AIIB to Dwarf ADB Loan Portfolio

After the UK decision to join AIIB in March 2015, an avalanche of Western and Asian countries recently filed application to join the AIIB. China´s magnetic attraction and the isolation of the US and Japan became palpable in fast motion. Representatives from 21 Asian countries had signed the Memorandum of Understanding on Establishing Asian Infrastructure Investment Bank (AIIB) on 24 October, 2014 in Beijing. By end March 2015, more than fifty countries –two third Asian, one third non-regional - had filed application to join as founding members of the Beijing-based Asian Infrastructure Investment Bank (AIIB). Its subscribed capital is US $ 50 billion, half of which is paid in by China.

Like the NDB (better known as ´BRICS Bank´ and, compared to AIIB, advancing in slow motion), the authorized capital for the AIIB is US $ 100 billion, the paid-up capital US $ 10 billion. The NDB has been established with a global remit to lend to developing countries. The AIIB is focused on Asia.  Both new institutions are intended to concentrate on funding infrastructure projects. One of the major barriers to economic development in low and middle income developing countries is the lack of critical infrastructure such as ports, railways, roads and power.

Although AIIB and NDB were launched in 2014, the decisions to create them reflect the growing discontent for many years amongst developing nations that the governance structure of the IMF and World Bank has not evolved to reflect the increasing weight of emerging markets in global GDP. AIIB and NDB can be viewed as part of a concerted Chinese attempt to build a Sinocentric global financial system, as an alternative to US hegemony, as voice reform in the established IFIs has failed. At the APEC Leaders’ Summit in November 2014, China´s President Xi also announced the creation of a new Silk Road Fund to improve connectivity in Asia, for which China will provide USD 40 billion of capital funding. The BRICS also had suggested in July 2014 an IMF-style contingent reserve facility (“Contingent Reserve Arrangement”), for which the five countries agreed to earmark $100 billion of their foreign-exchange reserves for swap lines on which all members are entitled to draw. The China-Africa Development Fund and the China-CELAC infrastructure fund are further examples of recent attempts to develop a global Sino-centric finance infrastructure.

Table 1: Loan-Equity* Ratios at AAA-rated MDBs, latest

MDB	ADB	AfDB	IADB	IBRD
	3.6	2.1	3.0	3.9

Source: Various press releases and annual reports (assessed on 30 March 2015 at the MDB websites).

*Equity is defined as the sum of paid-up capital and reserves.

 

The AIIB is likely to eventually dwarf the ADB in terms of loan portfolio (and annual lending). The level of leverage (loan to equity ratio, the reverse of usable capital to loan ratio)) depends on the risk bearing capacity of a multilateral development bank (MDB). MDBs forgo such leverage opportunity if they transfer amounts to trust funds (such as IDA), which do not use a capital base to mobilize resources from financial markets and pass the amounts received from donors to beneficiaries at a rate of 1:1. A very simplified MDB balance sheet has the loan stock on the asset side and paid-up capital plus borrowings on the liability side. A trust fund (or concessional window) with no borrowings can thus achieve a loan-equity ratio of one only. Borrowings at the level of equity enable a loan-equity ratio of two, borrowings double the size of equity push the loan-equity leverage ratio to three. AAA-rated MDBs in 2014 recorded a loan stock-usable capital ratio of between 2 and 4 (Table 1). Usable capital of one US dollar, defined as paid-up capital plus reserves, thus could underpin a loan stock portfolio of USD 2 to 4 at the four leading AAA-rated MDBs.

The AIIB can be expected to obtain AAA rating by the leading rating agencies. Apart from strong support by the major shareholder China, the recent joining by highly-rated non-regional countries (including G7 countries) will lay the foundations of high intrinsic financial strength. Compared to the AAA-rated African Development Bank (AfDB), the AIIB will likely be less burdened by credit-negative considerations than the AfDB, which is burdened by a challenging operating environment across Africa. The regional exposure to Asia and the sectoral exposure to infrastructure should confer the AIIB a loan portfolio with relatively strong credit quality.

 

Table 2: Paid-up Capital and Total Loan Stock, US$ billion

MDB	Paid-up Capital	Loan Portfolio	Loan-Capital Ratio
ADB	5.9	75	12.7
IBRD	14.0	152	10.9
AIIB	10.0	(127)	(12.7)

Source: Various press Releases (assessed on 30 March 2015 at the MDB websites).

 

Table 2 compares the paid-up capital of the ADB and the AIIB as well as actual and prospective loan portfolios. Recent data show paid-up capital to stand at US$ 5.9 billion for the ADB, backing a total loan portfolio (outstanding plus undisbursed) of US$ 75 billion. (The respective numbers for the IBRD are paid-up capital of US$ 14 billion that underlies a total loan stock of US$ 152 billion.) If AIIB succeeds in building reserves from retained earnings and other sources, it could eventually reach a similar loan-(paid-up) capital ratio as ADB (12.7) and IBRD (10.9). Applying the ADB leverage ratio to AIIB, their paid-up capital (US$ 10 billion) could end up underpinning a loan portfolio of US$ 127 billion (AIIB). Applying the smaller IBRD leverage, the AIIB loan portfolio would still reach US$ 109 billion eventually, absent (negative) substitution or (positive) agglomeration effects respectively. While it is much too early today to be confident whether the newcomer will reach the financial performance achieved by ADB and IBRD, the scenario laid out here might well suggest that AIIB will end up with a higher loan portfolio than at present ADB. Consequently, expect the China led development bank to have a leading impact on multilateral development lending in Asia, hence on global financial governance.