Moody's positive on China's Belt and Road Initiative but challenges remain
KUALA LUMPUR: Moody’s Investors Service is positive on China’s Belt and Road initiative (BRI) but points out the significant implementation challenges as Chinese issuers will face exposure to countries with comparatively poor credit profiles.
It said on Tuesday the BRI — which aims to strengthen linkages between it and a host of countries in Eurasia and beyond — will benefit China’s own economy and corporates.
However, the rating agency pointed out that the BRI wouldl also pose challenges in how risk will be allocated between participating Chinese entities and the sovereign.
Moody’s said the BRI would potentially be credit positive for BRI recipient countries by helping meet their infrastructure funding needs and consequently enhancing their productivity.
“Potential credit-negative effects could stem from an implied shift in BRI recipients’ debt structure towards more expensive and less transparent funding,” it said.
“Our ‘report card’ on BRI indicates that overall it generates more positive than negative effects both for China and the recipient countries,” said a Moody’s managing director and chief credit officer for Asia Pacific Michael Taylor.
A Moody’s vice president and senior analyst Lillian Li pointed out the BRI faces significant implementation challenges.
She added this would result in Chinese issuers’s increased exposure to countries with comparatively poor credit profiles, “including weak financial strength, high susceptibility to event risk, and an unfavorable business environment”.
Li also said 37% of Chinese BRI investment has flowed to BRI countries rated Ba1 or lower since 2013. Excluding Singapore that proportion is even higher at 54%.
Moody’s conclusions are contained in its just-released report, “BRI report card – Positive factors outweigh negative for China and recipient countries”.
Chinese strategic policy priorities largely guide sector allocations for China’s capital in BRI countries, and these priorities include addressing industrial overcapacity in China by exporting these products and services, and
strengthening strategic access to food and energy resources.
This approach is credit positive for the Chinese sovereign and companies in these sectors and also benefits recipient countries when the goals of both sides coincide in areas such as infrastructure development.
However, a key unresolved issue concerns how the resultant risk will be allocated between the Chinese sovereign and the entities that are funding or investing in BRI projects.
Chinese policy banks, big commercial banks and state-owned enterprises (SOEs) that largely support BRI projects are exposed to high implementation risk, which could increase contingent liabilities for the sovereign.
So far, the scope for a negative impact on Chinese banks is still limited as overseas loans represent a small proportion of total loans, but there is little transparency about returns on capital in BRI regions.
In another instance, BRI can help internationalise the use of the renminbi (RMB), although usage in BRI transactions (14% of total cross-border trading settlements since 2015) lags the average for all cross-border trading settlements
(23% of total), according to People’s Bank of China data.
However, by June 2017, China had expanded its bilateral local currency swap agreements to 36 countries, of which 24 are BRI countries, and the total amount for such agreements has now reached RMB 3.3 trillion.
BRI recipient countries gain from Chinese investments and trading opportunities which add to their potential growth drivers.
But China’s rebalancing could have some negative effects on countries whose primary exports to China are unrefined commodities and raw materials.
Increasing reliance on China’s lending could also induce a credit negative shift in the financing structure of some BRI countries away from international financial institutions, which have historically provided a stable funding source,
in some cases on concessional terms.
For non-BR countries, the initiative may lead to some negative effects as Chinese imports could shift from them to BR countries.
For example, there could be more Chinese imports of mineral fuels like petroleum oils from Russia (14.5% of total Chinese imports of petroleum oils in 2016 compared with 12.8% in 2014) rather than from non-BR countries in the Middle East
and North Africa.
Since Chinese President Xi Jinping first proposed the BRI in 2013, its geographic coverage has expanded to around 70 countries in Asia, Africa, the Middle East, Europe and Oceania, representing one-third of global GDP and trade flows,
two-thirds of the global population and one-quarter of global foreign investment flows.