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Saturday, 12 July 2014

VI BRICS Summit: Will the BRICS Bank Help Reform Global Financial Architecture?


The VI BRICS Summit, which Brazil will host in Fortaleza and Brasilia from 14th July, will unveil a new multilateral development bank not led by the West. Let´s call it the BRICS bank (it may be called the New Development Bank[1]). I want to reflect on the normative power that would be unleashed in changing global financial governance by the creation of the BRICS bank. What will be the prospects for hastened changes in the global governance structure? Will it be rebalanced away from advanced-country dependence toward the BRICS? The answer comes in three steps:

  • First, the starting point is the current imbalance of emerging powers´ capital shares and voting rights in the existing multilateral banking system; the more imbalanced it is, the higher the pressure to rebalance toward fairer representation.
  • Second, the extent of excess demand (financing gap) for multilateral soft loans will define the demand for concessional flows from the new BRICS bank; joint with relative lending capacity, this will guide how much business – hence political influence- the existing Bretton Woods institutions and Western-led regional development banks might lose in favor of the new competitor bank.
  • Third, how much time it will take for a new BRICS bank to generate the knowledge and ´certification value´ that the existing IFIs have acquired already.

@First: The recalibration of the world economy toward the BRICS is still not reflected in the global financial architecture. The BRICS represent 46% of world population and almost 20% of world GDP in current dollars[2]. At the World Bank the five BRICS together have just 13-14% of shares and votes, according to the IBRD Statement of Subscriptions to Capital Stock and Voting Power (Table 1). By contrast, the G7 group of advanced countries represents only 15% of world population; its share of world GDP corresponds roughly now to its voting shares at the IBRD.

Table 1: IBRD Statement of Subscriptions to Capital Stock and Voting Power, October 2013

Country Group
Capital Stock Shares, %
Voting Power, %
BRICS
13.87
13.23
G7
43.71
41.49


Europe has been a stumbling block toward reform, staying overrepresented in the executive boards of World Bank, IMF and regional development banks. Although overrepresented, Europe´s voice is not united and hence weaker than necessary. Meanwhile, the US retains a blocking minority at the IMF (and informally, joint with allies, at the other international financial institutions). Early 2014, international financial reform and the G20 have suffered a serious blow after the US Congress refused to ratify a capital increase for the International Monetary Fund agreed four years ago. Advanced economies have reneged on their promise to support greater voice and representation for the BRICS and other emerging economies in global governance arrangements. BRICS have thus little incentive to take more responsibility as important stakeholders of the global economy and as financiers of global public goods.

The Asian Development Bank, firmly ruled by Japan and the US, provides an especially stark case of distorted representation. ADB members who are also members of OECD hold 64.6% of total subscribed capital and 58.5% of total voting rights. By contrast, China and India (the other three BRICS are not ADB members…) combine a mere 10.9% of voting rights (Table 2). Japan and the US are by far the biggest shareholders in the ADB with 15.7 per cent and 15.6 per cent, respectively. China, whose economy in dollar terms surpassed Japan’s in 2010, has just 5.5 per cent of voting rights; India, soon to be Asia´s and the world´s most populous country, has 5.4%.

Table 2: ADB Subscribed Capital and Voting Power, end 2013

Country Group
Subscribed Capital Shares, %
Voting Power, %
BRICS (China + India)
12.8
10.9
G7
45.0
37.8

Source: Author´s calculation; www.adb.org/ar2013

 

An immediate negative consequence of uneven representation is the negative impact on capital resources (to which China could amply provide) and hence lending capacity. Financial constraints on both the concessional window ADF and ordinary capital resources (OCR) are stretching ADB’s capacity to the limit. If ADB is to maintain meaningful levels of involvement in poor ADF countries, it has to find creative ways to enhance its financial capacity[3] – or it has to change representation as Japan´s fiscal resources are limited by rapid ageing, with the risk to turn Japan into a ´middling donor´ (Sawada, 2014)[4]. Although Japan is the largest financial contributor to the ADB, its policy positions are usually framed within the parameters set by the US-Japan relationship, which has effectively limited higher representation of and core funding by China and India in particular.

@ Second: Potential demand for concessional flows from the new BRICS-Bank and its relative lending capacity will determine what share of the business – hence political influence- the existing Bretton-Woods institutions and Western-led regional development banks might lose in favour of the new competitor bank. In a recent UNCTAD paper, Stephany Griffith-Jones has assembled the evidence for the shortage of long-term finance, especially to finance infrastructure, in the developing and emerging countries[5]. Current annual spending on infrastructure in developing and emerging countries has been estimated at $0.8-0.9 trn; existing multilateral development banks contribute merely $40-60bn to that sum while the bulk is being financed from national government budgets ($500-600bn). The annual spending on developing-country infrastructure to finance access to water, electricity, transport and other infrastructure needed to combat poverty, deprivation and climate change have been estimated by various sources (MacQuarie; Estache; MDB working group on infrastructure) at $1.8-2.3trn. The resulting financing gap would be around $1.0-1.4trn.

Figure 1: The Annual Infrastructure Financing Gap


Source: Bhattacharia & Romani (2013)

China – not the other BRICS - has the financial fire power to close a large part of that gap – given the wright incentives and institutions. The politically correct way is to write BRICS and to mean China. The fact that the financing power between China and the other BRICS is very asymmetric, however, is central to future financial governance developments. The new BRICS bank will initially have 50bn subscribed capital, to which each of the five BRICS will contribute $10bn. This sum is negligible by China´s standards, but corresponds to 2.5% of South Africa´s current GDP and almost 9% of her annual tax revenues. Note, however, that just $10bn of capital has to be paid-in ($40bn in guarantees) and that up to 45% of the BRICS bank capital will be allowed to be held by non-BRICS[6]. Nonetheless, the political prior to have equal say at the BRICS bank joint with the limited firepower notably of South Africa provides a certain constraint on the BRICS bank capacity to divert an important part of the multilateral lending business away from the traditional development banks. This may also explain why China has been pursuing recently the creation of yet another multilateral development bank (China-led), the Asian Infrastructure Investment Bank (AIIB), with registered capital planned at $100bn initially double the size of the BRICS bank[7].


@ Third: Stephany Griffith-Jones (op.cit.) provides some estimates on the BRICS bank lending capacity based on the assumption of an eventual total capital endowment of $100 bn. According to her estimates, the level of annual lending could reach, after 20 years, a stock of loans of up to US$350 billion, equivalent to about US$34 billion annually. The latter amount could be used for investment projects worth at least US$68 billion annually, given that there would be co-financing by private and public lenders and investors. Similar to the Latin American CAF development bank, a loan-capital leverage ratio of 2.4 underlies these estimates, among others (profits, rating level). The prospective annual BRICS bank lending sum would be roughly half of the annual flows provided by the major multilateral Western-led IFIs, worth $63bn in 2011, according to latest OECD data. Without taking account of the AIIB and the smaller multilaterals, the BRICS bank might be able to capture roughly a third of mainstream development bank business. Not negligible at all, enough I think to hasten global governance changes. The BRICS bank will be wise to focus on infrastructure finance not merely for the present excess demand but also to deploy China´s knowledge and comparative advantage in that area. A focus on well-defined project finance will help the viability of return to lending for the new BRICS bank.



 






[1] Christopher Wood (2014), The BRICS New Development Bank and Currency Reserve Arrangement at a glance, gegafrica.org, The South African Institute of International Affairs, Pretoria, July 8
[2] VI BRICS Summit (2014), http://www.brics6.itamaraty.gov.br/about-brics/economic-data
[3] ADB has recently presented a new proposal to enhance ADB’s financial capacity through a modified management of its capital resources. The proposal entails terminating ADF loan operations and combining ADF loans (and part of ADF liquid assets, projected to be USD 35.3bn in total) with the OCR balance sheet in January 2017. This would increase OCR equity from a projected USD 17.9bn to USD 53.2bn. ADF would henceforth provide only grant assistance, while ADB would continue concessional lending through its OCR window
[4] Yasuyuki Sawada (2014), Japan’s Strategy for Economic Cooperation with Asian Countries, Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.10, No.1, March 2014.
[5] Stephany Griffith-Jones (2014), „A Brics Development Bank: A Dream Coming True?”, UNCTAD Discussion Papers #215. Her estimates are based on a presentation by Amar Bhattacharya and Mattia Romani (2013), “Meeting the infrastructure challenge; the case for a new development bank”. 
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