Asian Infrastructure Investment Bank (AIIB) Formation

China’s formation of the Asian Infrastructure Investment Bank (AIIB) in 2015IntroductionSince Xi Jinpingcame into office in November 2012, China became more active and assertive inpursuing a greater role in global economic governance[1].It is reflected from two initiatives of the Belt and Road (BRI), and AsianInfrastructure Investment Bank (AIIB) unveiled by Xi during his visit toIndonesia in 2013[2]. The AIIBfunctions complementary to existing multilateral and bilateral financialinstitutions, aims to fill up the infrastructure development gap in Asia region[3].The AIIB was launched in early 2016 with initial capital stock of $US 100billion, of which almost $US 30 billion was contributed by China. Undoubtedly,China as the largest shareholder holds 29.8 percent of voting power[4].The number of approved members by now is 87, including both regional andnon-regional nations[5].The policy of establishing the first China-led multilateral development bank(MDB) was controversial. On the one hand, critiques have been made on AIIBbeing driven by China’s self-interests in resolving its own economic problemssuch as overcapacity, and advancing its political influence by undermining theUS hegemony. On the other hand, the infrastructure gap, particularly in Asia,is huge and desperately in need of a specialized MDB like AIIB to fund its development,which makes the formation of AIIB reasonable and welcomed. This essayattempts to give an understanding of driving forces of the formation of AIIB,by focusing on how policymakers arrived at the decision of establishing theAIIB. It will first evaluate how policymakers presented the establishment ofAIIB, in terms of a strategy adjustment shift involved that drove AIIBunderwent an evolution. Then it looks at how the formation of AIIB furthersChina’s national interests, from economic, geo-economic and political aspects.Furthermore, it will looks into an alternative strategy policymakers haveconsidered that did not fit into Xi’s policy approach as good as forming AIIB.Lastly, it outlines two main successes of AIIB initiative. This analysis willconclude that, the formation of AIIB can potentially promote ‘win-win’cooperation.  How did policymakers define or represent the situation? The AIIB was bornout of two motivations, one is to “foster sustainable economic development, createwealth and improve infrastructure connectivity in Asia by investing ininfrastructure and other productive sectors”; another is, as a regionalinstitution, to “promote regional cooperation and partnership in addressingdevelopment challenge by working in close collaboration with other multilateraland bilateral development institutions”[6].In 2015, ConsulGeneral of China, Liu Kan has highlighted the need of infrastructure investmentin Asia[7].According to a report done by ADB in 2009, from 2010 to 2020, to follow up theexpected economic growth, the demand of infrastructure investment in Asiaregion was about $US 8 trillion, with additional $US 290 billion needed inspecific regional infrastructure projects[8].This massive challenge overburdens existing MDBs due to their incapability[9]and inefficiency of management. Existing MDBs have been criticized for theirslow process and bureaucracy[10].It is pointed out, it takes up to seven years for ADB to go through theprocesses of approval on a project[11].Also, existing financial institutions that are within Bretton Woods System(BW), have been criticized for being propellent of neo-liberal ideologies byattaching conditionalities on loans, such as deregulation and liberalization,that were ineffective, or even deteriorated the economy of recipient countries[12].With the absence of specialized financial institution focuses solely oninfrastructure, Xi Jinping says that the AIIB responses to this need of infrastructureinvestment, and complements other MDBs to promote regional development[13].However, the AIIBagenda has underwent an evolution, from setting up an “formallyChinese-controlled bank” to “internationally-legitimate bank”[14].When AIIB initiative was firstly announced in 2013 by Xi Jinping, it wasclosely linked with BRI and assigned a minor role as to support the BRI[15].Later in late 2014, Xi explicitly said the AIIB “is aimed at providingfinancial support for infrastructure development in countries along the ‘OneBelt, One Road’ and promoting economic cooperation”[16].However, in 2016, Xi Jinping spoke again of AIIB with shifted direction, bysaying “We would finance infrastructure projects in all emerging marketeconomies even though they don’t belong to the Belt and Road Initiative”, heclarified the AIIB was not created solely for BRI, contrary to his speechbefore 2016[17].Scholars have given analysis to this shifted attitude as a reveal of anevolution of AIIB strategy. One of the reasons being considered was the surprisingnumbers of countries applied to join from early 2015[18],including some major developed nations[19].By accepting non-regional members that increased international legitimacy ofthe AIIB, China’s share decreased from 50 percent as it initially set to be, to29.8 percent at it is now[20].Another plausible reason was the criticisms widely made on AIIB for being an“counter-hegemonic” institution to challenge US hegemony and shape the currentworld order[21]. Policymakersthus adopted flexible approach on AIIB, allowed it to align with the existingnorms, by publicly stating it had no intention to challenge, but to work withthe US and supplement existing MDBs in infrastructure development[22].Furthermore, China has assured investors the bank “was not a politicalalliance”, and China would not interfere in the political affairs of memberstates[23].How did policymakers perceive the situation as potentially beneficial or potentially threatening to their interests?The policymakersperceive the formation of AIIB as potentially beneficial to their interests,primarily in the area of economic, but also geo-economics and politicalinfluence. Firstly, in theeconomic aspect, the policymakers emphasized the promotion of “win-wincooperation” and enhancement of regional connectivity through supportinginfrastructure development in the Asia region[24].It is beneficial for loan recipient countries, no doubt, but what for China?Scholars have pointed out that, one of the core problems of Chinese economy isovercapacity and overinvestment in industry and construction, which hasaccompanied with decline with marginal return of domestic investment since 2000[25].He Yafei, vice minister of the Overseas Chinese Affairs Office of the StateCouncil, has advocated for exporting capacity overseas to relieve domesticovercapacity problem, at the same time prosper overseas infrastructuredevelopment[26]. Also,this measure can alleviate China’s massive currency reserves by investingoverseas[27]. Onthe other hand, AIIB can tap the potential for China’s substantial economicgrowth. The reality of China’s neighbour countries is most of them are lessdeveloped countries that cannot meet China’s needs of reginal market.Facilitating infrastructure development in the region expands both China’sexport and import markets[28].In addition, scholars have pointed out that AIIB can facilitateinternationalization of Chinese RMB in long term[29].Secondly, theformation of AIIB has geo-economics considerations of securing territorialsecurity, and increasing regional and global political influence.Firstly,historical evidences suggest one possible role of AIIB is to defend China’sborder security by forming geo-economic alliances[30].One example is over the territorial dispute in South China Sea, China provided$US 24 billion of investment in exchange of Philippine’s reconciliatory policyin 2016[31].By looking at the projects AIIB have financed so far, India appeared to be thelargest recipient regardless the tension it had with China over the DoklamPlateau[32].Former Indian Foreign secretary Jaishankar responded positively to AIIB,“connectivity should diffuse national rivalries, not add to regional tensions”[33].Apart from pure economic consideration, it is argued that it is one of China’sgeo-economic strategy to secure its border security, by have common interestswith countries where are unfriendly toward China’s growing influence[34].Thirdly, AIIB canbe conceived as an instrument to advance China’s external legitimacy in Asiaregion, and beyond. AIIB is established as a regional institution, which haspreferential governance structure over regional members[35],and attaches fewer strings on its loans compared to existing MDBs[36].It is argued that, by providing an alternative institution to existing MDBs,China is expected to foster its regional leadership by building asymmetricinterdependence with recipient states and diminish the US political influencein the region[37]. Onthe other hand, China has been seeking greater say for years in global economicgovernance. It was widely recognized that China was frustrated by slow quotareforms in IMF and World Bank[38].And the launch of China’s own MDB was a response to the hindrance from the USand to seek a role that better reflects China’s economic power[39].What possible alternatives did policymakers consider, or fail to consider, that might have been taken into account?Despite themotivation behind the formation of AIIB was multifaced, economists have centredon China’s industrial overcapacity being one major rational, which seriouslythreatened China’s economy[40].One possible alternative policymakers considered was structural reform ofdomestic market[41]. Oneof the reasons led to overcapacity was the vicious competition in China’sindustrial market, which was dominated by state-owned banks and enterprises[42].The fact that bigger firms would be protected by government and thus enjoyfavourable terms on bank loans, encouraged industrial firms to focus onaggressive expansion instead of innovation or profitability[43].Economists have suggested Chinese government to foster free market competitionin industrial sector, let the market to decide resource allocation, and reducegovernment intervention to allow over-leveraged companies free fall[44].And Xi Jinping has responded that China would accelerate internal financialstructural reform towards market-orientation[45],which is reflected from the reinforcement of capacity cut in China last year[46].But very recently, he also showed his strong support for SOEs which is thebackbone of China’s economy[47].Therefore, AIIB fits better into Xi’s priority over state-led centred policyapproach, which might downgrade the attentionon domestic market reform, and thus ineffective[48].What were the main successes and/or failures of the policy?One main successAIIB has achieved so far is the positive response it received globally, whichis reflected on the triple A ratings it received from global credit ratingagencies, including S&P, Moody’s and Fitch[49].The credibility AIIB obtained should give credit to its efficient governancestructure, of which its innovation of non-resident board improves theefficiency of operation and management[50].It is pointed out that resident board is one of the causes led existing MDBsand IFIs inefficient and bureaucratic[51].While the AIIB, by having non-resident board, can deliver more efficientdecision-making, and at the same time being economical in reallocating thecosts on having resident boards to areas where the money is more needed[52].On the other hand, AIIB adopted a cautious approach in its early stage ofdevelopment to obtain credibility. There are two notable things can be foundedin AIIB’s projects, one is that majority was co-financed with existing MDBs[53];another is that it has estimated total lending of $US 5.2 billion by September2018, which falls short of the expectation AIIB had – it initially planned tolend $US 10-15 billion a year for first five to six years[54].Scholars have argued that working with other MBDs is a shortcut for AIIB tobuild up its investment portfolio by following, and at the same time learningfrom existing lending standards[55].And the unexpected number of lending amount reflected AIIB’s caution inchoosing projects, since investment in infrastructure projects is long term andoften accompanied with low interest rates but high risks of default,considering most loan recipient countries exist social and economic instability[56].And the credibility AIIB obtained showed its effectiveness in governance andbusiness strategy. ConclusionTo conclude, themotivation behind formation of AIIB was primary economic, aimed to promote‘win-win cooperation’. By providing investment to countries whereinfrastructure development is most needed, China make gains from theenhancement of regional integration, especially in resolving its own economic problem,expanding import and export markets, and increasing regional influence, orpotentially expand its role in global economic governance. No doubt, it doeshave the potential to contribute to regional development and public goods. Nevertheless,AIIB is still at early stage of development, and it is too early to tell itsrole in world economic governance. BibliographyPrimary sourcesXi Jinping, ‘Speech by Chinese President Xi Jinping to Indonesian Parliament’, Speech, Jakarta, 02 October 2013. 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See Ren, Xiao. “China as an Institution-builder: The Case ofthe AIIB.” The Pacific Review 29, no. 3 (2016): 435.[2] Xi Jinping, ‘Speech by Chinese President Xi Jinping to IndonesianParliament’, Speech, Jakarta, 02 October 2013. ASEAN-China Centre. http://www.asean-china-center.org/english/2013-10/03/c_133062675.htm[3] Articles of Agreement – AIIB, 25 Dec 2015, Article 1. [4] Ibid, Schedule A. [5] Ibid.[6] Articles of Agreement – AIIB, Article 1 (1). [7] Ministry of Foreign Affairs, AIIB:A Successful Practice of Major-Country Diplomacy with Chinese Characteristics (ChineseEmbassy in Lagos, 07 May 2015).[8] Asian Development Bank, “InfrastructureSeamless Asia”, 2009: 10, https://www.adb.org/sites/default/files/publication/159348/adbi-infrastructure-seamless-asia.pdf;A more recent number provided by world bank in 2015, pointed out the developingcountries were in need of about $US 1 trillion per annual to fill up the infrastructuregap. See World Bank, “Global Infrastructure Facility”, 2015. http://www.worldbank.org/en/programs/global-Infrastructure-facility[9] Jim Yong Kim, World Bank President speaks of such burden isimpossible for World Bank, or any other institutions to carry alone. Not tomention the ADB which was only capable of financing $US 13 billion a year. SeeMehmet Hecan “Dynamics ofInstitutional Proliferation in Financing for Development: The Birth of theAIIB.” Development 59, no.1-2, 161.[10] It made most developing countries to leave out the option of usingexisting MDBs to fund their infrastructure development. See David Dollar,“Lessons for the AIIB from the experience of the World Bank”. Brookings,27 April 2015, https://www.brookings.edu/articles/china-on-the-global-stage/[11] Mehmet Hecan, “Dynamicsof Institutional Proliferation in Financing for Development: The Birth of theAIIB.” 161-162.[12] For example, IMF’s SAP has been blamed forpoverty in developing countries, see Anup Shah, ‘Structural Adjustment – amajor cause of poverty’, 24 March 2014, Global Issues,http://www.globalissues.org/article/3/structural-adjustment-a-major-cause-of-poverty[13] Xi Jinping, “Full Transcript: Interview with Chinese President XiJinping”. 22 September 2015, Interview, The Wall Street Journal.https://www.wsj.com/articles/full-transcript-interview-with-chinese-president-xi-jinping-1442894700[14] Jeffery Wilson, “The evolution of China’sAsian Infrastructure Investment Bank: From a revisionist to status-seekingagenda”. 25 September 2017,  International Relations of the Asia-Pacific, eux289: 12. https://doi.org/10.1093/irap/lcx015[15] Xi Jinping, ‘Speech by Chinese President Xi Jinping to IndonesianParliament’, Speech, Jakarta, 02 October 2013. ASEAN-China Centre.http://www.asean-china-center.org/english/2013-10/03/c_133062675.htm[16] Quoted in Yun Sun, “China and the Evolving Asian InfrastructureInvestment Bank,” in Daniel Bob, ed. Asian Infrastructure Investment Bank:China as Responsible Stakeholder, Sasakawa USA, 2015. ; thisposition stood still until 2015, when Xi addressed AIIB again as facilitator ofthe BRI. See Mu Xuequan ‘Xi stresses implementing central economic policies’, Xinhua, 10 February, 2015,http://www.xinhuanet.com/english/china/2015-02/10/c_127481077.htm[17] Zhong Nan and Cai Xiao, “AIIB Leas support for Belt and RoadInfrastructure Projects,” China Daily, June 8, 2016, http://europe.chinadaily.com.cn/business/2016-06/08/content_25645174.htm[18] YuanJingdong. “Beijing’s Institutional-balancing Strategies: Rationales,Implementation and Efficacy.” AustralianJournal of International Affairs 72, no. 2 (2018): 118[19] Such as the United Kingdom, Germany and Russia. [20] China initially was to contribute about $US 50 millions of initialcapital stock, which would make the AIIB truly Chinese-controlled bank. SeeGabriel Dominguez, ‘A look at the China-led Asian Infrastructure InvestmentBank’, Deutsche Welle, 09 July 2017.https://www.dw.com/en/a-look-at-the-china-led-asian-infrastructure-investment-bank/a-18541209[21] See for example, Ely Ratner, ‘Making Bank:Why China’s new infrastructure bank represents a challenge to the globalorder.’ Foreign Policy, 23 October 2014,https://foreignpolicy.com/2014/10/23/making-bank/; Cary Huang, ‘China-led Asianbank challenges US dominance of global economy’, South China Morning Post, April 27, 2015,https://www.scmp.com/news/china/economy/article/1763525/china-led-asian-bank-challenges-us-dominance-global-economy;Paola Subacchi, ‘The AIIB is a Threat to Global Economic Governance’, ForeignPolicy, 31 March, 2015, https://foreignpolicy.com/2015/03/31/the-aiib-is-a-threat-to-global-economic-governance-china/[22] Hong Lei, ‘Speech atHumphrey School of Public Affairs’, (Speech, Chinese Consulate General inChicago, 8 February 2016), Ministry of Affairs.[23] Articles of Agreement – AIIB, 25 Dec 2015, Article 31(2); Chinaeven publicly declared it would not use its veto power, despite being thelargest shareholder. See Izumi Nakagawa and Manoj Kumar, ‘China’s influenceover AIIB a concern ahead of founders’ meeting’, Reuters, 13 April, 2015, https://in.reuters.com/article/asia-aiib-shareholding/chinas-influence-over-aiib-a-concern-ahead-of-founders-meeting-idINKBN0N40T620150413[24] The concept of “win-win cooperation” has been presented by Chinesepolicymakers in accordance with the philosophy of the bank of inclusiveness andopenness. See Ministry of Foreign Affairs, ‘AIIB:A Successful Practice of Major-Country Diplomacy with Chinese Characteristics’.[25] During past decades of development, Chinahas employed investment- and export-led model, which contributed greatly toChina’s rapid economic growth by funding investment in export sectors. However,primarily from 2008, global demand decreased dramatically but China’sproduction capacity persisted growing. While the global market cannot absorb theseproduction, overcapacity has gradually become a serious problem for China’seconomy from 2008. It mainly happens to steel, cement, solar energy andconstruction sectors. In order to reduce cost, companies expanded regardlessenvironmental and health standard, and led to slow growth of wages. See JörgWuttke “The Dark Side of China’sEconomic Rise”. Glob Policy, 8 (2017): 63-64. doi:10.1111/1758-5899.12439; Shuaihua Wallace Cheng, ‘Overcapacity atime bomb for China’s economy’, SouthChina Morning Post, 28 September2015,https://www.scmp.com/comment/insight-opinion/article/1862024/overcapacity-time-bomb-chinas-economy; Kong, Veasna, Adam McKissack, and DongZhang. “China in a new period of transition.” EconomicRound-up 4 (2012): 43.Overinvestment problem see Alice de Jonge“Perspectives on the emerging role of the Asian Infrastructure InvestmentBank”, International Affairs, Volume 93,Issue 5, (2017): 1063.[26] He Yafei, ‘China’s overcapacity crisis canspur growth through overseas expansion’, South China Morning Post, 07January 2014,https://www.scmp.com/comment/insight-opinion/article/1399681/chinas-overcapacity-crisis-can-spur-growth-through-overseas;Scholar analysis on AIIB as strategic instrument to resolve China’sovercapacity, see Ikenberry, G.John and Darren J. Lim. “China’s emerging institutional statecraft.”(2017): 42: 10; Ren Xiao.“China as an Institution-builder: The Case of the AIIB.” ThePacific Review 29, no. 3 (2016):440-441; Kevin G. Cai,“The One Belt One Road and the Asian Infrastructure Investment Bank:Beijing’s New Strategy of Geoeconomics and Geopolitics.” Journal of Contemporary China, 2018: 7-8. [27] China had currency reserve surplus of $US 3.82 trillion by 2013,mainly invested in low-yielding US treasuries. See Ren Xiao. “China as an Institution-builder: The Case ofthe AIIB.”: 435[28] Poor land routes have also contributed to expansion ofregional markets for China. See MikeCallaghan and Paul Hubbard.“The Asian Infrastructure Investment Bank: Multilateralism on the SilkRoad.” China Economic Journal 9, no. 2 (2016): 120.[29] Ikenberry, G. John andDarren J. Lim. “China’s emerging institutional statecraft.”: 11; Despitethe AIIB mainly lend in US dollar now, Chinese economists have suggested thatthe bank “will gradually move to a mix of the yuan and the US dollar”. Quotedin Cary Huang, ‘China seeks role for yuan in AIIB to extend currency’s globalreach”. South China Morning Post, 27 April 2015,https://www.scmp.com/news/china/economy/article/1766627/china-seeks-role-yuan-aiib-extend-currencys-global-reach;The announcement on AIIB lends in US dollars, see Gabriel Wildau and TomMitchell. “China’s new Asia development bank will lend in US dollars”, FinancialTimes, 17 January 2016.https://www.ft.com/content/762ce968-bcee-11e5-a8c6-deeeb63d6d4b[30] Also, AIIB can contribute to China’s sovereignty integrity inanother way, which is seen from its rejection of Taiwan’s application ofbecoming a founder member due to ‘improper name’. See Kit Tang, ‘China says noto Taiwan on AIIB: What it means’, CNBN, 14 April 2015,https://www.cnbc.com/2015/04/14/china-says-no-to-taiwan-on-aiib-what-it-means.html[31] It was at the same time Philippines announced its break up with theUS, and received the fund from China. See Katie Hun, Matt Rivers and CatherineE. Shoichet, ‘In China, Duterte announced split with US: ‘America has lost’. CNN,20 October 2016, https://edition.cnn.com/2016/10/20/asia/china-philippines-duterte-visit/index.html;Catherine N.Pillars and Jasper Emmanuel Y. Arcalas, ‘Duterte brings home $24billion worth of deals’, Business Mirror, 21 October 2016.https://businessmirror.com.ph/duterte-brings-home-24-billion-worth-of-deals/[32] By September 2018, AIIB has had approved 39 projects with estimatedtotal lending of $US 5.2 billion, of which 8 projects were in India withestimated total lending of $US 1.769 billion. See AIIB projects, https://www.aiib.org/en/projects/approved/index.html;Few months ago, AIIB also announced its plan o