China and Latin America Engaging Emerging Economies

Global Centre Stage

China’s increasing presence has ushered in some remarkable opportunities and challenges for Latin America’s top four emerging economies – Argentina, Brazil, Chile, and Mexico. But closer scrutiny suggests that China’s effect on Latin America is far from uniform. Rather, it depends on a given country’s factor endowments, institutional landscape, and the development trajectory underway within each economy. Carol Wise illustrates some of these differences

It would be difficult to exaggerate the sea change that has occurred within Latin America’s Emerging Economies (EEs) as a result of China’s phenomenal rise within the world economy over the past three decades. In particular, the region’s top four EEs – Argentina, Brazil, Chile, and Mexico – have seen an explosion of trade and Foreign Direct Investment (FDI) from China during the 2000s. While empirical analyses of the China-Latin America (LAC) relationship confirm that China still represents a small share of LAC’s trade and FDI inflows, China’s increasing presence has ushered in some remarkable opportunities (and challenges) for these countries.

First is the effect of China’s voracious demand since the early 2000s for raw material imports to fuel a new development stage. The resulting commodity lottery for Argentina, Brazil, and Chile has been soaring prices for soya, fishmeal, iron ore, copper, tin, zinc, and oil, which are abundant to varying degrees in these countries. Second, Chinese FDI has taken off in some of these Latin American EEs in ways that were simply unimaginable a decade ago. As of 2013, Chinese FDI in LAC was running at around $86 billion, and thus far these investments have gone largely toward resource extraction. Third, when these trade and investment trends are considered jointly, it becomes clear that China is starting to become an important engine of growth for Latin America.

On balance, the relationship between these newfound friends has been favourable but contradictory. At stake is the traditional pattern of comparative advantage that China has resurrected for all but Mexico, as the other EEs import almost solely manufactured goods from China while exporting raw materials in return. There is also concern about the ability of these EEs to maintain macro-stability and a competitive exchange rate in the face of massive capital inflows – triggered jointly by Chinese demand and the US Fed’s zero interest rate policy since December 2008. Still, closer scrutiny suggests that China’s effect on Latin America is far from uniform. Rather, it depends on a given country’s factor endowments, institutional landscape, and the development trajectory underway within each EE. Some of these differences are illustrated below.

Mexico: Competitive Disadvantage

Mexico has been the potential ‘loser’ due to its high Export Similarity Index (ESI) with China and the strong overlap in goods that both China and Mexico export to the US market. By 2003, for example, China had displaced Mexico as the second most important US trade partner; over the period 2000-05, Mexico had increased its share of US imports by 25 percent, while China’s share of US imports grew by 143 percent; by 2011, some 46 percent of Mexico’s manufacturing exports to the US were classified as ‘under threat.’ Apart from this head-on competition from China in the US market, China accounted for around 15 percent of Mexico’s imports in 2011, but just 2 percent of its exports. 

In contrast with the South American EEs, Mexico does not have an ample supply of oil or other raw materials to sell to China, the result being a burgeoning manufacturing trade deficit with China in the 2000s. Chinese FDI to Mexico lags far behind the other EEs, with a modest presence in computers (Lenovo) and autos (Golden Dragon). Despite Mexico’s obvious geographic advantage over China, the latter has gradually eclipsed Mexico in the US manufacturing market by virtue of its lower overall costs and by actively deploying public policy in the expansion, upgradation and infusion of technology into its manufacturing sector.

Brazil: Battling the Resource Curse

All the various ways to measure the impact of China on Brazil suggest that the situation is worlds apart from that which Mexico now faces. As of 2011, China accounted for about 15 percent of Brazil’s imports and 17 percent of its exports (mainly soya and iron ore); from 2000 to 2011 bilateral trade between the two countries grew by more than 2000 percent. As of 2012, Brazil’s trade surplus with China was over $18 billion, and China’s FDI stock in Brazil towered over the other three EEs analysed here. Brazil is the only EE that has attracted mentionable levels of Chinese FDI in manufacturing (e.g., autos and computers). 

Nevertheless, in 2011-2012, Brazil’s GDP growth all but stalled. This slowdown suggests the extent to which its developmental capitalist model is too much of a drag on growth.   In 2012, the private sector provided just 12.8 percent of long term financing, while the state development bank (BNDES) provided around 72.4 percent. Between 2000 and 2012, Brazil’s total foreign exchange reserves increased 11-fold and stood close to $370 billion at the end of 2012. Yet, the current scenario approximates what we might call a 21st century resource curse: capital is abundant but absurdly expensive; investment and productivity are flat; and, bolstered by an overvalued currency, consumer spending is running at twice the rate of the other LAC EEs.

Argentina: Commodity Boom and Capital Squandering

Since the early 1990s, Argentina has run the full gamut from neoliberal (1991-2001) to developmentalist policy approaches (2002 to present). With the country’s 2001 default on some $100 billion in government-held debt, the situation could not have been worse.

Growth was down by nearly 11 percent in 2002 and inflation had spiked to 30 percent. By imposing a unilateral restructuring on about 75 percent of the country’s outstanding external debt, the government reduced its debt service burden from 8 percent to 2 percent of GDP. This set the stage for what looked to be a modest recovery. However, Argentina’s growth rebounded to nearly 9 percent of GDP in 2003 and would go on to average 7 percent annually between 2003 and 2011. As with Brazil, in 2003, the commodity lottery struck and Argentina suddenly began to thrive under the thrust of brisk Chinese demand and the resulting high world prices for its main commodities (soya beans and crude petroleum).

In the decade from 2002 to 2011, China advanced to become Argentina’s second most important trading partner (after Brazil) and total trade between the two countries increased nearly twelve-fold by 2011. Argentina, moreover, was second only to Brazil as a destination for Chinese FDI in the 2000s, the bulk of which is concentrated in natural resources. Unfortunately, this good fortune has prompted a populist-style spending spree. The fiscal and current accounts have deteriorated, double-digit inflation is on the rise, and the government is now resorting to import, price and capital controls. However, because of its growing economic ties with China, Argentina could muddle along indefinitely with macro-profligacy, high inflation, and sub-optimal returns.

Chile: The FTA Route

As the most open, market-oriented and trade-dependent of the four Latin American EEs analysed here, the negotiation of Free Trade Agreements (FTAs) has been an integral part of Chile’s development strategy since the 1990s. Chile was the demandeur in the initiation of an FTA with China in 2006, which makes sense given that China has now become the most important export destination for Chilean copper. Chile, thus, offered China the opportunity to seal a fairly easy deal while, at the same time, securing a steady supply of copper from the world’s top producer. The fact that Chile already had an FTA in place with the US enabled China to tread softly here without appearing to upstage US interests. 

The bottomline: Chile and China have contractualised a traditional comparative advantage trade model, one that has cushioned both from wild swings in copper prices over the next two decades. Chile’s state-owned copper company (Codelco) will supply China with 55,000 tonnes of copper over a 15-year period, with beneficial prices to be negotiated periodically. Chilean negotiators, moreover, were able to completely exclude 152 ‘sensitive products’ (e.g. wheat, flour, sugar, some textiles and garments, and some major appliances) from this FTA while obtaining immediate duty-free access to the Chinese market for 92 percent of its products covered by the agreement.

The Road Ahead

Whether or not this dynamic past decade will constitute a game-changer for Latin America depends largely on the ability and willingness of governments to carry out crucial structural reforms across sectors and issue areas. LAC’s reform lag is confirmed by the fact that China has quietly surpassed all four EEs in its global competitiveness ranking (see The response of all but Chile has been to throw up protectionist barriers and to file multiple anti-dumping complaints against China at the WTO. However, China’s 2015 graduation to a full-fledged ‘market economy’ at the WTO renders such complaints much less credible.

The past decade in China-LAC relations offer two main lessons for EEs: It is perhaps best to take Chile’s lead by seeking to interact with China in the realm of international norms, binding treaties and established professional exchanges; and, rather than fixating on ways to export higher-value-added goods to the Chinese market and attract non-resource Chinese FDI, policy makers would do best to tackle those very reforms that would enable a given EE to cope more effectively with the formidable competitive challenges posed now by China. The first ever ministerial-level summit hosted by China with the Community of Latin American and Caribbean States (CELAC) is an important first step that will formalise this vital new relationship. However, this should not distract LAC policymakers from the heavy lifting that must still be done on the domestic reform front.

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