Episode one of our Belt & Road Initiative (BRI) series showed that BRI is already seven times larger than the Marshall Plan. This episode estimates how much steel will be required to execute on the top 400 projects in our proprietary database.
So far, BRI includes 68 countries or regions. They cover a vast area of Eurasia and parts of Africa and Oceania. They house half the world’s population and comprise almost one third of the global economy.
We have carried out a bottom up study of BRI, going back to its inception, to gain an effective understanding of its direct impact on the commodities in our portfolio. Our project database began with a collection of over 2,000 projects identified as being linked to BRI. These were sorted by algorithms based on both hard and soft data parameters to identify around 400 core projects that met our criteria for ongoing tracking. It is from this sample that we derive our spending figure of US$1.3 trillion and our bottom-up steel demand estimates.
Our project database can be analysed in many ways. Funds look to be split 40/60 across the “Silk Road Economic Belt” and the “21st Century Maritime Silk Road”. On a regional basis, Russia and Central and Eastern Europe are likely to be the biggest recipients of investment spending. Along the Maritime Road, funding could be split quite evenly across South Asia, South-east Asia, the Middle East and Africa.
In our country list, Russia is ranked first in term of investment value thanks to some big-ticket energy and railway projects. Pakistan comes in second by project value, based on the largest project pipeline count. Notably, both the Asian Infrastructure and Investment Bank (AIIB) and the Silk Road Fund struck their first overseas deals to finance infrastructure projects in Pakistan. The strategic location of the Port of Gwadar, the end point for this particular corridor, makes it an obvious focal point.
Although BRI now encompasses policy cooperation on a wide range of fronts spanning education, tourism, healthcare, numerous other sectors and what professional diplomatists call “people-to-people ties”, at its core, BRI is about infrastructure development.
Power, railways, pipelines and other transport projects account for 70 per cent of the total investment in our project database. The demand for infrastructure investment in BRI regions is huge. The Asian Development Bank estimates that Asia requires US$26 trillion in infrastructure investment by 2030. That implies US$1.7 trillion in spending per year, more than double the current estimate of actual spending of US$881 billion. The gap between actual and required spending needs is around 2.4 per cent of regional GDP. When you take out China on both sides of the equation, the gap rises to 5 per cent of regional GDP.
In terms of direct spending, despite the impressive scale documented above, spending on BRI alone will fall well short of funding everybody’s infrastructure needs. However, as the Asian Development Bank highlights that funding Asia’s mammoth infrastructure bill is likely to be split 40/60 between public and private sectors, BRI projects could be the foundation for an uplift in investment from other sources, providing both basic infrastructure for business to leverage, and a reduction in implied risk given the official imprimatur that goes with BRI participation. BRI may be a catalyst for a virtuous cycle of economic development, just as the Marshall Plan triggered the reconstruction and then recovery of war-torn Europe almost 70 years ago.
BRI could also play a stabilising strategic role in helping to strengthen economic connectivity across Eurasia by facilitating cross-border projects like the Trans-Asian Railway.
Beyond infrastructure, our research suggests that the remaining 30 per cent of BRI-related investment would flow into new economic zones, industrial parks, refineries, automobile plants and public buildings.
Such investment would drive significant demand for construction materials and equipment, leading to an increase in direct and indirect demand for steel. BRI projects could result in up to 150 million tonnes of incremental steel demand.1 Of that amount, 80 per cent would be used in structures and reinforced concrete, with 20 per cent going into machinery and other equipment. Spread over a 10-year period, this amounts to an additional 15 million tonnes per annum, or 3 per cent to 4 per cent incremental demand growth for steel in BRI regions. This is considerable, as it would double the growth rate of local steel demand observed since 2011.
The 68 BRI countries and regions have an average steel consumption intensity of 130 kilograms per capita per annum, well below levels in China and in the developed world. They are also short of domestic steel making capacity. Of the 68 countries, only 10 are net steel exporters. The rest all rely on steel imports to some extent. More than 20 countries do not have any steel smelting capacity at all. Affordable construction steel and equipment are an essential input for the developmental projects that would reduce poverty and drive improved living standards across the BRI countries. Chinese suppliers are in prime position to supply these inputs. Consequently, provision of steel for BRI projects and the wider economic growth would help to underpin Chinese direct and indirect steel export growth. This will in turn help to sustain Chinese steel production run rates at high levels over the next decade.
On that point, previously we wrote that, ‘We believe that China will ultimately double its accumulated stock of steel in use, which is currently about 6 tonnes per capita. Among the range of possibilities we consider, our base case remains that Chinese steel production is yet to peak. The most likely timing of the peak is the middle of next decade. The growth rate we assume is close to 1 per cent. Notably, the annualised steel production run-rate in China hit 891Mt in June 2017, while the half-year to June came in at 846Mt. Both figures are comfortably above the historical annual high of 823Mt achieved back in 2014.’
The projects in our database provide a good indication of the ambition and intent of the BRI, as well as an indication of the impact of the initiative on the ground. During the May 2017 Belt and Road Forum, China announced it would commit an additional RMB100 billion to the Silk Road Fund. Several financing mechanisms are under discussion, including in the local currency of recipient countries.2
But BRI goes far beyond a narrow project list. At the same Forum, President Xi Jinping reaffirmed this ambition, saying: “Through the initiative, we hope we can find new driving forces for growth, create a new platform for global development and re-balance economic globalisation.” So China is putting the case for BRI in terms that will resonate for many around the world.
BRI has the potential to make a direct and indirect economic contribution of historic significance, and one whose benefits could last for generations.
1. As with all forecasts, this is one estimate within the range of possible outcomes, which are subject to significant uncertainty.
2. This is an important innovation, as the mismatch that eventuates from borrowing in ‘hard’ foreign currencies like the US dollar or Japanese yen to fund domestic assets has been a recurring problem for emerging markets. It is also an interesting decision by China, who might easily have pushed for denomination in its own currency. We also note that the AIIB, the multilateral development lender founded by China, is also looking at options for offering local currency financing options to borrowers.