China’s Gateway to Europe Raises Questions

This week, 16 Central and Eastern European (CEE) heads of state gather with Chinese officials in Hungary for the sixth meeting of the “16+1” format. Created in 2012, the “16+1” has gathered extensive attention in the EU, as a Chinese diplomatic initiative neither directed towards Brussels nor (officially) toward single member states.

The format has much in common with China’s Belt and Road Initiative (BRI). Transport and connectivity have progressively been upgraded to the second main objective after trade and investment in official “16+1” statements (despite only ranking seventh out of the 12 measures originally agreed upon in Warsaw in 2012), likely to better reflect China’s wider BRI undertaking. Many of the key projects promoted through the “16+1,” such as the Belgrade-Budapest railway (which forms part of the wider China-Europe Land-Sea Express), or the three port regions cooperation framework, also fit into China’s Eurasian connectivity plans.

Both formats have sparked many of the same big questions: What are China’s intentions with these initiatives? What are the potential benefits and drawbacks, and how will they be spread between China and partner countries? And finally, what impact might China’s undertakings have on host countries’ economic, fiscal, political and regulatory landscapes?

These questions loom especially large in the context of CEE countries, as the “16+1” format gathers 11 EU member states bound by strict EU regulations and standards. The format’s establishment brought with it worries; that China’s undertaking in the region might come with an unwillingness on the part of Chinese companies and financers to abide by EU rules; that the appeal of China’s deep-pocketed enterprise might breed competition and disunity among member states, and a corresponding willingness to make exceptions and deviate from EU commandments.

Particularly relevant in this context is the issue of China’s modus operandi for large infrastructure and energy deals, which now rank high on the list of “16+1” priorities. If the BRI is any indication, China’s preference for these projects seems to be for a “tied” model of financing, involving preferential loans from a Chinese policy bank linked to the condition that Chinese companies be responsible for delivering at least half of the project’s value. Such conditionality, however, is in direct contradiction with EU procurement laws. No wonder that Brussels’ alarms went off when Hungary started discussing just such a project – the Belgrade-Budapest line – with China’s National Development and Reform Commission and Exim Bank. As originally conceived, the deal was going to involve Chinese financing and Chinese procurement, which soon brought about scrutiny from the EU, and even kicked-off a probe of the Sino-Hungarian(-Serbian) deal.

With this sixth meeting, however, worries seem to have slightly subsided. The EU now takes part in each gathering as an observer and even participates in preparatory stages for the yearly summit. A “Connectivity Platform” has been established to supervise large Chinese connectivity projects in the EU, and convey to Chinese counterparts the absolute necessity for such deals to abide by EU rules. Six years of the “16+1” format have also calmed some concerns. Indeed, results on the ground have proven mixed so far, and a more nuanced local picture is slowly emerging. There are some valid reasons for on-going concerns, but there is also evidence that should provide reassurance.

In practice, six years on, the Belgrade-Budapest episode seems to be the only example of a direct clash between Chinese activities and EU rules. (And the project has now morphed into a more acceptable version of the original deal, with an open tender to be run, although most likely by a partially China-owned project company). Instead, CEE EU member states’ strict upholding of EU procurement laws, and widespread rebuff of Beijing’s financing offer, have created a situation where most of the large infrastructure projects undertaken by China under a loan-and-build model in the region are situated in the five “16+1” countries that are not yet members of the EU.

In comparison, China’s involvement in the 11 EU member states in the context of the “16+1” (and of the BRI) has taken the shape of an active participation in open bidding processes (for a series of power plants in Romania, for example), of public-private partnerships (as might be the case for the Cherno More motorway in Bulgaria), and of direct investment by Chinese companies in the region (the Chinese rolling stock manufacturer CRRC has, for example, expressed interest in acquiring Czech rolling stock manufacturer Skoda Transportation). Gathering much press, China’s revitalization of freight lines between the EU and China have had limited governance and economic impacts – running on pre-existing lines, and at a low frequency for the most part.

This is not to say, however, that China’s involvement in the region is completely harmless. In the Western Balkans in particular, where China has been very actively financing and building large pieces of transport and energy infrastructure under its “tied” model, a variety of concerns are emerging. Relying in large part on massive financing facilities backed by government guarantees, Chinese-led projects are pushing up sovereign indebtedness in some countries to unsustainable levels. Highly visible, and thus pushed politically by both China and host countries, these projects might crowd out other key budget items, such as housing or social policies, or smaller-scale undertakings such as improvements in infrastructure management. Over time, such investments might even have greater economic potential than actual infrastructure building.

Initiated and negotiated on a government-to-government level, these projects rarely involve an open, fair, and competitive bidding procedure. Instead, procurement processes are largely opaque and highly politicized, and thus a clear deviation from the standards for procurement promoted in the context of these countries’ accession process to the EU. Procurement opacity allows for a lump sum approach, with little clarity on the cost of various components. In several places, this has led to an over-estimation of project values, and even some instances (as in Macedonia) of fund misappropriation.

In short, the effects of China’s push on European governance and standards have so far been felt most strongly in the Western Balkans, where regulatory safeguards are lower overall, and China’s offers have gained greater traction. This is not to say risks are null in EU member states. The Hungarian case is the only example so far of a direct face-off, but dissatisfaction with EU policies and the election of more leaders with a populist platform might increase pressure on member states’ governments to diversify away from Brussels. So might a 2020 EU budget without a UK contribution. The less focus the EU places on connectivity for the region, the more attractive Chinese offers will become.

Agatha Kratz is an Associate Policy Fellow at the European Council on Foreign Relations, and a Ph.D. Candidate at King’s College London’s Lau China Institute.