Latin America's New Best Friend - China

What happened?

Chinese economic involvement in LatAm, which began at the start of the commodities super cycle in the early 2000s, has evolved from a trade-based relationship into a broader exchange of goods, services, investment and even culture. In the last decade China usurped the US as the main trading partner for many LatAm countries and is now forging close relationships with LatAm nations through deals on financing and infrastructure.

China’s growing influence in the region has spooked US politicians, but China’s relationship with the region continues to grow.

What do they trade?

Between 2006 and 2016, trade between China and LatAm grew 200%, while US - LatAm trade grew just 38%. In 2016, the World Bank estimated that 10% of the region’s exports went to China, while the Asian giant was the origin of 18% of imports into Latin America. Trading volume reached its peak of $83billion in 2013. It then fell with commodity prices but has recently enjoyed a fresh lease of life, with 2017 trade figures 25% higher than in 2016.

Trade patterns can be crudely divided into two groups. First, South America tends to have a trade surplus with China during high periods of commodity prices as a result of exporting raw materials. Colombia predominantly exports oil, Brazil iron ore, copper and soy, and Chile copper. In return low and high-tech manufactured goods are imported from China.  In essence China and South America are complimentary trading partners who both need what the other sells. However, the basket of goods that China exports to Latin America is far more diversified that the Latin American products coming the other way. That means China’s exports are steadier as they aren’t susceptible to falls in the prices of a few commodities.

Mexico and Central America, have economies that are less concentrated around the natural resources that China buys. In fact, their manufactures compete with China’s in the US market. Because of the low price and immense range of Chinese goods, Mexico and Central America have trade deficits with China. Mexico’s ratio of imports to exports with China is eight to one. Mexico’s trade deficit with China has grown to $67.4billion in 2017 from $5.6billion in 2002 to, according to calculations by Banxico. Some of these inputs are used for goods that are later reexported into the US market but that become more difficult under the new Nafta deal negotiated with Donald Trump.

What about investment?

In recent years, what began as a simple trade relationship has broadened because Latin America has an acute need for infrastructure investment. China is a natural partner because, having closed its own infrastructure deficit, it is now looking to put its expertise, capital and equipment to use around the world.

Better infrastructure in Latin America expands the growth and efficiency of trade as well as furthers the interests of Chinese companies in the region, which ultimately is good for Chinese growth. Argentina, Brazil and Peru have been the biggest beneficiaries since 2005, accounting for 80% of the total. According to rating agency, Moody’s, between 2005 and 2016, China lent around $222billion to Latin America and the Caribbean, with Brazil receiving 53%, of which half went to infrastructure projects and a third for energy projects.  The $25billion that Chinese firms invested into Latin America in 2017 represented 15% of the region’s total FDI for the year.

It would appear that more is still to come. China has earmarked $1trillion for its Belt and Road initiative, which deploys capital around the world, and Latin America is could be a key beneficiary of this money pot as a result of the Special Declaration of the Belt and Road signed in January 2018. However, it’s worth noting that announced Chinese investment deals abroad have a habit of not always materialising. The most obvious example in Latin America was the $50billion transoceanic canal in Nicaragua that has been quietly shelved.

What about financing?

China is increasingly becoming a key source of funding for Latin American governments, usurping traditional lenders such as the IMF and World Bank. Since 2005, Chinese loans to governments have exceeded combined financing to the region from the Inter-American Development Bank (IDB), World Bank and CAF, the Latin American development bank.

China is beginning to have a visual presence on the ground as well with commercial banks. State-owned Bank of China opened in Chile this summer with plans to grow into Argentina and Mexico, and the Industrial and Commercial Bank of China (ICBC) also has a presence in the region. The Asian Infrastructure Investment Bank (AIIB) - a two-year-old Beijing-based multilateral lender - is seeking to partner with the IDB on projects in the region, such as roads, railways, ports or tunnels that could improve connectivity with Asia. Seven Latin American countries including Argentina have been approved to join the AIIB, although none have yet paid in to become full members.

And politics?

When the China - LatAm trade first started booming most analysts assumed it was simply business, but in recent years China has expressed stronger desire to make political inroads. From satellite observatories in Argentina to diplomatic recognition in Central America, China has become a more forceful presence in the region.

China’s growing trade and investment clout in the region has alarmed Washington as it sees China influence expand in what is gauchely known as ‘America’s backyard’. In December 2017, Trump’s national security strategy said that China was seeking to “pull the region into its orbit through state-led investment and loans.”  China is also expanding its soft power in the region. It has opened nine Confucius Centres in Latin America, which help spread Chinese culture. There has also been a marked in Chinese students studying Spanish and Portuguese, with 20,000 graduates in 2016 up from just 500 in 1999.

History shows us that rival superpowers often establish a strong presence in third-party countries that neighbour their rival. Since Obama’s ‘Pivot to Asia’ the US has been vocally trying to bolster its allies around China. It seems reasonable to assume the China is keen to return the favour in Latin America.

Is this good for Latin America?

Yes. The US has long taken a condescending approach to its southern neighbours, so some competition, which has been lacking since Britain’s exit from the region in the 20th century, is long overdue. China’s growing role is benefits Latin America economically as the region’s governments and companies now have an alternative trade and investment source. However, Latin American leaders need to be aware that China’s interests are unlikely to be any more benign than America’s. Savvy administrations will benefit from the competition between the two superpowers. Naïve ones will simply exchange the unequal relationship they had with the US for a similarly lopsided one with China.

Unlike traditional multilateral institutions, which typically impose stringent policy measures on the recipients, China’s loans come with no political advice attached. This probably strikes a chord with Latin American governments that are tired of lectures from the US and EU. However, Venezuela shows this isn’t always a good thing. It depends heavily on China and is hardly a paragon of success. China’s opaque off-balance sheet loans exacerbate Latin America’s tendency to corruption and uncontrolled spending. Which is why Venezuela is now struggling to pay its estimated $20billion debt.

Is this good for investors?

Yes, the flow of extra investment in the region will help boost asset prices, realise projects and create opportunities for greater entrepreneurship through financing. Meanwhile, trade with China will give Latin American countries the chance to grow wealthier, which will lead to higher tax receipts for the government and more resources to invest in public services. And for UK investors already in Latin America the entry of the Chinese creates a new wave of potential partners or buyers.

On a deeper level it helps Latin America, which traditionally has been isolated from world trade and investment, become more relevant globally. For example, Chile has always seemed remote from Europe, but its long Pacific coastline makes it an interesting option for trading with China. Over the next few decades China’s increasing presence in Latin America will be a major theme for investors in the region.