Reviving Chinese Development Finance in the Global South

The multilateral system is falling short in mobilizing the level and composition of capital flows necessary for countries in the Global South to raise living standards and avoid the catastrophic costs of climate change.

Rather than channeling a stepwise increase in resources, net capital flows to emerging market and developing countries have turned negative. This predicament would have been much worse if not for the emergence of Chinese overseas finance, yet it too has turned net negative in recent years. The resumption of payments on a significant amount of external debt that China had suspended during the COVID-19 pandemic, together with the lack of overall borrowing space in the Global South, have exacerbated the current predicament.

A new working paper by Rebecca Ray, Kevin P. Gallagher, Zheng Zhai, Marina Zucker-Marques and Yan Liang puts Chinese development finance in the context of recent net negative transfers and presents a five-point program for how and why China should revive overseas development finance to the Global South.

Main findings:

• International capital flows to the Global South have turned net negative over the past few years. Private capital flows continuously prove to be pro-cyclical, short-term, high-cost and less conducive to growth, and global development finance remains insufficient in scale to counterbalance these cycles.
• With Northern-led multilateral institution and the private sector falling short of their commitments to the poor, China has a strategic interest to reverse course.
  • While China’s net transfers to IDA countries have turned negative, the scale and implications of this trend should not be overstated. Importantly, these are considerably lesser in scale than Paris Club lenders’ similar negative net transfers in the mid-2000s, which occurred while low-income countries were emerging from HIPC programs.
  • China’s recent net negative transfers arose during a time of domestic financial uncertainty, much as the Paris Club’s net negative transfers did in the mid-2000s. Furthermore, they arrived as China itself faced net negative transfers from creditors.
• Countries across the Global South are in urgent need of a stepwise increase in financing to invest in low-carbon, socially inclusive and resilient economic growth while avoiding the staggering costs of inaction on climate change.

Given the global context and the current structure of the international monetary system, the authors propose a five-pronged approach to reviving Chinese overseas development finance: 1) refinance existing loans in countries facing debt distress; 2) exchange loans that are at risk of default for longer term, RMB-denominated bonds; 3) provide new long-term lending for green growth in RMB; 4) engage in cooperative FDI in countries with manufacturing capabilities; 5) trade more with countries in the Global South. Such an approach will not only help countries in the Global South restart growth trajectories but also bring significant benefits to China.

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