THE BLOG
08/25/2014 11:25 EDT | Updated 10/25/2014 05:59 EDT

Do the BRICs need a Bank?

The BRICS countries have recently started a new bank called the New Development Bank. Starting with an initial capital base of US $50 billion that is predicted to increase to US $100 billion, the bank's responsibility will be to finance infrastructure needs in the BRICS countries as well as other developing countries. Also, they plan to create a Contingent Reserve Agreement (CRA) whose objective would be to help the member countries during currency crisis. This reserve will also amount to US $100 billion with the lion's share contributed by China.

The World Bank helps countries, particularly developing countries, to finance infrastructure projects. Therefore, the New Development Bank would be performing a role that is already conducted by the World Bank. However, the World Bank estimates that the developing countries have an annual infrastructure requirement of US $1 trillion and the New Development Bank can fulfill some of these needs. There already exist regional banks which serve this responsibility, namely, the Inter-American Development Bank (IDB), Asian Development Bank (ADB), Corporación Andina de Fomento (CAF) and the African Development Bank (AfDB). These banks cater to specific regions while the New Development Bank would primarily serve its members who are geographically diversified.

With 40 per cent of the global population, more than twenty percent of the world's GDP and 17 percent of global trade, the BRICS countries have become important players in the global economy. However, they account for only 11 percent of IMF votes. The second-largest economy in the world, China, has less voting power than considerably smaller countries and economies.

Inspite of the BRICS countries' insistence on getting a larger share of votes, the US Congress has failed to ratify an agreement that would allow more voting shares to the BRICS countries. This must have led to increased disappointment and frustration among the BRICS members that induced them to set up their own development bank.

The budget of the New Development Bank is quite less compared to that of the World Bank's US $232 billion and the Asian Development Bank's US $165 billion. Therefore, it is possible that its impact on infrastructure financing and poverty reduction may not be sufficient for the BRICS countries, let alone other developing countries. However, any positive impact that this new bank may have will be beneficial for economic development in these countries. The new bank can always complement the operations of the existing institutions, including the World Bank.

It is possible that a development bank that is financed and managed by large, developing countries may understand the needs of developing countries better. This may allow them to better plan and coordinate infrastructure financing and poverty reduction programs. Then, it is possible that the New Development Bank may achieve better results in infrastructure financing and poverty reduction in the developing world.

A potential issue for the bank is the diversity among its members. While China is the second-largest economy in the world, South Africa has an economy that is close to US $400 billion. This suggests that the needs and priorities of the BRICS countries may considerably differ when it comes to infrastructure financing and poverty reduction.

These differences may always lead to contention among the BRICS countries. Also, the BRICS countries differ in their political systems. While Brazil, India, Russia and South Africa practice democratic systems of governance, China has a communist government. The different types of government of the respective BRICS countries may lead to problems in management and operations of the development bank.

Again, the structure of the economies of the BRICS countries vary too. While Brazil and Russia rely significantly on natural resource extraction, the Chinese economy relies more on manufacturing. The differences in the structure of the economies would require different types of infrastructure financing, which may again lead to contention among the BRICS members. Moreover, the relatively larger BRICS members may try to weld undue influence on the policies and operations of the bank; this may again lead to problems in the management and operations of the bank.

The emergence of a development bank financed and managed by large, developing countries may lead to polarization in international finance. Unlike the World Bank or the IMF, the New Development Bank would mostly serve the BRICS countries. This may lead to polarization in the international finance arena between the developed economies and large, developing countries.

It is especially true with the Contingent Reserve Agreement (CRA). If the BRICS members try to move away from the established systems of finance or try to replace the US dollar as the global currency with their own currencies, it may lead to polarization and tension in the international financial system. Any polarization in international finance may have negative impacts on the practice and expansion of globalization and free trade. Also, polarization in international finance may pave the way for political polarization which is never conducive for global stability and peace.

A bank that is financed and managed by large, developing countries may lead to large, emerging economies overshadowing and sidelining small, developing countries that may have greater need for infrastructure financing and poverty reduction. This may have deleterious effects on infrastructure development and poverty reduction in the regions that are most hard-pressed for economic development.

The New Development Bank is a welcome addition to the financial institutions that operate to help economic development. The bank may have meaningful impact on infrastructure development and poverty reduction not only in the BRICS countries but also in other developing countries. At the same time, the bank has to be cognizant of the potential pitfalls that may exist in the operation of such a bank. Overall, careful running of the development bank may usher in important benefits for the developing world, especially the BRICS countries.