Summary:
• China is now the second largest trading partner of Latin America and the Caribbean (LAC). The region plays a strategic role in ensuring its supply of raw materials. LAC exports to the Asian giant are therefore heavily concentrated in low value-added products (primary sector).
• China is an increasingly important financial partner for the region (sovereign loans and foreign direct investment (FDI)), although the European Union (EU) and the United States remain the main investors. Chinese FDI and loans are more focused on raw materials but are diversifying.
• The change in the Chinese model (relying more on domestic consumption) and the expected slowdown in economic growth and demand for raw materials are an opportunity to rebalance trade relations.
• The deployment of China’s sometimes controversial economic diplomacy raises many questions about its impact on Latin American and Caribbean countries.
Over the past two decades, China has significantly strengthened its presence in Latin American and Caribbean (LAC) countries. The world’s second largest economy has become a strategic trade and financial partner for the region. This growing prominence invites us to reflect on the impact it is having. Does China’s presence represent an opportunity or a threat for the region? The question is all the more important given the mixed performance of many Latin American countries in recent years (average GDP growth rate close to 0% in 2019, growing social and political tensions, rising poverty rates, etc.).
1. Growth and imbalances in bilateral trade relations
An analysis of bilateral trade reveals the rise of China, which is now LAC’s second largest customer and second largest supplier. Indeed, China now accounts for 12% of the region’s exports and 18% of its imports. Between 2004 and 2019, LAC exports and imports increased tenfold and 7.6-fold, respectively. Some countries, such as Chile and Peru, are particularly dependent on China, which accounts for 31% and 29% of their exports, respectively (vs. 1.5% in the case of Mexico). In addition, bilateral trade in goods is characterized by a structural deficit for LAC. After reaching a historic peak in 2015 (€84 billion), the deficit has declined but remains high (€55 billion).
Figure 1: LAC-China trade in goods (€ billion)
Source: Trademap (International Trade Centre – agency of the WTO and the United Nations)/ Prepared by: BSI Economics
More specifically, after several years of deficit, South America has managed to return to a trade surplus with China (€22.3 billion in 2018), while the rest of the region (mainly Mexico) continues to see its trade balance deteriorate (€68 billion in 2019). If we analyze the situation country by country within the region as a whole, we see that only four of them, all located in South America, have a surplus (Brazil, Peru, Chile, and Uruguay). This situation can be explained by the fact that Latin American and Caribbean exports consist mainly of raw materials that the world’s second largest economy needs so much, and it is in South America that the main producing countries of these products are found, while others, such as Mexico, are more specialized in industrial products.
At the same time, the composition of LAC exports to China shows that they are concentrated on a limited number of low value-added products (largely raw materials). This growing phenomenon is much more pronounced than in LAC exports to the rest of the world (see Tables 1 and 2). This raises questions about the environmental impact of the exploitation of these raw materials and the volatility of world prices (risk of a sharp deterioration in the terms of trade).
Tables 1 and 2: Composition of exports from Latin America and the Caribbean (LAC)
China is also a competitor to Latin American countries in other markets. Mexico, for example, has suffered from crowding out and lost opportunities in the US market to China. Between 2001 and 2019, the Asian giant’s share of US imports jumped from 9% to 18.4%, while Mexico’s share increased more moderately from 11.5% to 14.1%. Productivity growth (+250% between 2004 and 2019 in China vs. 0% in Mexico for the labor factor), increased value added, and low labor costs in China have enabled it to establish itself as the main supplier to the United States. However, the trend is reversing, as since 2018 China’s market share has been declining, unlike Mexico’s, due to the narrowing of wage costs between the two countries and Donald Trump’s protectionist policy. The latter has less impact on Mexico, which benefits from privileged access to the US market (free trade agreement).
2. The ambivalent effects of Chinese investment and financing
Sovereign loans geared towards the least creditworthy countries and raw materials
From 2005 to 2019, the China Development Bank (CDB) and the China Export-Import Bank granted USD 137 billion in sovereign loans to LAC. These loans are primarily targeted at countries with relatively poor credit ratings (speculative grade), thereby compensating for their limited access to international financial markets (Venezuela (45%), Ecuador (13%) and Argentina (12%) and, to a lesser extent, Brazil, which nevertheless encounters fewer problems in obtaining financing (21%)). However, in the name of non-interference in internal affairs, China does not impose any conditions in terms of good governance. This concept, promoted in particular by the World Bank, aims to « help countries develop competent, effective, open, inclusive, and accountable institutions. » Conversely, the criteria favored by the Asian giant are the Chinese origin of the products used in the projects and the security of repayments (delivery of oil in return). In addition, these loans are concentrated in the primary sectors (68% in energy and raw materials).
Nevertheless, it must be noted that these loan flows have declined sharply and are now relatively low (USD 1.1 billion in 2019 vs. USD 12 billion for the Inter-American Development Bank (IDB) and USD 5 billion for the Latin American Development Bank (CAF)). Brazil has brought forward its repayments, Ecuador is attempting to reduce its debt (IMF plan and constitutional ceiling), and instability in Venezuela has prompted China to scale back its involvement.
The gradual diversification of FDI (foreign direct investment)
From 2015 to 2019, China’s share of total FDI projects in LAC amounted to 11.5%. Chinese FDI in the region is characterized by its greater concentration in raw materials, agribusiness, energy, and infrastructure. Conversely, the Asian giant plays a marginal role in high-tech foreign direct investment. This sectoral distribution reduces the benefits of FDI, since when it is directed towards the primary sector, it tends to create fewer jobs than investment in industry and services. Nevertheless, the country is gradually diversifying its investment portfolio, with the share of services rising from an average of 20% between 2002 and 2013 to 38% between 2013 and 2016. Renewable energy and infrastructure have also seen their share increase.
3. Outlook: towards a necessary rebalancing of bilateral relations?
The outlook for bilateral relations will be marked by changes in the Chinese economic model. The country’s growth is expected to gradually slow down and consumption of certain raw materials will soon peak (2025-2030 for oil), impacting the countries that export these products (Venezuela, Colombia, etc.).
However, the transformation of the Chinese economy is also a source of opportunity for the region. On the one hand, increased demand for consumer goods from the middle class (550 million people by 2023) could benefit Mexican industrial exports. On the other hand, the middle classes are diversifying and changing their diets (increased incomes, urbanization and rural exodus, improved logistics chains and food transport, etc.). Food consumption is expected to grow by 33% over the period 2015-2050 and will shift partly towards exotic fruits and high-quality animal products. South America, which has significant agricultural potential, could take advantage of this to increase and diversify exports in this sector to China, provided that it improves the quality and traceability of its agri-food production.
Finally, geopolitics is of paramount importance for the future of bilateral relations. LAC-China cooperation continues to strengthen, while the United States is pulling back, as shown by its withdrawal from the Trans-Pacific Partnership. Chinese economic diplomacy is based on the Silk Road project (which Costa Rica, Panama, Guyana, Cuba, the Dominican Republic, etc. have joined) and the Asian Infrastructure Investment Bank, which covers most of the region, with the notable exceptions of Mexico and Colombia (which are very close to the United States). It should be noted, however, that the consequences of this economic diplomacy are difficult to assess. The new Silk Road certainly improves transport infrastructure (ports, logistics, etc.), but with the aim of promoting Chinese exports and at the cost of heavy debt for the beneficiary countries (risk of financial dependence).
Conclusion
China has become a key partner for Latin America, both commercially and financially. However, these relations are largely based on the primary sector, which has mixed and ambivalent effects on the region’s development (negative externalities, low added value and technological content, modest job creation, etc.). This is why a rebalancing of bilateral relations is necessary in order for Latin America to reap the full benefits. In this regard, the emergence of the Chinese middle class represents an opportunity for LAC industrial and agri-food exports (currently concentrated on a small number of products such as soybeans). Furthermore, if it continues, the reorientation of Chinese FDI towards higher value-added sectors could have beneficial effects on the region. Beyond the growth in trade and financial exchanges, LAC hopes that the coming years will be marked by the diversification of bilateral relations.
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