Neil MacKinnon -
The nineteenth century heavyweight of British foreign policy, Lord Palmerston, once said that nations have no permanent friends or allies, only permanent interests. The statesman would likely have regarded the BRICS nations, Brazil, Russia, India, China and South Africa, as a prime example: A group of disparate nations - with competing permanent interests – that arguably have little in common beyond the fashionable acronym coined more than a decade ago by an investment banker.
However, might the recently agreed deal to form a Brics Bank give us reason to think again?
The announcement of two new financial institutions - the New Development Bank (NDB), which will finance major infrastructure projects - and the Contingent Reserve Arrangement (CRA) which will act as an emergency fund – are together worth $150 billion, a figure which is set to rise in coming years. The numbers are impressive, but do they signal a shift towards a more meaningful relationship?
Let us start with the permanent interests. The Brics now carry substantial economic weight; China, which continues to enjoy enviable growth, now has a bigger economy than France, Germany and Italy combined. Brazil, India and Russia are catching up fast and are likely to overtake Britain and Canada over the next 20 years. Although commodities continue to be a major driver of growth, the leaders of the Brics have made it clear that they aim to expand their knowledge economies, meaning ever more competition in the global race.
These countries know that in order to compete, world-class infrastructure is the rocket booster that will help bourgeoning knowledge sectors grow. The rationale for increased spending is clear; The World Economic Forum estimates that every dollar spent on a capital project (in utilities, energy, transport, waste management, flood defence, telecommunications) generates an economic return of between 5% and 25%.
To say that the infrastructure across the Brics is spotty is an understatement; world-class airports live cheek-by-jowl with record-breaking traffic jams. Russia’s Ministry of Finance estimate that poor roads have led to a loss of 7-9 per cent of GDP in the country.
These concerns are by no means exclusive to developing and emerging economies. In the U.S, public infrastructure has been slowing for decades, and spending as a share of GDP has declined to about half the European level. In the U.K, the government are meeting fierce resistance from green campaigners for trying to build the High Speed 2 (HS2) rail link to connect London with the North of England. Protected interests everywhere are slowing down vital infrastructure projects that are key to boosting jobs and economic growth.
However, access to funding, rather than nimbyism, is what is holding these breakout nations back.
It is well documented that competitively priced capital to fund major projects has been hard to come by recently. When discussing this announcement recently, former World Bank economist Joseph Stiglitz claimed that the contribution to infrastructure finance from institutions including the IMF and World Bank will only contribute between 2-4% of the estimated $2tn annual need over the next few years. The news that NDB’s capital will eventually rise to $100 billion is a boon to those countries that need to finance huge infrastructure projects.
The private sector has had some success in filling the funding gap. VTB Capital, for example, is a co-investor (sponsor) in the €1.2 billion Pulkovo airport modernisation project, and a co-investor (sponsor) and lender in the €5 billion Western High Speed Diameter (WHSD) toll road construction project in St Petersburg – both major transport infrastructure investment projects in Russia’s second city.
But while private-public partnerships such as the WHSD and Pulkovo projects are part of the solution, the challenge of upgrading infrastructure across emerging markets, including the Brics economies, is far greater. Development banks and public multilateral financial institutions are an essential part of the picture too.
Such organisations are not a novel idea, and the Brics bank will join a long list of institutions that are already starting to dwarf the lending to developing countries made by the World Bank and IMF. The China Development Bank has been active across the globe for years, helping finance a huge number of roads, power plants and sewerage systems across Africa. Unlike the IMF and World Bank, the Brics Bank has made it clear that it does not want to hold countries back by applying overly stringent environmental conditions on loans. Not that this means countries should be dodging their commitment to fighting climate change – in fact, Stiglitz argues that the bank will be crucial for helping countries build the infrastructure needed for dealing with the impact of climate change.
If the interests of these countries are clear, what is less certain is how they will work together once the dust settles. Important questions remain on issues of governance and making lending decisions. However, the early signs are encouraging on collective decision making. Each country will pay in $10bn to the NDB, giving them an equal say. The bank will be headquartered in Shanghai; the presidency will be rotated, starting with India. A Brazilian is to chair the board of directors and a Russian the board of governors.
Jim O’Neill, who coined the term ‘BRIC’ countries in 2001 (South Africa was not part of his original vision) has also suggested that closer co-operation may mean a stronger bargaining position the next time the candidacy of the IMF and World Bank is proposed, making it a strong bloc at the negotiating table. Diplomats have been quietly encouraged by the warm relationships they are starting to enjoy with their Brics counterparts.
This news demonstrates just how far this group of countries have come in such a short space of time. The meeting of these nations in Fortaleza in July was only the sixth summit of its kind.
The subtext is clear: change is happening faster than we think. While this institution is not a panacea for emerging markets, it does in many ways mark a fundamental shift in global economic and political power and the end to business as usual. The transformation of the Brics from catchy acronym to global economic powerhouse is already one of the defining stories of this century. If the new BRICS bank can help fill the infrastructure funding gap, this will be an important part of the jigsaw in helping deliver the sustained growth the Brics economies promise. The world will be watching closely.
Neil MacKinnon is a global macro strategist at VTB Capital
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