OREANDA-NEWS. December 08, 2014. China has pledged USD40 billion for infrastructure investment to build a New Silk Road in the spirit of the centuries-old trading route. Investing in infrastructure along a land-based economic belt and maritime route will develop new export markets for China and generate better, and longer-term, returns on its foreign reserves. It also creates another channel for internationalising the renminbi, helped by the likely boost to trade flows from overseas direct investment.

China’s infrastructure sector has the capacity to meet needs in Asia and further abroad and that should generate demand for its exports and help reduce economic slack and disinflationary pressure.

Asia needs the investment and China has the funding power as well as the capacity to meet that demand. As the investment will be in roads, railways, ports and airports, lower trade costs should benefit all parties.

The Chinese economy is still facing downward pressure, with excess capacity leading to persistent low inflation. Unfortunately, external demand is not promising either, given the weak recovery of some main trade partners, especially the European Union. Investment in infrastructure will not only push up demand and growth in the short term but improve potential growth in the long run.

The New Silk Road strategy coincides with another national objective – spreading growth inland from the coastal regions. The nine provinces along the route are based mainly in western China, where GDP per head is relatively low and infrastructure is lacking. They cover more than a third of China’s area and a fifth of its population but account for just a sixth of national GDP.

Establishing a dedicated infrastructure investment fund will allow these regions to trade much more with neighbouring countries.

The economic belt has three elements – transport links to Asia and Europe, natural gas pipelines connecting central Asia and China, plus international highway projects. The total investment could reach RMB700 billion – more than USD100 billion.

The plan aims to build on China’s expertise in infrastructure development to boost trade with economies near and far. Global trade should benefit almost immediately as construction increases demand for capital goods such as fuel, machinery and metals.

The potential boost to trade in Asia is significant. When China invested in its own infrastructure after the global financial crisis, its imports of infrastructure-related capital goods almost doubled between 2009 and 2011. Trade drove the growth recovery and generated demand-pull inflation.

The pace of infrastructure investment is likely to be slower this time because the fund has a capital base of only USD40 billion and because multinational decisions will not be unilaterally determined by Beijing. However, the benefits should thus build over time and filter through in a more sustainable manner.

Economies that already sell most of their capital goods to China will be best positioned to capture the increase in demand. Our analysis shows that trade in Australia, Indonesia, Japan, and Korea should increase most as China implements its New Silk Road plan.