Taming the Dragon
No. 1 2015 January/March
Alexandr Gabuev

Senior Fellow and Chair of the Russia in the Asia-Pacific Program, Carnegie Moscow Center.



e-mail: [email protected],
Postal address: 16, Bldg. 1, Tverskaya Str., Moscow 125009, Russia

How Can Russia Benefit from China’s Financial Ambitions in the SCO?

Russia has for several years been blocking the creation of a Development Bank of the Shanghai Cooperation Organization (SCO) in a bid to softly restrain China’s financial expansion to Central Asia. Meanwhile, China’s financial presence in the region is growing for natural reasons, but because of Moscow’s policy this is happening in a way that is most disadvantageous for Russia. Central Asian countries borrow money directly from Beijing on its terms. As a result, China’s credit expansion is not only beyond Russia’s control but it is also completely obscured from it. In addition, Moscow’s partners are increasingly dissatisfied with its policy that prevents them from borrowing money on more favorable terms and at lower risks.

Moscow can use its chairmanship in the SCO in 2015 to reverse this trend. At the summit in Ufa, Russia should give the green light to the establishment of an SCO Development Bank where China would have a greater share in the authorized capital and take dominant positions in the management bodies. In exchange, Moscow could coordinate investment principles on terms that would be most favorable to itself and its partners. In this way, the SCO Development Bank could be turned into a successful model of “taming” financial ambitions of the rising superpower, using China’s concept of “harmonious world” and its assurances not to copy the United States’ behavior in international financial institutions.


Ever since the SCO was established in June 2001, Russian and Chinese officials have kept saying that there is, and there can be, no competition between Beijing and Moscow for influence in the organization. In their public statements, the leaders of the two largest SCO member states never mention their possible rivalry in the organization or in Central Asia. Official documents (for example, Russia’s Foreign Policy Concept, updated in February 2013) describe the SCO as an example of a regional organization that heeds the interests of all its members. Mid-ranking diplomats in public always reject the very idea that China and Russia can be competitors in the region. A typical example of that is the speech by the acting director of the Chinese Foreign Ministry’s European-Central Asian Affairs Department, Gui Congyou, to Russian journalists on November 21, 2014. “Russia and China are not competitors in Central Asia or in the SCO,” the Chinese diplomat said. “We have broad common interests in Central Asia, and our goal is strengthened stability in the region and assistance to regional states in developing their national economies. Claims about rivalry within the SCO are the work of the Western media maliciously seeking to drive a wedge into relations between the two countries.”

However, speaking off the record, both Russian and Chinese officials admit that the interests of the two largest geographic neighbors in Central Asia do not always coincide. This factor inevitably affects the SCO’s efficiency. Other SCO members also point to disagreements between Moscow and Beijing, which they describe as the main obstacle in the way to the organization’s successful development. Since decisions in the SCO are made by consensus, covert disputes between the two largest countries can paralyze its work in many areas.

Cooperation in security issues is what the SCO does best. After China and former Soviet republics successfully resolved their border issues, it was the security sphere that required the greatest joint efforts. The interests of all countries in this respect either coincide or are very close. Moscow is interested in retaining its military presence in Central Asia as a means of influencing regional affairs, restraining U.S. influence in regions south of Russia, and preventing the penetration of Islamic radicalism from Central Asia into Russia. For China, the main security challenges stem from the restless Xinjiang-Uyghur Autonomous Region. Beijing is interested in keeping stability on its borders and in fighting Islamists in Central Asia. In addition, the region is becoming an important source of natural resources for the Chinese economy and has vital communication lines (oil pipelines from Kazakhstan, a gas pipeline from Turkmenistan, railroads and highways), and their security is critical for China. For Central Asian countries, Islamist organizations pose a major threat to their authoritarian rulers and internal stability. They need strong external allies (without a “democratic agenda” though) to fight this threat.

Russia, with its regional military bases, plays the leading role in this construct, which draws no objections from other players. Central Asian countries simply do not have enough resources to effectively maintain their own security (except for Kazakhstan, but it can do that only on its own territory). China would willingly shift the financial burden of protecting its interests onto the Russian budget. In addition, Beijing has been highly reluctant to open military bases abroad, especially in Central Asia, for fear of provoking growth of the already strong anti-Chinese sentiment there. The SCO, with its Regional Anti-Terrorist Structure and its concept of fighting “three evils” (terrorism, extremism, and separatism), provides a platform for coordinating interests between China and the Moscow-dominated Collective Security Treaty Organization. It is not accidental that military exercises held under the SCO auspices always involve Russian and Chinese troops, with a token participation of the military from other member countries.

But in areas where the interests of Moscow and Beijing differ, cooperation between them develops much slower or is completely non-existent. For example, attempts to revive the SCO’s “economic dimension” in recent years have brought no success. Fearing China’s large-scale economic expansion, Russia has always tried to shelve the idea of a free trade area within the SCO, first voiced by Beijing in the early 2000s. In particular, Russian officials said it was untimely to discuss this issue until all SCO members joined the WTO (Kazakhstan, Tajikistan and Uzbekistan are not WTO members). To counterbalance China’s free trade area project, Moscow worked to strengthen the EurAsEC first, then the Customs Union and now the Eurasian Economic Union. But nothing, perhaps, illustrates the differences between Moscow and Beijing better than discussions over the creation of an SCO Development Bank.


The proposal to create an SCO Development Bank was made public in November 2010 by then-Premier of China Wen Jiabao at a meeting of the SCO Heads of Government in Dushanbe. The idea had been discussed in the SCO before, too. In the mid-2000s, member countries tried to fill the organization agenda with economic content in order to move away from positioning the SCO as a purely political organization. Lack of progress on the free trade area issue caused the SCO leaders to consider joint projects. By 2009, about 100 projects had been proposed by the SCO Business Council and the national Chambers of Commerce and Industry. When the issue of funding arose, Beijing came up with the idea of establishing an SCO Development Bank.

The project was promoted by then-Chairman of the China Development Bank Chen Yuan, who headed the bank for 15 years (1998-2013), an unprecedentedly long period of time for Chinese state-owned companies. His strong position as head of the main political bank of China, whose assets reached 8.2 trillion yuan (over $1.3 trillion), was largely secured by the fact that his father, Chen Yun (1905-1995), was one of the key Chinese leaders in the 1980s, actually the second most influential person in the Communist Party and the state after Deng Xiaoping. According to Chinese financiers and diplomats, Chen Yuan hoped to head the SCO Development Bank after his planned resignation as Chairman of the China Development Bank. Considering Chen’s great formal and, especially, informal weight in the country’s hierarchy, Chinese leaders began to actively promote this project.

In post-crisis 2009, Chinese President Hu Jintao at an SCO summit in Yekaterinburg promised preferential loans worth $10 billion for member countries. The loans were to be issued by the proposed SCO Development Bank. In addition to providing loans for specific projects, Chinese negotiators proposed setting up an anti-crisis fund, to be managed by the bank, to cover a budget or balance of payments deficit of any member country, if needed. In fact, the SCO Development Bank was seen as a miniature copy of the World Bank and the International Monetary Fund for the SCO. Chinese negotiators proposed forming the bank’s authorized capital from proportional contributions by each participating country. The size of a contribution would depend on the size of a member country’s economy (valued in nominal GDP or purchasing power parity), which would also determine the parties’ shares in the bank’s capital and the number of votes they would have in decision-making (the IMF has a similar management system). If those rules had been adopted, China would have got a dominant position in the new institution. According to the World Bank’s figures for 2013, China’s nominal GDP stood at $9.24 trillion, whereas the aggregate nominal GDP of Russia, Kazakhstan, Uzbekistan, Tajikistan, and Kyrgyzstan was less than $2.4 trillion (of which Russia accounted for about $2 trillion). Under the proposed scenario, Beijing would have had almost 80 percent of votes. Calculating contributions by PPP would not have made much of a difference. As the Chinese economy keeps growing, albeit slower than before (7.4 percent in 2014 compared to 10.5 percent on average in the 2000s), the tendency is clearly not in favor of post-Soviet countries.

Russia found the Chinese proposal unacceptable as it would have given Beijing full control over the new bank (China also suggested that the bank be headquartered in Beijing or Shanghai). As an alternative, Moscow proposed creating the SCO Development Bank on the basis of the existing Eurasian Development Bank (EDB), established in 2006 with the authorized capital of $7 billion (of which $1.5 billion have already been paid). The EDB is dominated by Moscow and Astana, with Russia holding a 65.97 percent stake and Kazakhstan, 32.99 percent. The bank is headquartered in Almaty and its board is chaired by a Russian official. Moscow invited Beijing to acquire a share (to be agreed later) in the bank’s capital, with Russia keeping at least the blocking stake. This official proposal from Moscow still holds. “Russian financial experts believe that creating an SCO Development Bank on the basis of the successfully operating Eurasian Development Bank would be the most effective solution,” Sergei Lavrov said after a meeting of the SCO foreign ministers in Dushanbe on July 31, 2014. However, China rejected the proposal. The formal reason for that decision was that EDB members include Armenia and Belarus which are not SCO members (Belarus has only dialogue partner status in the SCO).

There has been no progress on the SCO Development Bank issue for five years. The SCO passes one resolution after another, pointing to the need for such a bank, but it still remains on paper. The Russian bureaucracy offers two reasons for this situation. First, the Russian Foreign Ministry, the presidential administration and the government believe that in this way they can effectively contain China’s credit expansion in Central Asia, which may otherwise undermine Russia’s position. Another important player, the Russian Ministry of Finance, does not want to reserve funds for a project which it considers political. In any case, the status quo suits Moscow and for a long time suited its partners in Central Asia too. In June 2011, the head of the Kazakhstan Development Bank, Nurlan Kussainov, told the newspaper Kommersant that Astana would not take any position but would prefer to wait until the two largest SCO economies reached agreement. Other SCO members held a similar view until recently. However, starting in 2012, discontent with Russia’s position has been growing, spilling over into public statements. Kyrgyz President Almazbek Atambayev has been especially vocal. In informal conversations many officials and bankers from other Central Asian countries, especially Kazakhstan, also express their irritation at Moscow’s “unconstructive position.”

The reason for their concern is understandable: Moscow’s torpedoing the SCO Development Bank idea not only fails to contain Beijing’s credit expansion in Central Asia but also allows it to take a form that is most unpleasant for countries in the region. In the absence of a multilateral institution with clear rules, as the SCO Development Bank could be, Central Asian countries have to turn to China for loans and negotiate with it one-on-one. As China is not bound by any legal commitments in such negotiations, it can easily push through its own terms. This process intensified after the global crisis of 2008-2009. The economic crisis in Russia and the fall of oil prices, which affects all, make the issue of access to Chinese loans increasingly important for the region.


After the Soviet Union’s breakup, Russia for many years remained the principal economic player in Central Asia. There were several reasons for that: the region’s infrastructure was linked to that of Russia; their industries were interdependent and they had similar business practices and expertise since Soviet times; and world hydrocarbon prices remained low. All this made the region unattractive to foreign investors. By 2001, when the SCO was created, Russia was the largest creditor and trading partner for all countries in the region.

However, in the 2000s the situation began to change. Global prices of raw materials, including hydrocarbons, started to grow, generating stable interest in the region among major consumers, above all China. Whereas previously Russian pipelines provided the only access to the world market for Central Asian hydrocarbons, in the early 2000s Beijing began to lay its own pipelines. An oil pipeline from Kazakhstan was commissioned in 2006, and the first string of a gas pipeline from Turkmenistan to China was put into operation in 2009. Russia watched these developments calmly. It sought to preserve its share in the EU energy market and did not want potential competitors to have any incentives to build pipelines to Europe bypassing Russia. The emergence of the alternative Chinese market for Central Asian countries seemed beneficial at that time. As a result, their trade with China began to grow.

The situation changed drastically in 2009, at the height of the global financial crisis which caused a temporary decline in oil prices. Russia, experiencing a 7.9 percent fall of its GDP and an acute liquidity crisis, was unable to give loans to its partners in Central Asia. The region found help in China, which has been continuously increasing its share in Central Asian countries’ balance of trade and extending more and more loans to the region’s economies ever since. The most typical example is Kazakhstan, the largest economy in Central Asia and the third largest economy in the SCO after China and Russia. China’s share in Kazakhstan’s foreign trade is growing. According to the Kazakh Ministry of Economy, during the last five years China has steadily been the country’s second trading partner after Russia (if we do not consider the EU a single economy). For example, in 2013, Russia accounted for 17.9 percent in Kazakhstan’s foreign trade, and China (including Hong Kong and Taiwan), for 17.2 percent (Chinese statistics cite higher figures, making China partner number one for Kazakhstan in 2012).

Beijing is already well ahead of Moscow in terms of lending. “The situation in Kazakhstan was not as critical as in other post-Soviet countries, yet we had difficult times,” Kazakhstan’s then-Minister of Economy Kairat Kelimbetov (now Governor of the National Bank of Kazakhstan) said in an interview with Kommersant in August 2011. “We used the reserve fund and asked Russian and Chinese development institutions for help. Previously, we had had almost no contact with China in borrowing terms. Before 2009, we had had one small project, worth $100 million, with Chinese banks. And now it is $13-15 billion.”

According to the National Bank of Kazakhstan’s report of September 30, 2014, the Kazakh national and corporate debts to China stood at $15.75 billion, and those to Russia at $4.98 (the total foreign debt of Kazakhstan amounted to $155.16 billion). The bulk of this debt was generated by several major oil and gas projects involving China National Petroleum Corporation (CNPC). Although official statistics may not be completely accurate (the Eurasian Development Bank estimates Russian loans to Kazakhstan at $7 billion), nevertheless, there is a clear tendency towards China’s growing presence in the Kazakh economy, including loans and credits, especially in view of prospects for the Russian and Chinese economies (the former is  expected to decline by 4.5 percent of GDP and the latter to grow by more than 7 percent). Moreover, in some cases Chinese loans already replace Russian ones in Kazakhstan. For example, Russia’s Vnesheconombank (VEB) was to extend loans for the construction of the third unit of the Ekibastuz GRES-2 power station. However, in 2013 the bank, which by that time had used up its resources for financing the construction of Olympic facilities in Sochi, reached an agreement with the China Development Bank to use its funds for the project.

The national banks of Kyrgyzstan, Tajikistan and Uzbekistan do not publish figures on their debts to specific foreign partners. However, their credit relations with China may follow the Kazakhstan scenario, given the growing volume of their trade with China, planned investment projects with Chinese participation, and the deteriorating state of the economy of their currently largest partner, the Russian Federation.

Chinese loans are becoming an increasingly important factor for the Russian economy as well. The Bank of Russia does not publish statistics on debts to Chinese financial institutions and companies, but judging from public statements about deals between Russia and China, Russian companies owe tens of billions of dollars. As with Central Asian countries, the financial crisis of 2008-2009 served as the catalyst. In 2009, Russia and China concluded a momentous deal, under which the China Development Bank extended $25 billion worth of loans to Rosneft and Transneft. In exchange, the Russian companies will supply 15 million tons of oil a year to China for 20 years. Russia’s dependence on Chinese loans kept growing ever since. This happened even before the crisis in Ukraine and the Western sanctions which denied Russian companies access to their habitual capital markets in the EU and the U.S. For example, in 2013 Rosneft reached an agreement with CNPC for an advance payment of $60 billion in exchange for future Russian oil supplies. Major Russian banks, especially VEB and VTB, also increased borrowing from state-owned Chinese banks. Now, with the sanctions in effect, China is becoming, perhaps, the only possible source of foreign loans for Russia. This refers, above all, to Chinese state banks, given a very cautious position of Chinese and Hong Kong private investors towards Russia.

The previous experience of Russia’s contacts with Chinese lending institutions cannot be described as simple. Russian officials and managers of state-owned companies in private conversations admit that Chinese are very tough negotiators. Now that the sanctions have increased potential risks for lenders and narrowed room for maneuver for Russian borrowers, Beijing can actually dictate any terms. So in the present circumstances Moscow must be interested more than anyone else in creating a transparent mechanism for access to Chinese loans and establishing clear rules of the game. A SCO Development Bank could be such a mechanism.


Further steps blocking the creation of a SCO Development Bank by Russia can bring more problems than gains. Beijing’s credit expansion in Central Asia will keep growing. In the absence of a SCO Development Bank, many projects in Central Asia are financed by China directly, and Moscow is not only unable to control this process but also has no information about the details of the loan agreements made.

Clearly, China will never agree to join the Eurasian Development Bank as a junior or even equal partner of Russia. So, when creating the SCO Development Bank, Russia will have to agree to the following key terms: Chinese dominance in the capital, the location of the bank’s management bodies in Beijing or Shanghai and, consequently, a large number of Chinese citizens among bank employees. Russia should focus its diplomatic efforts not on trying to change these parameters, which are fundamental for China (these efforts are bound to fail), but on drafting regulatory documents for the bank to best meet its own interests and those of its partners in Central Asia. This can be done if Russia insists on the inclusion in the bank’s future Regulations and Investment Guide of the best practices used by the World Bank, the Asian Development Bank, the EBRD, and other similar institutions to better meet the interests of loan recipients. The documents may include provisions on preferential rates, mandatory presence of local contractors for projects (and a minimum amount of work to be done by local companies), strict compliance with environmental legislation, the level of technology transfers, and many other details which would allow Russia and Central Asian countries to get maximum benefits from Chinese loans.

The chances that Beijing will agree to jointly set the rules of the game to meet the interests of the partners are quite high. China is now creating many platforms to grant foreign countries access to its loans: these include the BRICS Development Bank, the Asian Infrastructure Investment Bank, and the Silk Road Fund set up to finance projects within the framework of the Silk Road Economic Belt. Beijing has not yet positioned these platforms as alternatives to Bretton Woods institutions, but Chinese officials and experts often say that in these new organizations China will not seek to dictate its terms to its partners as the United States does in the IMF and the World Bank. In this way the Chinese authorities seek to demonstrate the advantages of the Beijing Consensus over the Washington Consensus, and to prove the effectiveness of the “harmonious development” formula proposed by the previous Chinese president, Hu Jintao.

Russia can and should use this attitude of China in creating a SCO Development Bank. China’s position as an “elder brother” in this multi-party club will be even beneficial to other members. The tough and aggressive manner in which Beijing may seek to push through its terms will be seen by all in an international institution, and will mean the loss of its face, calling into question the attractiveness of other multilateral institutions proposed by China. It can be expected that China will be interested in playing by the rules established by all partners, acting like a sage. Russia, in turn, can take in the SCO Development Bank the comfortable position of a mouthpiece for all junior partners, whose opinion must be heeded by the senior partner in line with Confucian philosophy.