MALAYSIA & CHINA: Political risks associated with China’s Belt & Road Initiative

China’s ‘Belt and Road Initiative’ (BRI) faces pushback in Malaysia, with accusations of corruption and bribery leading Malaysia’s Prime Minister to suspend and cancel BRI projects in his country.

 

Malaysia suspends and potentially cancels Chinese-led infrastructure projects

On 7 January 2019, the Wall Street Journal reported on a controversial series of meetings held in 2016 between the Chinese state-owned enterprise (SOE) China Communications Construction Company (CCCC) and government officials from the Najib Razak-led Malaysian government’s Ministry of Finance. The report cited minutes from previously undisclosed meetings, which indicate that the Malaysian government agreed to work in unison with the Chinese SOE, to overcharge the Malaysian government for a set of infrastructure projects.

During the time of negotiations, Prime Minister Najib and a number of his confidantes and family members, including his stepson Riza Aziz and Malaysian businessman Low Taek Jho (a.k.a. Jho Low), had plundered an estimated USD7 billion from the country’s sovereign wealth fund, 1Malaysia Development Berhad (1MDB). The Chinese officials are alleged to have agreed to charge above market rates for infrastructure projects so that Najib could use the excess funds to pay off his 1MDB debts.

The deal allowed Najib to borrow the funds from CCCC immediately so he could pay off his 1MDB debts and allow the Malaysian taxpayer to progressively repay the CCCC debt over a seven-year period. The Chinese side are alleged to have told the Malaysian officials that it would use its geopolitical influence to convince the U.S. and other countries to drop their probes into allegations that Najib and his political allies had misappropriated finances from 1MDB.

Beijing’s willingness to assist Najib in stealing from this state development fund can be attributed to the importance of the Malaysian-based infrastructure to Chinese president Xi Jinping’s signature Belt and Road Initiative (BRI).

The infrastructure projects include:

1.       A 688km East Coast Rail Link (ECRL) connecting Port Klang on the Straits of Malacca to Pengkala in north-east peninsular Malaysia. The rail link would connect the South China Sea to Malacca’s shipping routes, and was intended to carry both passengers and freight. It is worth an estimated USD2 billion.

2.       Two oil and gas pipelines in Borneo and mainland Malaysia worth more than USD1 billion each.

3.       A pipeline linking the state of Malacca to a refinery and petrochemical plant owned by Malaysian oil and gas company, Petronas, in the state of Johor, worth an estimated USD795 million.

The shock election of Prime Minister Mahathir bin Mohamad in May 2018 led to a suspension of the ECRL project, while the aforementioned pipeline projects were all cancelled by September 2018. Mahathir criticised his predecessor for the high cost of the ECRL, and publicly suggested that his government would search for an alternative supplier. Although Mahathir publicly cancelled the ECRL in January 2019, the situation remains ongoing as Finance Minister Lim Guan Eng suggested on 30 January 2019 that negotiations with the CCCC were continuing.

Assessment: A pushback against the BRI?

The case serves as a warning to other members of the Asia-Pacific region considering working with Chinese suppliers on BRI-related projects. Malaysia’s dealings with the CCCC indicate that the company was willing to work with a corrupt government and help protect the prime minister from a U.S.-led fraud investigation in order to meet its government-led BRI objective.

The collapse of the deals adds fuel to a growing debate surrounding the geopolitical interests behind the BRI and its Chinese government-funded mega-projects. Such fears were prophesied by U.S. Vice President Mike Pence who told a group of foreign dignitaries at the Association of South-East Asian Nations’ summit in November 2017 that his country would never ‘offer a constricting belt or a one-way road’.

Malaysia is just the latest country to suspend or cancel BRI projects, with other notable examples including:

Nepal

In September 2018 the Nepal government reneged on its agreement with the Chinese SOE, the China Three Gorges Corporation, to build a USD1.5 billion West Seti hydropower project in the Far-Western Development Region of the country. The 750-megawatt project was one of China’s major ventures in the country. The deal came unstuck when the SOE refused the Nepalese government’s demands for resettlement costs for affected populations.

Myanmar

In August 2018 the Myanmar government announced that it would scale down plans for a USD7.4 billion project by Chinese SOE, CITIC Group, to develop the Kyaukpyu port in Rakhine state in the west of the country. The Myanmar government sought to sharply reduce the costs in an effort to avoid becoming excessively indebted to the Chinese state. The move can be seen as a reaction to controversy surrounding the Chinese state’s so-called ‘debt trap diplomacy’ which involves offering countries infrastructure projects that they cannot afford in an effort to seize the assets. Beijing denies such claims.

Pakistan

In November 2018 the Pakistan government cancelled the USD14 billion Diamer-Bhasha dam project, in northern Khyber Pakhtunkhwa province, which was set to be a key element of the China-Pakistan Economic Corridor. The government scrapped the project due to onerous financing terms and conditions.

The pushback against BRI projects indicates to Beijing that its model of infrastructure-led growth may be difficult to export, and that its partners in the Asia-Pacific region are unafraid to assert themselves when their national interest is at stake.

Business Implications: How can you mitigate the risks?

As the BRI expands across the Asia-Pacific region, Eurasia and Europe, more foreign companies will become exposed to the risks associated with the state-led project. In order for the BRI to be successful, the Chinese government requires buy-in from the international investor community, through Foreign Direct Investment or economic partnerships, so there is potential for foreign countries to contribute to BRI projects.

The BRI project comes with potential political and cancellation risks due to the nature of the investments and the countries which Beijing is partnering with. China is partnering with countries that have authoritarian regimes and widespread corruption, which puts foreign companies with any investment stakes in these projects at risk of asset expropriation, and corruption and human rights scandals.

A2 Global Risk strongly advises foreign companies, in particular those in the BRI-related infrastructure sector and renewable energy sector, such as hydropower, to assess their exposure to the growing economic and political risks as a matter of priority. Foreign companies must conduct thorough due diligence on any potential partners and exercise vigilance when investing in BRI-led projects.

Foreign businesses considering investments in BRI projects should conduct a new market entry study on the country. Special emphasis should be paid to the bureaucratic, customs, judicial, legislative, public procurement, natural resources and land and tax administration situation in the country.

Firms are also advised to conduct stakeholder analysis, as a foreign company may bid on a public tender where there is competition from domestic companies. Domestic companies in countries with lax governance and ineffective rule of law may be hostile towards a foreign …

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