| By Dr. Jeffrey Wilson

Introduction

Cross-border infrastructure is the next frontier for the economic integration of the Indo-Pacific. As liberalization has driven down regulatory barriers to trade and investment, today it is physical linkages-the road, rail, shipping, energy, and telecommunications connection between economies–which are the principal challenge for regional integration. Indeed, the Indo-Pacific is plagued by a range of ‘infrastructure gaps’, which have arisen as governments have struggled to supply infrastructure at the pace and quality required by their high-speed growth. Estimates suggest that $1.5 trillion of new investment per year, every year, will be required to unlock the region’s developmental potential. Building better infrastructure within and between economies is a top priority for all governments in the Indo-Pacific.

Yet infrastructure has also emerged as a source of geostrategic tension. This is principally due to China’s Belt and Road Initiative (BRI). Launched in 2013, the BRI promises to channel $1 trillion to infrastructure projects across Eurasia through state-owned banks and industrial firms. While the capital-injection is much needed, concerns exist over the economic and strategic impact of China’s state-financed infrastructure largesse. These include the governance and transparency of projects led by state-owned enterprises, the prospect of ‘debt-trap diplomacy’ in less-developed economies, security risks facing critical infrastructure such as ports and telecommunications, and that the BRI seeks to create a Chinese sphere of economic influence in Eurasia. Even countries in critical need of infrastructure—such as Indonesia and Malaysia—are grappling with the strategic implications of welcoming BRI investment.

The U.S. has recently begun efforts—working both individually and with regional allies—to offer alternatives that address these concerns. In July 2018, the U.S., Australian, and Japanese governments signed a trilateral memorandum of understanding (MoU) to jointly cooperate on Indo-Pacific infrastructure development. This was augmented with the passage of the Better Utilization of Investments Leading to Development (BUILD) Act in October 2018. This established the U.S. International Development Finance Corporation (IDFC), which expands and repurposes the Overseas Private Investment Corporation via a doubling of its capital ceiling to $60 billion. The IDFC is distinctive in that rather than simply offering state financing, it intends to use its investments to leverage private sector capital into commercially-oriented and transparently-governed infrastructure projects. Both these initiatives remain in the start-up phase, with work currently ongoing to develop their institutional mechanisms, strategies, and policy frameworks.

How can the U.S. government ensure that its new infrastructural diplomacy efforts deliver the greatest return on investment? Successful infrastructure development requires significant volumes of financial and political capital, both of which are finite in supply. With infrastructure now a critical component of U.S. strategy for the Indo-Pacific, it is essential these resources are deployed in the most efficient and impactful manner possible. Recent research from the Perth USAsia Centre has surveyed the contemporary landscape of Indo-Pacific infrastructure programs. By understanding the range and diversity of programs on offer, governments can make informed choices on how to best advance their infrastructural efforts.

The competitive marketplace for Indo-Pacific infrastructure

Much commentary on Indo-Pacific infrastructure diplomacy has focused on competition between the BRI and the IDFC. Less sanguine analysts have even identified infrastructure as an emerging front in the so-called ‘new Cold War’ between China and the U.S. However, this fixation on just two initiatives ignores the much wider range of infrastructure programs at play in the region today. Given the economic and strategic importance of connectivity, many governments and regional organizations have launched infrastructure programs in the last few years. The U.S.’s new infrastructure strategies must not only respond to China’s BRI, but also take into account the complex landscape of overlapping initiatives already on offer in the Indo-Pacific. This landscape has several key features.

First, there is now a competitive marketplace for infrastructure in the Indo-Pacific (see table below). Eight programs are active and have been launched by all of the region’s major powers (the U.S., Japan, and China), as well as its principal regional organizations (APEC and ASEAN). Additionally, two multilateral development banks (MDBs) also actively support regional connectivity projects. These are the longstanding Asian Development Bank (ADB), which has dedicated 59 percent of its loan activities to infrastructure in recent years, and the newly formed Asian Infrastructure Investment Bank(AIIB), the first development bank to specialize solely in infrastructure financing. The collective budget for those that have allocated investment capital is approximately $1.5 trillion. The landscape of infrastructure-promoting mechanisms in the Indo-Pacific is now well developed and, indeed, somewhat crowded. Importantly, China’s BRI is only one player in this competitive marketplace. Comparison of infrastructure and connectivity programs in the Indo-Pacific

Comparison of infrastructure and connectivity programs in the Indo-Pacific None Source: Wilson 2019

Second, these programs offer distinctive institutional architectures. Three are national programs led by a donor government, which offer finance – in the form of FDI, aid, loans, and/or technical assistance – for infrastructure in host states. These employ a bilateral model, with financing packages negotiated directly between the donor and host. Another two are multilateral development banks, which also offers loans and technical assistance. These are differentiated by their multilateral model, in which a transparent and rules-based set of funding criteria are used to design and set conditions for supported projects. There is also three are regulatory dialogues, which operate on a minilateral basis within existing regional organizations (APEC, ASEAN and the Greater Mekong Subregion). These provide spaces for like-minded countries to discuss infrastructure policy, identify priority projects, and coordinate strategies on a voluntary basis.

Third, a pattern of functional specialization has now emerged among the different programs. China’s BRI principally emphasizes concessional finance from public sources (either aid programs or FDI from state-owned enterprises). The U.S. IDFC and Japan’s PQI also offer public finance but focus on using this to leverage greater amounts of private sector investment into projects. The involvement of private capital means their footprint will be considerably larger than their headline budgets. The regulatory dialogues take a different approach again. These do not offer financing at all, but instead, aim to provide a space in which governments can coordinate infrastructure policy efforts. This is especially important for cross-border infrastructure, which requires a degree of policy harmonization between the involved countries before a project is ‘investment ready’ for the private sector.

Calibrating U.S. efforts for infrastructure choices

Governments in the Indo-Pacific thus now face ‘infrastructure choices’. Donor states have several institutional vehicles through which they can deliver their efforts, while recipients have multiple options to bootstrap developmentally transformative projects. A range of public, private, and/or regulatory modalities are now also on offer. This is clearly a positive development, insofar as there is now a menu of options that suit the particular needs of the diverse countries of the region. However, it is also essential that governments make informed choices, so the projects they build are economically, socially, and environmentally sustainable. Geostrategic concerns must also be carefully managed so that infrastructure remains a cooperative domain of regional politics. If governments make poor infrastructure choices, connectivity may divide rather than integrate the twenty-first century Indo-Pacific.

These programs have important implications for how the U.S. should develop its infrastructure diplomacy. As the new IDFC and trilateral MoU with Japan and Australia are fleshed-out throughout 2019, U.S. policymakers should pay careful attention to how they connect to pre-existing programs. The regional landscape is now sufficiently crowded that any programs which duplicate existing mechanisms will offer little value-add. Packages should be calibrated to the needs of partners to ensure that offerings are attractive in a competitive marketplace. There are also fruitful opportunities for exploiting synergies with existing mechanisms, which can help amplify the impact of U.S. efforts. Three strategies will be critical in calibrating U.S. policy for effectiveness.

First, the needs of the private sector must be paramount. The principal value-add of the IDFC is its objective of leveraging private sector investment, a feature shared by few other infrastructure programs in the region. But achieving this objective will require that its financing packages are attractive to private capital. Many Indo-Pacific countries are high-risk investment jurisdictions, and the long design-life of infrastructure (in the order of decades, not years) exposes infrastructure investors to considerable levels of sovereign and economic risk. Designing packages which mitigate these risks—potentially via regulatory agreements with the host states—will ensure that IDFC projects are ‘private investment ready’.

Second, the U.S. should focus on sectors where its firms have a comparative advantage. Most of the existing initiatives focus on ‘bricks and mortar’ infrastructure, such as roads, rail, and ports. U.S. companies are unlikely to be competitive with Chinese firms in these sectors. However, more complex and technology-intensive infrastructure – particularly in the telecommunications and electricity sectors – are comparatively undersupplied by the existing programs. These sectors also align with the technological capabilities of industrial firms in the U.S., as well as Japanese and Australian partners. A focus on higher-technology infrastructure will be an important differentiator for the IDFC and help avoid inefficient competition with lower-technology incumbents.

Third, bilateral IDFC efforts can be amplified by synergistic partnerships with other players. The trilateral MoU with Australia and Japan is a good first step in this regard. But further opportunities to link with the multilateral initiatives should also be explored. Joint-venture projects with the MDBs can both ‘multilateralize’ U.S. efforts, as well as draw upon the extensive technical and in-country expertise of these established institutions. Alignment with the subregional dialogue mechanisms will be important for cross-border infrastructure, where there is a need to harmonize policy frameworks and ‘clear the regulatory ground’ for funded projects. Engagement with APEC and/or ASEAN mechanisms, as is appropriate for the location and scale of the project in question, will also help build political support for these efforts at a regional level.

Finally, geostrategic risks must be managed to avoid overly politicizing infrastructure issues. If Indo-Pacific governments face stark ‘either/or’ choices when choosing an infrastructure partner, this could lead to divisions into competing economic blocs. To avoid this outcome, the U.S. should not conditionalize its infrastructure diplomacy to exclude or de-prioritize countries that participate in the BRI. Extending support on an open basis, to all projects that satisfy appropriate commercial and governance requirements, will offer the broadest menu of options to governments. These steps will ensure that connectivity integrates, rather than divides, the twenty-first century Indo-Pacific.

Dr. Jeffrey Wilson is the Research Director at the Perth USAsia Centre.

This brief is part of the Centre’s Blueprints for the Indo-Pacific project on the geoeconomics of regional connectivity. Read more about the project here.