Monetary security is a fight over infrastructure financing, currency and sanctions by OYA Shin

“API Geoeconomic Briefing” is a weekly analysis of significant geopolitical and geoeconomic developments that precede the post-pandemic world. The briefing is written by experts at Asia Pacific Initiative (API) and includes an assessment of burgeoning trends in international politics and economics and the possible impact on Japan’s national interests and strategic response. (Editor-in-chief: Dr. HOSOYA Yuichi, Research Director, API; Professor, Faculty of Law, Keio University; Visiting Fellow, Downing College, University of Cambridge)

This article was posted to the Japan Times on January 25, 2022:

API Geoeconomic Briefing


January 25, 2022

Monetary security is a fight over infrastructure financing, currency and sanctions

OYA Shin
Senior Research Fellow, Asia Pacific Initiative (API)




Upon hearing the term “economic security,” many people think of measures such as export controls, screening of investments by foreign firms, strengthening of supply chains and development of cutting-edge technologies.

These are certainly important aspects, but there are other factors that are vital to economic security, including infrastructure financing, currency and financial sanctions.

The ruling Liberal Democratic Party’s proposals for its economic security strategy defines the term as “ensuring the nation’s independence, survival and prosperity in economic terms.”

For Japan, it is essential that the rules of the global economic framework, including finance and currency structures, are crafted and maintained in a way that enables the country to pursue its independence and prosper at the same time.


Belt and Road initiative

China has stressed that its Belt and Road initiative, which offers financial assistance for infrastructure development, is aimed at advancing mutual benefits and “win-win cooperation.”

However, the initiative seems intended to:

  • Benefit economically from overseas demand as a way of solving the issue of excessive production capacity at home.
  • Geopolitically benefit from boosting its influence abroad.
  • Enhance the image and prestige of Chinese leader Xi Jinping.

The initiative has been subject to intense international scrutiny, especially by the United States, with some criticizing it as “debt-trap diplomacy.”

The most widely cited example of a country becoming mired in Chinese debt and being forced to hand over assets with strategic importance to Beijing is Sri Lanka’s controversial deal to lease Hambantota Port to a Chinese-majority-owned joint venture in 2017 after it was unable to repay earlier loans.

Researchers who examined contracts between Chinese lenders and developing countries pointed out in a March report that the Belt and Road initiative lacks sufficient information disclosure mechanisms and that its contracts often contain clauses that expressly commit the borrower to exclude the debt from restructuring in the Paris Club of official bilateral creditors and from any comparable debt treatment.

Looking at the case of Hambantota Port, Sri Lankan authorities planned and led the economically inefficient project while inflating costs, but it was China that made the project work by pouring in cash.

China is responsible in that it found opportunities to increase its geoeconomic clout by taking advantage of the corrupt Sri Lankan government, ultimately making the Sri Lankan people the victims and saddling them with debt from the economically unfeasible project.


China’s response

China has taken global criticism of the initiative seriously.

During the second Belt and Road Forum for International Cooperation, held in April 2019, attendants agreed to work on improving cooperation in promoting environmentally friendly and economically sustainable projects as well as in combating corruption.

Six months earlier, in October 2018, the Japan Bank for International Cooperation signed a memorandum of understanding with the China Development Bank, a state-owned lender that actively offers loans to Belt and Road projects. The two confirmed that in collaborating to support projects involving both Japanese and Chinese corporations in third countries, they would provide financial support based on global standards such as openness, transparency, economic viability, debt sustainability and compliance with laws and regulations.

As China’s current account surplus further declines from its 2000s peak, new investments in Belt and Road projects are also shrinking. But it’s unlikely that China will abandon the initiative, as it is a key instrument for boosting Xi’s prestige and its promotion is included in the Chinese Communist Party’s Constitution.

It would be desirable if the initiative is put into practice in an improved form, but we should carefully watch what actions China actually takes.

Japan has a long history of infrastructure financing and has been playing a key role in the sector, including leading the endorsement of the Principles for Promoting Quality Infrastructure Investment at the 2016 Group of Seven Ise-Shima summit meeting.

The United States has also been focusing on infrastructure financing to counter the Belt and Road initiative, launching the U.S. International Development Finance Corporation (DFC) in December 2019.

There are also moves to offer alternatives to the Belt and Road initiative, such as Japan, the U.S. and Australia jointly financing Palau’s project to build a submarine internet cable.

For Japan, it is important to cooperate with partner countries in continuing to work on developing high-quality infrastructure, taking into account economic viability, debt sustainability and environmental protection while assisting with recipient countries’ efforts to build governance-strengthening capabilities when necessary.

Japan should also strive to make its assistance speedier and more user-friendly for recipient countries while placing emphasis on tackling climate change, including supporting low-carbon or climate-transition projects.

Digital currency

In its “Vision and actions on jointly building Belt and Road” unveiled in March 2015, China mentioned ways to expand the use of its currency, such as by supporting the efforts of Belt and Road governments, their companies and financial institutions to issue renminbi bonds.

On the other hand, in January 2021 the Atlantic Council, a U.S. think tank, published “The Longer Telegram: Toward a new American China strategy,” authored by an anonymous former senior U.S. government official, which attracted global attention by outlining a comprehensive strategy for addressing the challenges posed by Beijing.

The paper pointed to four fundamental pillars of American power — its military, the U.S. dollar, global technological leadership and the values of individual freedom, fairness and the rule of law — and stressed that strategic competition would necessitate the United States protecting the dollar’s global reserve currency status.

Amid the two powers’ intensifying rivalry, China is progressing with developing its central bank digital currency, with the People’s Bank of China spearheading testing of the digital yuan.

China is at an advantage in introducing a digital currency, as many in the country are already accustomed to cashless payments thanks to the wide use of platforms like Alipay or WeChat Pay run by private companies.

The country plans to distribute the digital yuan via a two-tier system, in which the central bank will issue the digital currency to commercial banks and the commercial banks will be responsible for getting it into the hands of consumers.

The digital yuan will be a centralized digital currency and is unlikely to use blockchain.

The central bank says the digital yuan will have “managed anonymity,” which means information on buyers who pay with the currency will not be shared with sellers who receive the currency, though the transaction data will be disclosed to the central bank.

While Chinese authorities have carefully refrained from announcing an official launch date, trials are already underway in a number of cities in China, and pilot projects on a broader scale are expected at the Beijing Olympics in February.

In the U.S., the Federal Reserve began studying the potential benefits and risks of issuing a digital currency, but it remains unlikely that it will decide any time soon on whether to create a digital dollar. Opposition remains even within the Fed, with Gov. Chris Waller repeatedly expressing doubts about deploying a digital dollar.

Japan also has not reached a conclusion about whether to introduce a digital currency. The Bank of Japan last April launched the first phase of its central bank digital currency experiment and is expected to move to the second phase this year based on the results.


Monetary hegemony

In order for a country’s currency to become a reserve currency, that country must have a strong economy and military, as well as fewer restrictions on transactions so that companies and governments worldwide are encouraged to possess the currency. China, however, still has many capital regulations on the yuan. In addition to that, the incumbent reserve currency, the dollar, has strong inertia to keep its status.

Therefore, although China’s economic and military power is on the rise, it would be an overstatement at this point to say that the dollar hegemony faces a crisis.

It is also unlikely that China is attempting to overthrow the dollar hegemony, but the country is definitely trying to change the dollar’s control over international transactions where it is involved.

China is not aiming to make the yuan the international reserve currency for the so-called exorbitant privilege of becoming a large beneficiary of seigniorage or financing current account deficits without worrying about foreign exchange risks.

Rather, its intentions appear to be more focused on coping with economic security threats, as the current dependence on the dollar in international trade and finance means the country is vulnerable to U.S. financial sanctions.

As for the digital yuan, China seemingly plans to distribute the currency initially within the country and expand its use to trade settlements with Belt and Road partner countries.

Russia has also been reducing the dollar share of its foreign exchange reserves in recent years, indicating that countries that have been vigilant over the risks of becoming subject to U.S. financial sanctions also view their foreign currency holdings from the aspect of economic security.

China’s adoption of the digital yuan could shake the inertia, considering the existing legacy systems — including cross-border payments using SWIFT’s financial messaging systems — do not necessarily meet users’ needs in terms of costs and speed.


Financial sanctions

For the U.S., financial sanctions are an important tool for addressing a range of threats to its national security and foreign policy.

They have been employed frequently, especially since the terrorist attacks of Sept. 11, 2001, but the U.S. has been criticized for deploying them too often.

There are moves within the U.S. to rethink financial sanctions policies, with the Treasury Department releasing in October the results of a broad review of the economic and financial sanctions that it administers and enforces.

The department’s review found that the U.S. faces new, emerging challenges to the efficacy of sanctions as a national security tool. These challenges include moves to reduce the use of the dollar and the rise of alternative payment platforms such as digital currencies.

The report cites recommendations to improve the Treasury Department’s implementation of sanctions, including “adopting a structured policy framework that links sanctions to a clear policy objective” and “incorporating multilateral coordination, where possible.”

While such proposals are reasonable, the review gives the impression that it has not gone far enough, as it avoids determining that the United States’ heavy use of sanctions has led its adversaries and some of its allies to reduce their use of the dollar.

It is important for Japan, a United States ally, that the U.S. maintains the effectiveness of its financial sanctions.

Financial sanctions are powerful, but their effects diminish if overused, just like antibiotics.

Moreover, if the U.S. imposes financial sanctions, including secondary sanctions — penalizing companies in third countries doing business with U.S. sanctions targets — all too often without coordinating with allies and partner countries, it will face growing criticism and international support for those sanctions will falter.

In order for Washington’s financial sanctions to remain an effective tool, Japan, as an ally that shares the same values, should urge the U.S. to be more cautious about imposing them, while at the same time act together when necessary.


Strategic perspectives

It’s indisputable that infrastructure financing and choice of currencies should be economically rational. However, both are geoeconomic tools that have to be conducted with economic security in mind.

While financial sanctions are the major geoeconomic policy tool of choice, their overuse could damage the “economic rationality” for use of the dollar. All of the options should be considered strategically from the perspectives of both economic rationality and economic security.

Particularly, in making policy choices, it is important to not only focus on short-term benefits but also plan and prepare proactively, taking into account their long-term impact.


Disclaimer: The views expressed in this API Geoeconomic Briefing do not necessarily reflect those of the API, the API Institute of Geoeconomic Studies or any other organizations to which the author belongs.