by Chinese firms has allowed them to scale up and become competitive at a global level with their Western counterparts. Indeed, projects often come with financing on attractive terms provided by China’s state-run banks, with the retention of a Chinese construction company as a precondition.

A study by Boston Consulting Group (BCG) noted that Chinese involvement is mostly concentrated in the financing and construction stages of infrastructure projects, and somewhat less intense in design, engineering and the supply of building materials. Infrastructure is typically transferred to local institutions or organisations following construction, although Chinese firms are also beginning to offer operation and maintenance contracts.

Sector Shifts

Breakneck economic growth in China has allowed for, and been facilitated by, enormous public investment in construction, particularly large-scale infrastructure. With some of the highest investment rates in the world in past decades, the country has at times fallen victim to over-investment. This has meant decreasing marginal returns on infrastructure projects in some cases, as well as overcapacity in the industrial sector, notably in cement and steel production.

In order to use this excess capacity productively, since the turn of the century Chinese firms have increasingly looked abroad, as Michael Taylor, chief credit officer for Asia Pacific of credit ratings agency Moody’s, explained to attendees of the 8th Caixin Summit in Beijing in November 2017. As such, Chinese companies have become a cost-competitive option for infrastructure investment in lower- and middle-income countries, while also developing increasingly sophisticated expertise in construction and civil engineering to be able to compete at a global level in terms of quality.

The BRI has had a significant impact on the global market for heavy building materials, with Chinese overproduction of cement leading to price pressures internationally. According to the “Global Cement Report” published in 2018, China’s overcapacity in cement production increased from 23% in 2010 to 42% in 2017. This poses challenges for domestic producers in BRI-recipient countries that import building materials from China, particularly in East Africa and South-east Asia. In a May 2018 article, BCG stated that the average price of cement in East Africa has fallen by 50% in recent years as a result. The group also documents the case of Laos, where China has built five new cement plants since 2015, despite considerable oversupply in South-east Asia. Meanwhile, Chinese exports of iron and steel amounted to $57.3bn in 2017, enough to see this rank among the country’s top-10 export categories.

Furthermore, the BRI is shaping the competitive landscape of the global construction and civil engineering sectors, accelerating some trends that began to emerge at the turn of the century. Budding Chinese players now have the scale, experience, sophistication and financial backing to compete with established rivals in the West as well as popular local providers. This competition is most fierce in emerging markets, where price pressures are particularly acute. Although Chinese actors provide stiff competition to local construction companies, the vast scale of BRI investment tends to minimise the disruption to the bottom line of the latter. At the same time, BRI works generate major new opportunities for local firms to partner with Chinese contractors, providing localised knowledge in exchange for specialised expertise and training.

By the Numbers

The BRI rounded out its first six years in 2019, by which time it had already grown to include 71 countries as of April – encompassing half of the world’s population – and is ultimately forecast to cost more than $1trn. However, while BCG stated in May 2018 that investment is expected to reach up to $700bn by 2021, a Chinese media article from April 2019 said Chinese foreign direct investment (FDI) in countries included in the BRI surpassed $90bn between 2013 and 2018. Roughly $15.7bn was spent in 2018 alone, equal to 13% of China’s outward FDI flows that year. Analysis by The New York Times shows that India, Russia and Indonesia are likely to be the three largest recipients of BRI investments over the 2017-21 period, while Nigeria, Iran, Egypt, South Africa and the Philippines are also expected to be among its top beneficiaries.

China has also established 113 economic and trade cooperation zones in BRI countries as of November 2018, to which some 302,000 local jobs have been attributed. As well as direct investment, Chinese financial institutions are providing tailored resources that enable BRI countries to pay for their own infrastructure upgrades. By the end of 2016, five of China’s state-run banks had extended $425bn in credits and loans for BRI projects, and the rate of lending remained robust in 2017 and 2018 as well.

Trade Costs

Significantly increasing the quantity and quality of transport infrastructure around the world can be expected to improve logistics, reduce journey times and lower trade costs. In an October 2018 research paper, the World Bank estimated that full implementation of the BRI could yield an average reduction in global shipment times of 1. 2-2.5%, with a consequent lowering of trade costs by 1.1-2.2%. Naturally, these gains are likely to be concentrated in the economies participating in the BRI, many of which are lower- and middle-income countries. The same study estimated that those nations located along corridors where BRI projects are being built could see shipment times reduced by up to 11.9% and trade costs lowered by up to 10.2%. These gains can be magnified if investment in hard infrastructure is accompanied by improvements in soft infrastructure that, for example, reduced paperwork and border delays.

Asia

It is hardly surprising that China’s neighbours and continental peers account for the majority of BRI investment. One of the single largest elements of the plan is the Pan-Asia Railway Network, which will upgrade and fill gaps in the existing rail networks of South-east Asia, eventually linking Kunming in southern China with Singapore along three axes: an eastern route via Vietnam, a central route through Laos and a western route across Myanmar. All three are to converge near Bangkok, Thailand before continuing south through Malaysia. While Chinese players are taking the lead, there are opportunities for local subcontractors, engineers, workers and material suppliers to benefit from the investment.

Speaking to OBG, Serge Pun, chairman of Yangon-based conglomerate Serge Pun & Associates, highlighted the potential win-win scenario arising from Myanmar’s participation in the pan-Asia railway. “Imagine having an efficient rail network operating in Myanmar and running from Myitkyina or Muse down to Yangon,” he said. “Yes, China will use it to export whatever they need to export through the Indian Ocean, but that will be secondary to Myanmar’s benefits from the network.”

In the energy space, in addition to the flagship 3666-km gas pipeline connecting Gedaim on the Turkmenistan-Uzbekistan border to Horgos at China’s border with Kazakhstan, the BRI entails multiple localised energy projects across Asia. This has given rise to many power plant construction opportunities with local partners, whether hydropower (as in Indonesia), coal-fired (as in Mongolia and Bangladesh) or nuclear (as in Pakistan). In turn, this new generation capacity necessitates ancillary infrastructure, such as electricity distribution systems.

Africa

In December 2015 King Mohammed VI of Morocco spoke at that year’s Forum on China-Africa Cooperation of the strategic role the initiative will play in strengthening European, Asian and African ties. Morocco became the first African country to officially become a member of the BRI, following the signing of a memorandum of understanding (MoU) with China in November 2017. That same year, it was announced that Chinese firms would be linchpin investors over the course of the next decade in the planned $10bn Mohammed VI Tangier Tech City, although the initial stages of the project have moved slower than hoped. Algeria, for its part, became a member of the BRI in September 2018, with the flagship project being the $3.3bn Port of El Hamdania, to be constructed over a seven-year period by two Chinese firms.

The strengthening economic relations between sub-Saharan Africa and China are also well documented. China has played a leading role in developing infrastructure across the continent for decades, and remains a crucial destination for African raw materials exports, while acting as a significant source of financing. Indeed, China accounts for over 70% of the external debt of Cameroon and Kenya, while the figure rises to 80% in the case of Djibouti. China even established its first military base on foreign territory in Djibouti in 2017, at the southern Red Sea gateway to the Suez Canal.

Notable projects include the 472-km Nairobi-Mombasa rail line in Kenya, and the 756-km electrified railway linking landlocked Ethiopia with Djibouti and its port infrastructure. These entered into service in mid-2017 and early 2018, respectively.

Latin America & the Caribbean

Although Central and South America and the Caribbean were not initially included within the scope of the BRI, this changed in early 2018 when Wang Yi, the foreign minister of China, invited countries to participate. China’s economic links with the region have greatly expanded over the past two decades, with many countries exporting raw materials to China and the latter investing in infrastructure projects before the conception of the BRI. High-profile examples of Chinese involvement include the Belgrano Cargas Railway in Argentina and the Central Bi-Oceanic Railway linking the Atlantic to the Pacific via Brazil and Peru. Chile, Bolivia, Panama, Trinidad and Tobago, and Antigua and Barbuda had all signed formal BRI cooperation agreements with China as of April 2019, with more expected to do so in the future.

The Gulf

While Iraq, Iran and Pakistan were regarded as pivotal to the BRI from the outset – and are expected to be core recipients of further investment – it was not clear in the early years that ambitions would extend to the Gulf, despite its location astride important shipping routes. As the size and scope of the BRI increased, however, the Gulf has become a significant region for the initiative.

Speaking at the Gateway Gulf Investor Forum in May 2018, Kamal bin Ahmed Mohammed, minister of transportation and telecommunications of Bahrain, highlighted the potential win-win outcome for China and the region by participating in the BRI. “We see a great opportunity for the GCC countries. The infrastructure already exists, we have the routes and the [trade] corridor available, it is a politically stable region with a resilient financial sector, and there are a lot of areas in which China and the GCC can benefit from each other,” he said.

One of the first major projects announced in the region came in 2016: the $10.7bn transformation of Duqm, a small fishing village in Oman, into a major port and transit-oriented industrial city. Located within the Duqm Special Economic Zone, this new “Sino-Oman Industrial City” is eventually expected to have an oil refinery and methanol plant, in addition to factories producing automobiles as well as oil, gas and solar energy equipment. That same year also saw China’s Cosco Shipping Ports selected for a 35-year concession to operate Khalifa Port Container Terminal 2 in Abu Dhabi. In December 2018 Cosco announced an investment of $200m to expand the terminal, having already invested some $300m in the facility and $130m in a nearby container freight station.

Furthermore, in November 2018 China signed a MoU to participate in the $86bn development of Kuwait’s new Silk City initiative. This 250-sq-km project is to be phased in over a 25-year period and is expected to ultimately house up to 700,000 people. It will be linked to Kuwait City by the Sheikh Jaber Al Ahmad Al Sabah Causeway, which was under construction as of early 2019 and is forecast to be the world’s fourth-longest bridge upon completion.

Potential Over-Indebtness

One concern that has been raised about the BRI is the possibility of lower-income countries contracting infrastructure projects that considerably increase their debt burden without having the capacity to repay loans. Moreover, China has been criticised for requiring that public assets be pledged as collateral in the event of non-payment. One highly publicised example is that of Sri Lanka, which in December 2017 transferred control of the new Chinese-built Hambantota Port to a Chinese state-run port operator on a 99-year lease after it could not make repayments.

Countries considered by the non-profit Centre for Global Development to be particularly at risk of not being able to service their debts as a result of the BRI include Djibouti, Kyrgyzstan, Laos, the Maldives, Mongolia, Montenegro, Pakistan and Tajikistan. Even before the launch of the BRI, China wrote off an undisclosed amount of debt owed by Tajikistan in exchange for 1158 sq km of disputed border land.

Tools of the Trade

The rollout of the BRI highlights the dual role of Chinese FDI as both an economic proposition and a tool of diplomacy. Beyond construction and financing, government-backed firms have also begun offering contracts to operate and maintain new infrastructure, a trend that has raised concerns about China’s lingering influence in BRI-recipient countries and the resulting lack of skills transfer and local job creation. How China handles debt defaults will also be watched closely by the international community going forward.