Building with BRICS

As all five of the BRICS nations have their own development banks, the debate continues on whether one monetary bank should be implemented to benefit infrastructure, and which country should house it

New Delhi municipal council workers (NDMC) decorate a welcoming signboard for the arrival of BRICS countries leaders in prior to the 2012 summit 

The headlines seemed to say it all: “BRICS nations fail to launch new bank” – Aljazeera; “BRICS fail to launch bank to challenge West” – The Jakarta Globe. The BRICS nations’ March summit in Durban, South Africa ended without the funding and modus operandi of a BRICS development bank, first mooted by India at the 2012 summit, being fleshed out.

While many observers were quietly smug, participants at the summit seemed to think proceedings went rather well. The host, President Jacob Zuma of South Africa later said, “We are satisfied that the establishment of a new development bank is feasible. We have decided to enter formal negotiations to establish a BRICS-led new development bank.” One might wonder if a BRICS development bank is actually needed.

At an estimate, there appear to be over 100 national and international development aid agencies already at work. All of the five BRICS nations currently have their own national development banks, as does all of the G7 group of nations. some countries on the economic sick list like Spain, Italy and Ireland, oil-rich nations from the Middle East and tiny states like Liechtenstein and Slovakia.

Building stronger banks
Among the international development banks are the African (AfDB), Inter-American (IADB), Asian (ADB), Andean (CAF), and European (EBRD and European Investment Bank). Most of the other 23 multilateral agencies grew out of Bretton Woods initiatives designed to create monetary stability among independent member states – the World Bank and IMF.

Traditionally, development banks were intended to channel public money into major infrastructure projects that were too large and long-term to be financed from other commercial sources. In most cases the argument in support of using public finance was the social and economic benefits of bringing transportation, communication, environmental and production facilities to an area. The same argument supported the extension of funding from richer nations to those in the so-called developing world.

Often, however, fund providers couldn’t resist the urge to attach conditions that recipients saw as unfair restrictions on their commercial and sovereign rights. Increasingly, the IMF and World Bank have been seen as being dominated by the west and operating a western political agenda, a view supported by the fact that those institutions have consistently drawn their chiefs from either Europe or the US, despite a growing percentage of financial contributions coming from emerging economies.

Traditionally, development banks were intended to channel public money into major infrastructure projects that were too large and long-term to be financed from commercial sources

The outgoing President of the World Bank Robert Zoellick acknowledged that “policy makers [of the bank] will need to break free of old constraints to connect the private sector to public policies”. Zoellick has also expressed his support for the idea of a BRICS bank, saying, “If they decide they want another financing vehicle – fine. Let’s figure out how to work with it… I’m enough of an economist that I’m not a monopolist.”

A new paradigm
“The BRICS believe that Bretton Woods is archaic and too focused on the US and European world view,” says Brent Eastwood, International Affairs Analyst with the Langley Intelligence Group Network. “They believe that they are the dynamic and essential world economies and that they are the real engines of growth.”

Together, the BRICS nations make up 40 percent of the world’s population and 25 percent of global GDP in terms of purchasing power parity. According to an IMF forecast in January 2012, the five BRICS countries were expected to contribute 56 percent of the world’s growth in GDP for the year, compared to just nine percent from the G7 group of nations. Current estimates put BRICS-held foreign currency reserves at $4.4trn.

Source: IMF. Figures post 2012 are IMF estimates.
Source: IMF. Figures post 2012 are IMF estimates.

Trade within the group surged to $282bn last year, from $27bn in 2002, and estimates suggest it may reach $500bn by 2015.Trade with the rest of the world soared from $1trn in 2002 to $4.3trn in 2008. To help fund the estimated $4.5trn in infrastructure spending needed over the next five years without having to resort to the condition-bound finance offered by the World Bank, BRICS nations plan to create a new model of south-south co-operation and financing.

The initial plan is for each country to kick in $10bn to fund a development bank whose stated goals are to support infrastructure investment and increased commerce between themselves. “The idea for this bank is a win win,” says global management and strategy consultant, Kathleen Brush. “Developing countries are becoming increasingly wealthy. They should be taking on a bigger role and they should focus in their backyards, where they have a lot to gain by neighbouring economic development. “It also makes sense that developing countries might have different terms for the loans than those from the developed country led World Bank. They are probably more sensitive to the challenges of developing countries.”

Source: IMF. Figures post 2012 are IMF estimates.
Source: IMF. Figures post 2012 are IMF estimates.

A difference in opinion
Clearly, the devil is going to be in the detail. The first issue to be ironed out is location. The siting of World Bank headquarters in Washington DC is seen as evidence of US control over its affairs.

Not surprising, then, that China, as the largest economy in the group, wants the BRICS development bank headquarters to be located in China, and others in the group are wary. Other key decisions include what currency it will use, how much each country will contribute and how much influence each will have over the bank’s affairs.

“Obviously there are many unanswered questions for this scheme, including who runs it, how will it be paid for, and how will it work,” says Eastwood. “It could take years to iron all that out. But they seem to have agreed in principle on the concept. I take that at face value and I take it seriously.”

There are also cultural and internal governance issues to be dealt with. Writing for Bloomberg, Leonid Bershidsky points out that Vladimir Putin’s recent suggestion that some of the country’s accumulated reserve funds of $172bn might be used to stimulate Russia’s economy has opponents worried that enormous amounts of that wealth could just end up in the hands of corrupt officials.

“None of the five BRICS nations rank in the top ten countries for ease of doing business,” notes Nzube Ufodike, founder of place4BRICS. “As a result, the main challenge a BRICS bank will face will be one of perception. Many will expect it to be corrupt or inefficient. “On the plus side, many banks in these [as well as other emerging] countries have robust financial ratios that are the envy of western banks and financial institutions. It will be interesting to see the final structure of a BRICS bank in terms of governance, financials, remit and long-term goals.”

Common enemy
There are many reasons why the plan should not work. Without the dominant leadership seen in the US-led Bretton Woods institutions, BRICS partners will struggle to find common ground. Although each of the five economies enjoys an enviable rate of growth, they are vastly different in size, composition and regulation. They have different forms of government, have fought bitter wars with each other and work toward very different foreign policy objectives.

Yet they have a mutual bond – the BRICS nations share a frustration and disillusionment with the western-dominated IMF and World Bank. Associate Professor of International Relations at Georgetown University, James Vreeland points out that the IMF and World Bank, responding to US concerns over the problem of ‘moral hazard’. The promise of liquidity during economic crises tempting governments in lesser-developed countries to spend with abandon, have traditionally imposed conditions on their loans that demanded the implementation of austerity policies.

These conditions led to lower economic growth in recipient countries – despite the fact that industrialised countries responded to economic crises with stimulus packages, and managed to rebound more quickly. Even more painful were the ‘structural adjustment programmes’ imposed by the IMF that required recipients to open up their economies to foreign corporations, focusing their investments on providing cheap labour and commodities for richer nations rather than developing their own industrial base.

In 2005 Brazil started a new trend; the country paid off its IMF loans early in order to free itself from conditionality – and many other emerging economies decided to do the same. The IMF was facing declining revenue flows until the global financial crisis hit in 2008, when, ironically, it was the debt-strapped countries of the developed world that was knocking at its doors.

“The world is drifting towards a major global rebalancing, which will involve a significant realignment of global currencies,” says Jan Dehn, Co-Head of Research at Ashmore Investment Management. “At the heart of this rebalancing lies a conflict between the Heavily Indebted Developed Countries (HIDCs) as debtors – and emerging markets – as creditors. Emerging markets largely funded the excessive spending in the HIDCs. Rebalancing on the global economy will likely involve a fight over how to distribute the eventual losses arising from the decades of excessive debt-fuelled spending by the HIDCs.”

Working through old problems
What worries some observers in the west – as well as in recipient countries – is that as emerging economies start to flex their economic muscles in the international arena, they are showing how well they have learned the lessons of what has often been called economic imperialism. In this respect China has been leading the way, loaning large sums of money to countries in Latin America and Africa, which the recipients are expected to use to buy Chinese provided goods and China-led projects to extract natural resources.

Together, the BRICS nations make up 40 percent of the world’s population and 25 percent of global GDP in terms of purchasing power parity

In a recent article in the Finanical Times, the governor of Nigeria’s central bank Lamido Sanusi writes, “China is no longer a fellow underdeveloped economy – it is the world’s second-biggest, capable of the same forms of exploitation as the west. It is a significant contributor to Africa’s deindustrialisation and underdevelopment.”

Transparency is also an issue. The BRICS countries still have large domestic populations struggling with poverty, so may not want to publish the extent of their international loans and aid. When aid money is transferred ‘under the radar’ of international inspection it becomes easy for corrupt governments to redirect its use to their own political aims.

“It is noteworthy that the global ‘best practice standards’ adopted and required by the World Bank and its affiliates, as well as other leading donor institutions, are not necessarily promulgated by the BRICS,” notes law partner Walter White, who has worked with many international development agencies and chaired the board of the Central Asian American Enterprise Fund. “It would be a shame if the new BRICS institutions backed away from fair labour policies, commitment to enhancement of the conditions for women, global standards for corporate social responsibility, non-compliance with EU and US sanctions and a variety of other seemingly critical standards.”

But now it would appear that the west would not be able to dictate social and economic objectives to the rest of the world for much longer. Although the proposed new development bank has taken all the headlines, the latest BRICS summit was the scene for many other bilateral agreements that will actually move emerging countries away from the US dollar dominated trade and institutions.

China and Brazil, the two powerhouse economies in the bloc, agreed a bilateral currency swap line that will take up to $30bn of trade annually out of the US dollar. The Joint Business Council was formed to encourage trade and investment between members, and a joint foreign exchange reserve pool was created of up to $240bn to help members ride out economic crisis without resorting to the western dominated Bretton Woods institutions.

“I would argue that emerging markets are not acting nearly quickly or decisively enough, and certainly not employing the power they possess,” Jan Dehn summarises. “Today, emerging market central banks control some 80 percent of the world’s foreign exchange reserves, or $8.7trn. It should therefore be entirely clear that emerging markets have sufficient resources to completely control global currencies, and hence the unwinding of global imbalances. What is now required is the exercise of leadership.”