The Asian Infrastructure Investment Bank

April 14, 2015

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It has been a slow week for data and the minutes from the last FOMC meeting revealed little new information. As a result, we thought we would step back this week and look at an event that is changing the world order: the rise of the China-led Asian Infrastructure Investment Bank. It illustrates the shifting in global power from the West to Asia. Yet, it is slow moving events that will take years—perhaps decades—to completely roll out. However, like the industrial revolution or the rise of American power, we see the underlying trend as critical to long-term global balance—and virtually impossible to reverse.

One lesson from recent events in China and Iran (and elsewhere) is that carrots generate a lot more friends than sticks. That is not to say they are always more effective, but less people want to be responsible for imposing sanctions than for offering incentives—and for those who favor democracy, the will of the public matters. When the US ran a trade surplus after WW2, like China does now, it was the lender of first resort for the rebuilding of Europe. Indeed, the precursor of the World Bank was the International Bank for Reconstruction and Development in 1944. As the US has moved into trade deficit, the stick of losing access to our markets has grown in clout. Since Cuba received the death penalty in 1962, the US has increased the use of sanctions—with mixed international support—on folks we disagree with including North Korea, Iran, Russia, Syria, Lebanon, Libya, Sudan, Yemen, Burma and Venezuela. History has shown it is easier to put sanctions on than to remove them.

Recently, China—backed by a trade surplus and a huge $4 trillion in foreign exchange reserves it would like to invest for both greater influence and return—has stepped to the forefront as a major international lender. For years, the China Development Bank and The Export-Import Bank of China have been major (and less restrictive) competitors to the World Bank, especially in Latin America and Africa. More recently, China has authorized the Silk Road Development Bank, The New Development Bank in conjunction with other BRICs and now the Asia Infrastructure Investment Bank. The AIIB’s paid in capital of $10 billion (half from China) rivals the World Bank’s $14 billion—with a more targeted footprint. Not surprisingly, almost everyone except NAFTA nations and Japan has signed on to share in doling out the largess of these new incentives.

As America’s allies point out, it’s just good business and the Chinese were going to do this anyway, so it’s better to be on board to exercise control. We interpret it as a simple application of the Golden Rule: “He who has the gold, makes the rules.” With China’s exports to the US smaller than to the EU, and only about 15 percent of their total, the US has lost its ability to use the stick to control growing Chinese world influence. Rather, the US has chosen to back programs like the Trans-Pacific Trade Pact (TPP), which is designed to exclude everyone in the region’s biggest trade partner, China. We suspect this strategy is less likely to prosper than the AIIB, which gives everyone a chance to wear the white hat.

Much more of the US’s international influence is now exercised by it multinational corporation, which do not always play with US laws or influence in mind. This week’s offer from FedEx for TNT will be sold as saving European jobs, where the UPS offer rejected two years ago may have eliminated them. The EU’s more restrictive competition rules will actually work to FedEx’s advantage. Other multinationals are tax shopping to get the lowest burden. Like our erstwhile international allies, multinationals are often more interested in doing business than in challenging the rules under which they operate. Ask Google in China, or any US energy affiliate operating in Libya, Sudan or Iran (hint Schlumberger was not alone). Unfortunately, after being grounded by Dad, teenagers often just ask Mom. Sanctions cost influence when they don’t work, and they can be costly. Incentives offer opportunities—and it is your own fault if they don’t help.


The preceding is an abridged version of a commentary for McVean Trading and Investments, LLC and has been reposted here with permission of the author.

The ideas and opinions expressed in this blog are those of the author, and they should not be perceived as investment advice or as any other kind of advice.

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