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Emerging markets have to choose sides

What happened?

Last week, U.S. President Trump nominated David Malpass as president of the World Bank, as the U.S. is historically allowed to choose the head of the World Bank (although there is a formal application procedure). Trump’s nomination falls in line with his anti-China rhetoric and critique of multilateralism, as Malpass has criticized the World Bank before. Speaking before a House Financial Services committee in November 2017, he objected to the World Bank’s “corrupt lending practices” and he recently said at a Council on Foreign Relations forum that the organization should cut funding to China and its allies.

What does this mean?

The International Monetary Fund (IMF) and World Bank were founded at the 1944 Bretton Woods Conference that was led by economist John Maynard Keynes and aimed to create a new global economic and international monetary order. These institutions were crucial in building the world order the U.S. wanted to establish as it rose as the global hegemon in the wake of the Great Depression and two world wars. The U.S. still holds the largest voting powers in these institutions. However, with Trump’s isolationist policies and the rise of China, Chinese-led alternatives have emerged as alternatives to Bretton Woods institutions in recent years, such as the Asian Infrastructure Investment Bank, Shanghai Cooperation Organization, the New Development Bank, or the BRICS Contingent Reserve Arrangement.

What’s next?

Emerging markets with economic struggles used to seek help from the World Bank or IMF, which provided loans and aid in exchange for reform and austerity. Now, China is increasingly stepping in by providing loans and investments across the world, such as in Pakistan, Zimbabwe and Venezuela. However, it is becoming ever clearer that Chinese aid comes with tough and opaque terms and conditions, as we wrote three years ago. As such, this challenges the World Bank’s and IMF’s core competence: assessing debt sustainability and reform advice. This puts emerging markets in a bind between Bretton Woods institutions on the one and Chinese aid on the other hand, as the basic trade-off boils down to providing transparency about their Chinese aid and risking Chinese fury, or giving in to China’s demand of veiling the terms and conditions and losing support from the traditional “lenders of last resort”. As a result, more hawkish heads of Bretton Woods institutions will set more stringent financial conditions for emerging markets, who will then be forced to choose sides in the U.S.-Chinese geopolitical power play.