Wednesday, 20 May 2015

Li goes LAC: China´s Latin Role

China´s Premier Li Keqiang has just started his tour through Latin America (shorthand LAC, to include the Carribean), with promise of US$ 50 billion in infrastructure investment. LAC pins high hopes on broader and stronger China engagement on the continent. After a great first decade this century, the region is not doing well, give and take some cross-country differences in economic performance. But while China´s Latin role is definitely rising, it is likely to remain relatively limited, I will argue here.
LAC is already highly exposed to China: The cooling of China’s economy, a major driver of global growth, has sparked a commodities glut that has left LAC exporters of soybeans, crude oil, iron ore and copper with lower prices and export receipts. LAC growth has become increasingly China-centric over the 2000s[1]. But beyond the simple mechanics of growth linkages, the impact of China´s ongoing rebalancing away from hard equipment investment could be as significant as the impact of its growth moderation for many economies in Latin America that are materially reliant on commodities exports for growth.
A growth model that is dependent on investment is also commodity-dependent (or at least biased towards the use of industrial and energy commodities such as copper, oil and iron ore), while a consumption-led growth model would be less commodity-intensive. The rating industry has taken note of LAC vulnerabilities caused by China growth dependence: “The LatAm sovereigns that are more exposed to a slowdown in China … are Chile (Aa3 stable), Venezuela (Caa3 stable), Peru (A3 stable), Uruguay (Baa2 stable) and Brazil (Baa2 negative)”.[2] In 2013, Chile´s exports to China for instance totaled 7.4% of its GDP, mostly copper. Between early 2012 and early 2015, the copper price dropped by half as China´s investment led growth started to slow. The corresponding income effect of lower terms of trade must have been very strong indeed. Chile´s annual income windfall over the past 40 years, almost two percent of GDP[3], has turned into heavy losses until recently when copper prices have started to climb back up. Brazil government finances, with its economy contracting by about 1% this year, felt forced to cut funding to national development bank BNDES, a traditional source of cheap financing for infrastructure projects.
With government finances running dry, LAC is therefore trying hard to woo Chinese investment. Deep Chinese pockets are projected to cut transport channels from the Atlantic to the Pacific oceans. Infrastructure investments, such as a rail link from Brazil to Peru´s Pacific Coast, are required to lower transportation cost in view of higher LAC-China trade ($240bn in 2014). A Nicaragua-crossing interoceanic canal is being estimated to trigger $50bn of Chinese investment to Central America. Trade links are also important beyond raw materials as LAC is interested in pushing manufactured and services (tourism) exports to China. China has now surpassed the US as Brazil´s biggest trade partner, and hopes are for diversification and value-added enhancement.
Meanwhile, China has to deploy excess savings and to employ excess Chinese infrastructure-building capacities.  That is why China is wooing mining concessions in LAC. In a broader global context, China has experienced a diplomatic transformation. Chinese diplomacy has evolved from “keeping a low profile” to “proactive and enterprising”. China’s “One Belt, One Road” (OBOR) strategy and her 21st Century Maritime Silk Road target developing countries. After Asia and Africa, it is now LAC´s turn.  Geopolitics comes in via intensified travel diplomacy (Xi Jinping 2014 in Argentina, Brazil, Cuba and Venezuela, now Li Keqiang in Brazil (again), and also Chile, Colombia and Peru; summitry (e.g., CELAC-China ministerial early 2015 in Beijing; BRICS summits) and cooperation plans such as the China-LAC cooperation plan 2015-19. China is opening scholarships and training opportunities (both 6000) to LAC. For some countries (Venezuela, Ecuador, Argentina), China has assumed lender-of-last-resort functions.

Despite big announcements and high hopes, however, China´s Latin role will is likely to remain limited compared to Asia and Africa. Here are some barriers to China´s engagement:
·         China is growing increasingly worried about the model of lending secured against commodities. Last year, Chinese loans to Latin America reached $22 billion, surpassing the combined lending of long-established institutions such as the World Bank and the Inter-American Development Bank, according to estimates from the Inter-American Dialogue. But default concerns have been creeping in. Venezuela, for instance, has borrowed more than $56bn from China, mostly from the China Development Bank, but a steep drop in crude prices has added to stress on its already ailing economy. Argentina´s government, facing severe dollar shortages and a protracted legal dispute with U.S. creditors, has repeatedly turned to Chinese credit to bolster depleted foreign currency reserves. Growing concerns over its financial exposure to socialist-leaning South American partners such as Venezuela and Argentina are pushing for diversification of Chinese finance in the region[4].
·         LAC is traditionally part of US sphere, and that will well limit China-LAC ties. A Chinese perspective The Diplomat, 31-03-2015: “Culturally, Latin America has been part of Western civilization. Geographically, it borders the U.S., thus the regional economies are closely tied to the United States’. Some Latin American countries rely on the U.S. for security or are deeply influenced by the U.S. Meanwhile, the U.S. considers Latin America as its “backyard” and has a great impact on, or even dominates, some Latin American countries’ domestic and foreign affairs. U.S. influence is wielded through the Organization of American States (OAS), the Inter-American Development Bank, bilateral economic cooperation and assistance, multinational corporations, military aid, and even military intervention. When it comes to Latin America and the Caribbean, U.S. tolerance for China to expand partnerships and economic interests within this region is one thing; the development of military and security ties is quite another. Conversely, China could set up security and military alliances with African states if necessary, as that continent is far less influenced by the U.S. and Europe.”[5] The recent warming of Cuba-US relations must be viewed as a US response to China´s advance in America´s traditional backyard, I think.
·         Finally, both Latin America and Africa are less important than Eurasia in China’s OBOR strategy. And the China-Latin America relationship is of less significance than China-Africa ties, considering the factors of geographical distance, the United States’ great influence, weak economic ties, cultural differences, and a lack of ground transportation. Additionally, the relationship between China and Africa has developed for more than half a century, while economic ties between China and Latin America have only taken off in the past two decades.
Put in perspective, while China´s Latin role is clearly on the rise –  very visibly this week – it is likely to remain relatively limited.

[1] For evidence, see Christopher Garroway & Burcu Hacibedel & Helmut Reisen & Edouard Turkisch, 2012. "The Renminbi and Poor‐country Growth," The World Economy, vol. 35(3), pages 273-294, 03.
[2] Moody´s Investor Service, 2015. “Latin America: Vulnerability to China Growth Slowdown Vary by Sector”, Special Comment, 4 February.
[3] Gustavo Adler & Nicolas Magoud, 2013. „Four decades of terms-of-trade booms”, Voxeu, 4 July.
[5] Xue Li and Xu Yanzhuo, 2015. „Why China Shouldn´t Get Too Invested in Latin America”, The Diplomat, 31 March.

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