China’s shrewd bet on intercontinental rail, Jonathan Hillman

China’s shrewd bet on intercontinental rail

Trains will lose money but Beijing plans to profit politically

Jonathan Hillman  March 28, 2018

It is tempting to believe the old Silk Road is being revived by locomotives. The first rail service from Amsterdam to China began this month, expanding a network that China has made a signature feature of its Belt and Road Initiative. Such services, spanning continents and regions, have grown significantly in recent years, but recent research suggests that like other aspects of the BRI, their economic importance is less game-changing than advertised.

In his speech at the Belt and Road Forum last May, Chinese President Xi Jinping touted China-Europe rail services as an example of practical cooperation along the BRI routes. Chinese state-media heavily promote the announcement of a new service and rattle off impressive growth statistics.

Even countries that have been reluctant to endorse the BRI have embraced China-Europe railways. When a train from Yiwu, China, arrived in London in January 2017, The Telegraph newspaper called it "a new chapter in the history of the centuries-old trading route," and The Guardian said it "heralds the dawn of a new commercial era."

To be sure, China-Europe railways have improved significantly in recent years. Virtually non-existent a decade ago, regular services now connect roughly 35 cities in China with roughly 34 cities in Europe. In 2006, it took 36 days to ship a 40-foot container by rail from Shanghai to Hamburg in Germany. The same journey by rail now takes just 16 days.

Those gains have captured imaginations, but the China-Europe railways will not capture enough trade in the coming years to fundamentally change the broader economic picture. That suggests that China's primary motivation, particularly in the short term, may be political. Chinese officials have grasped that rail makes great headlines, with each new service strengthening the BRI's narrative about bringing China and the rest of the world closer together.

But the reality is that maritime trade is, and will remain, overwhelmingly dominant. During 2016, maritime shipping carried 94% of China-Europe trade by weight, and nearly two-thirds of trade by value. Air freight carried more than 13 times the value of goods than rail.

Standing in the way of greater success is the China-Europe trade imbalance. Roughly 60%-70% of railway shipments are westbound, leaving only 30%-40% of shipments eastbound. On eastbound trips, it is not uncommon for containers to be empty. Other containers are sent back by sea.

The future of rail subsidies is a critical factor. Chinese subsidies can range from $1,000 to $5,000 for each 40-foot container, accounting for up to half the total cost. Some logistics experts believe these subsidies could be phased out in 2018 or 2019, while others see President Xi's term in office as the primary determinant.

China may continue paying for quite some time. Our rough estimates suggest that if rail volumes double between 2017 and 2027, and China reduces its subsidies to $2,500 per 40-foot container, its annual subsidies tab could approach $927 million. Given the political importance China has attached to these routes, this spending could be justified as advertising for the BRI.

Further infrastructure investments will be required as well. There have been some improvements in recent years, including a relatively new dry port at Khorgos, on the China-Kazakh border, that processes trains 20 hours faster than an older terminal on the same frontier.

But as traffic increases, each terminal where rail gauges change is a potential bottleneck. Improvements are also needed in Europe, where rail systems are older than China's and projects often take longer to complete. In the meantime, delays remain a major risk for China-Europe trains, the main selling point for which is speed.

The biggest winners are likely those most closely involved with these new services. Railway manufacturers, owners, operators, logistics firms and freight forwarders all stand to gain. A set of businesses will benefit from lower inventory costs. Among cities, those located on the routes and inland, further away from the coastlines, are likely to see the most gains. China itself stands to benefit politically as well as commercially if these routes become sustainable.

But the overall impact of these changes will be modest. The vast majority of the geographic space the railways pass through will experience no difference. Despite the Silk Road's popular appeal, the emergence of China-Europe railways does not signal the return of a world in which overland trade dominates. The railways have found speed, but their scale remains limited.

Of course, rail is not the entirety of the BRI. The political-economic logic driving China's trains will not necessarily apply to its many other projects, including air, maritime, energy and telecommunications links. Some will be profitable, even in narrow financial terms. Others may be commercial white elephants. Only time will tell. But new China-Europe rail services suggest that for the BRI, financial considerations are far from decisive.

Jonathan Hillman is director of the Reconnecting Asia Project at the Center for Strategic and International Studies in Washington, D.C.

https://asia.nikkei.com/Politics/International-Relations/China-s-shrewd-bet-on-intercontinental-rail