1MDB probe shines uncomfortable light on China's Belt and Road

Scandal is only latest example of dangerous lack of transparency in showcase program

China's Belt and Road Initiative sprouted another sinkhole this month, when The Wall Street Journal reported that Chinese officials agreed to help bail out Malaysia's state development fund 1Malaysia Berhad, known as 1MDB, by inflating the cost of infrastructure projects.

The story is still unfolding: Malaysian officials have announced a probe. Beijing has denied the report. Former Malaysian Prime Minister Najib Razak, who has been charged with corruption over 1MDB, denies the allegations against him.

What can no longer be denied is that the BRI is opaque by design. By limiting outside scrutiny, the initiative's lack of transparency gives Chinese companies an edge in risky markets, and it allows Beijing to use large projects to exercise political influence.

Of course, Chinese companies are not alone in being accused of peddling influence. But authorities in the U.S. and EU are more vigilant in policing their own companies abroad. China adopted a foreign bribery law in 2011 but has done little to enforce it. Chinese companies are also among the least transparent, according to a Transparency International study of 100 companies in 15 emerging markets.

As Chinese companies push deeper into emerging markets, inadequate enforcement and poor business practices are turning the BRI into a global trail of trouble. A long list of Chinese companies have been debarred from the World Bank and other multilateral development banks for fraud and corruption, which covers everything from inflating costs to giving bribes.

Consider the experience of China Communications Construction Co. (CCCC), among the BRI's most active companies. It was debarred by the World Bank in 2009 for eight years for alleged fraudulent bidding on a highway contract in the Philippines. CCCC denied the allegation at the time. Last year, its subsidiary, China Harbour Engineering, was publicly accused by Bangladeshi government ministers of offering a bribe to a Bangladeshi official in connection with a construction project. CCCC later told Bloomberg the allegations were "a mistake."

But after being blocked from the World Bank and other multilateral development banks, Chinese companies can still call home for support. Beijing's own policy banks have doubled in size since the turn of the century, and Chinese lending to developing countries now exceeds the major Western-backed multilateral development banks.

Corruption allegations multiply partly because China's largest lenders are opaque. Projects are publicized after contractors are picked, and loan terms are rarely released. As a former president of China Ex-Im Bank said in 2007, "We have a saying: If the water is too clear, you don't catch any fish."

In many of the 80-plus countries that China's Belt and Road aims to connect, corruption is in any case endemic. Among participating economies, the median credit rating is junk, so alternative lenders stay away. Chinese construction companies benefit because -- backed by state financing and often state ownership -- they are willing to take risks that others will not. They also know that, if the going gets tough, Beijing can intervene politically on their behalf.

China, like any major lender, exercises political influence well before funds are transferred. In recent years, for example, the prospect of Chinese infrastructure loans has helped persuade the Philippines and Cambodia to reevaluate military or diplomatic ties with the United States.

A willingness to handle huge financial deals opaquely provides even more opportunities for political leverage. By agreeing to inflate project costs, for example, Beijing can funnel money to its friends in high places. In Sri Lanka, Chinese construction funds were allegedly used for Mahinda Rajapaksa's failed reelection bid, according to an investigation by The New York Times. Rajapaksa has denied the allegations.

A backroom deal can itself become a source of leverage, since either side could make demands and threaten to expose the other. But Beijing holds the stronger hand: Chinese officials are not immune to reputational risk, but they do not face democratic elections, unlike many leaders in recipient states. Chinese officials also have more options. Given the immense demand for infrastructure, China has more countries courting its investments than its partners have alternative sources of investment.

Beijing's cynical approach might seem clever, but it is actually risky and shortsighted. When projects are poorly chosen -- because of political or corrupt considerations -- and do not generate sufficient returns, recipients struggle to pay back loans. Scandals reveal the true beneficiaries of these deals, and popular resentment grows. China's reputation also suffers, as the 1MDB scandal now shows.

Asian leaders facing reelection will take note that Najib grabbed China's Belt and Road as a lifeline, but it became a noose. Prime Minister Mahathir Mohamad, who defeated in Najib in national elections last year, made it a central campaign issue. After winning, he launched investigations and canceled several projects.

China is far from the first to fall into the trap of launching projects without adequate oversight and has much to learn from others. Multilateral lenders have developed more stringent lending practices precisely because their donors made many of the mistakes that Chinese companies are now repeating.

The experience of Japan, now a promoter of some of the world's highest infrastructure standards, is instructive. When the Philippine President Ferdinand Marcos fled office in 1986, his papers exposed a system of corruption implicating dozens of Japanese companies. The resulting embarrassment in Tokyo helped catalyze real reforms, leading to greater transparency, more open competition, and eventually Japan's first official aid charter.

Until Chinese officials improve transparency standards, the international community should provide better alternatives to Chinese loans and publicize the perils of opaque approaches to building infrastructure. Leaders in recipient countries must also demand greater transparency -- or risk drowning in the BRI's murky waters.

Ref:https://asia.nikkei.com/Opinion/1MDB-probe-shines-uncomfortable-light-on-China-s-Belt-and-Road