China is Winning Friends and Influencing Countries with the AIIB

In what can only be seen an unexpected Chinese success, several US allies have agreed to participate in China and India’s Asian Infrastructure Investment Bank.  The UK not only appeared to break ranks with the US, but seemed to have preempted its European partners as well.  Once the UK expressed interest, it was if a dam burst and quickly others signed up as well.

In what can only be seen an unexpected Chinese success, several US allies have agreed to participate in China and India’s Asian Infrastructure Investment Bank.  The UK not only appeared to break ranks with the US, but seemed to have preempted its European partners as well.  Once the UK expressed interest, it was if a dam burst and quickly others signed up as well.

Recall that the $50 bln institution was set up last October, and others have until the end of this month to join and be founding members.  This allows participation in the decision making of the AIIB though the details are not clear.  Those that join later will not have such a role, which is a subtle hint of the difference between it and the other multilateral institutions, like the IMF and World Bank.

To say that the AIIB will compete with the $160 bln Asian Development Bank is a bit of an exaggeration.  First, the infrastructure needs in Asia are much larger than the ADB can fund.  Second, the ADB has been consulting with the AIIB in an advisory capacity.  Third, Japan, which has headed the ADB since its founding almost 55 years ago, is also considering joining AIIB. 

Leaving aside US parochial concerns, which seem to be over the increase of China’s influence, there are reasonable questions about the transparency and governance of the AIIB.  It does not appear to be simply a development bank with China as a key shareholder.  Rather than promote neo-liberal values, embodied in the Washington Consensus, the AIIB could encourage China’s state capitalism model.  The project picking criteria is also not clear.

While this is a diplomatic setback for the Obama Administration, the underlying may lie with Congress.  It has blocked IMF funding, which is the precondition for reforming the voting (quotas) and would give China and other developing countries a greater voice.  In contrast, the Obama Administration seems to recognize that if China (and others) does not get a larger voice in the existing institutions, it will create parallel institutions.

The frustration with the US on this issue is palpable.  The head of China’s central bank Zhou Xiaochuan made another issue clear at a forum yesterday.  On a panel with the IMF’s Lagarde, Zhou pushed for the yuan to be included as a reserve asset and in the SDR basket. 

A review of IMF-recognized reserve currencies and SDR components occurs every five years.  In 2010, a yuan rejection on both scores was because it was not “freely usable”.  This was also the argument that MSCI used not to include China’s A shares in its global indices last year.  Lagarde, who reportedly is particularly frustrated with the US, indicated that “the yuan clearly belongs in the SDR basket” and that the IMF is working with China to achieve it. 

Lagarde did not commit herself to any specific timing.  At the end of last year, the IMF indicated it would complete the review of the SDR in October.  Expect an informal briefing in May.  Recognition as a reserve currency and included in the SDR basket would be recognition of China’s reform efforts and its increasing importance in the world economy.  It would likely further enhance the internationalization of the yuan.  More than 50 countries invest in yuan assets, according to some industry estimates, but such IMF action would remove an additional barrier.   

Although PBOC’s Zhou emphasized the liberalization measures China has already taken, like the Shanghai-Hong Kong link, more efforts to increase the convertibility of the capital account may be necessary.  Zhou indicated that additional measures are likely to be forthcoming in the period ahead.

AIIB Prelude to SDR Decision is republished with permission from Marc to Market