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China in Central Asia

  • Russia
  • Delivering Growth and Opportunity
Russia/CIS Riskwatch - Issue 11 - January 2017
China in Central Asia

 

China since 2015 has been engaged in an ambitious programme known as ’Belt and Road’ (B&R) to develop land and sea trade routes as a means of further integrating itself into the global economy. A key element of B&R is reviving the ancient Silk Road through Central Asia: China is aiming to make the region a viable overland transit route for trade with Europe, and to create new demand for Chinese exports in Central Asian markets. In connection with this initiative, China is financing sweeping infrastructure improvements – roads, rail, ports, telecoms and IT. But many challenges lie ahead in a region with messy borders, uncertain political futures and a legacy of Soviet working practices.

Flanked on either side by the Russian and Chinese behemoths, Central Asia offers a largely unexploited transit zone from Asia to Europe. The Central Asia portion of Belt and Road (B&R) is China’s bid to capitalise on this, though significant Chinese investment in the region predates the official announcement of the programme in September 2013. B&R represents a web of connections rather than a single path. Its northern corridor will transit through Kazakhstan to Russia, its middle corridor through the Caspian Sea. But it also foresees a host of roads, bridges and tunnels elsewhere across the region.

Who’s in charge?

Kazakhstan stands out as the most willing participant in the project. The Kazakh authorities have for a number of years identified infrastructure development as key to achieving their ambition of entering the world’s top 50 economies by 2030. Chinese investment in the country is already well established: Chinese companies now account for a quarter of its oil production, and in 2015 announced plans to construct of a railway line from the Chinese border across Kazakhstan to the Caspian Sea port of Aktau.

Yet Kazakhstan’s attractiveness as an investment destination is overshadowed by uncertainty over its political future. Its 76-year-old president, in power for 26 years, remains without a successor. In the absence of robust political, judicial and civil institutions, there is scope for his departure from the political scene to trigger instability, with knock-on effects for the predictability of the business environment.

In neighbouring Uzbekistan, a president of similar longevity died in September 2016. Although a destabilising power struggle was pre-empted in the immediate aftermath, there will be plenty of opportunities in 2017 for inter-elite tensions to erupt and undermine commercial activity, trade and stability.

Just passing through

Successful construction of the infrastructure required to make Central Asia a viable transit route faces one main hurdle from the off. With domestic economies ailing, local governments will be reluctant to allow foreign workforces to take the lion’s share of jobs in such lucrative projects. This is a problem: importing Chinese workers is key to the Chinese business model. Longstanding suspicion of foreign workers and anti-foreigner sentiment among Central Asian populations are likely to increase in 2017 as economies remain weak.

For B&R to be truly beneficial, however, it needs to not only make Central Asia a trade route, but also to drive development and investment within the countries’ own economies. But is there really the manpower and demand to sustain ambitious projects and to generate the spillover effects on other parts of the economy that would create opportunities for other investors? The middle class is small in places like Kazakhstan, and largely non-existent in places like Tajikistan. The workforce is inflexible, skilled labour is in high demand and vocational training is poor.

Regional governments’ financial and operational capacity to maintain infrastructure is also low. And without appropriate domestic policies to attract and retain other investors – visa-free travel, ready access to foreign exchange – high-capacity ports and bullet trains are likely to find themselves not only in poor repair but also without customers.

Barriers

Corruption has deterred or disrupted many an investor into Central Asia, and shows little sign of abating in 2017. External economic shocks since late 2014 – deriving from reduced trade with Russia and China, and low oil and gas prices – have seen governments across the region pledge to reduce barriers to investment, including corruption. Results so far are limited.

Corruption is particularly acute in construction, the heart of the B&R programme. State tender processes are often beset by a lack of transparency, and with mega-budgets like those of B&R, the temptation for contractors to inflate prices for their own gain will be particularly high. This has implications not only for compliance, but also for the efficiency of the projects. Road and rail projects often overrun and quality is compromised as a result of dishonesty.

With many of the region’s governments already struggling to pay state-sector workers amid cash flow shortages in 2016, non-payment risks in a number of countries in the region are likely to rise. Disrespect for contract sanctity, a perennial problem in the region, will also persist.

Great Games

China must avoid stepping on some big toes in Central Asia if it is to realise B&R’s full potential. Russia has long been the region’s unrivalled go-to: for political partnerships, for cultural exchange and for security assistance. China’s forays into Central Asia have typically been limited to the financial sphere, and so scope for tensions with Russia has been limited too. But as China’s activities in the region grow, we will see increasing interest from the Chinese authorities in taking an active role in regional security. Already, China in October 2016 for the first time held bilateral counter-terrorism drills with a Central Asian government, Tajikistan.

As security challenges in the region increase in 2017, China is likely to take more initiatives of this kind. Direct threats to foreign business activities will remain unlikely, but Islamist radicalisation is on the rise, and with it the threat of active shooter or terrorist attacks targeting law enforcement or the general population. The problem is not helped by regional authorities’ slowness to grasp the need for a preventative as well as punitive response. If China is willing to offer support, it can go some way to bolstering the authorities’ capacity to mitigate security threats to B&R assets and supply routes.

Soft power is another matter. China will not dislodge Russia as Central Asia’s key political and cultural reference point. Russian dominance in these spheres is maintained through a shared Soviet history, pervasive Russian broadcast and print media, and a steady flow of Central Asian migrant workers into Russia. Should Russia find elements of B&R threatening, it will be well placed to sow seeds of doubt among Central Asian populations about the desirability of B&R projects.

Good neighbours

China may be willing to work with its Central Asian neighbours, but will they be willing to work with each other? Initiatives like the Russian-led Eurasian Economic Union (EEU) customs bloc – of which Kazakhstan and Kyrgyzstan are currently members – have had limited success in reducing the costs and time associated with cross-border trade. Since the EEU was introduced, Kazakhstan and Russia have repeatedly introduced ad-hoc limitations on imports of each other’s goods, for short-term political and economic reasons. Meanwhile, significant delays at Kazakhstan ports in processing cargo trucks coming across the Caspian Sea from Azerbaijan en route to China early in 2016 exemplify the authorities’ failure to properly capitalise on new trade routes.

Central Asian governments will remain fundamentally protectionist in the next year, reverting to imposing spurious tariffs, taxes, delays and paperwork on trade partners in cases of political or economic uncertainty. In addition, perennial regional disputes over access to water and agricultural land will not be resolved in 2017. These will continue to fuel tit-for-tat border incidents and closures, undermining supply chains.

B&R is a vast project in scale and ambition, and the under-exploited economies of Central Asia are in many respects fertile territory for its enactment. But investors must overcome a number of intractable barriers if B&R is to offer sustainable returns and contribute to the region’s long-term development.

 

Author

  • Eimear O'Casey, Associate Analyst

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