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Olé China

Beijing's drive for resources and market access in Latin America provides an opportunity for the region -- but a big challenge too.

The burgeoning demand for copper to feed China's breakneck industrialization has been a godsend for Chile. Exports of the metal to China surged by 70 percent last year, to $3.2 billion, helping China vault past the U.S. to become Chile's biggest copper market and its third-largest trading partner overall. The export bonanza is fueling a wider boom: Chile's economy expanded by 5.9 percent in 2004 -- the fastest pace since 1997 -- and is likely to grow by more than 6 percent this year.

Underscoring this dynamic new relationship, China's President Hu Jintao and his Chilean counterpart, President Ricardo Lagos, agreed to launch negotiations on establishing a free-trade area between the two countries during a visit by Hu to Santiago in November.

"China is an opportunity for us," says Foreign Minister Ignacio Walker. "We have had a political and commercial relationship with China for more than 30 years. China is among our priorities for reaching a free-trade agreement, because it is a principal partner in Asia and an emerging power in economic terms."

In Mexico, however, the surging Chinese economy looms as more of a threat than an opportunity. China's export industries compete head-on with manufacturers in Mexico's maquiladora sector and have been grabbing market share aggressively. China surpassed Mexico as the biggest exporter of textiles to the U.S. in 2002, and the expiration in December of the Multifiber Agreement, an international accord that regulated the international textile trade, will heighten the competition by removing protective quotas.

China also has moved steadily upmarket in recent years to become the leading supplier of computer components, consumer electronics and motor parts to the U.S. market."In the past three years, Mexico lost market share in the United States in product lines that had the greatest sales," says José de la Cruz, an economics professor at the Instituto Tecnológico de Estudios Superiores de Monterrey. "We are losing the opportunity to do business in products that generate more wealth."

China's stunning emergence as an economic power is sending ripples around the world, and few areas are feeling the impact as dramatically as Latin America. The region's exports to China jumped by an estimated 31 percent last year, to $14 billion. Just as important, that demand fueled big rises in the prices of many key Latin exports. The price of tin rose by more than 70 percent; oil and gas rose by 30 percent; coffee and soybeans by 20 percent. Those gains produced the strongest economic growth in seven years in 2004, as output in the region expanded by 4.6 percent, according to the International Monetary Fund. Growth is expected to slow modestly but remain relatively strong at about 3.6 percent in 2005.

Now Beijing is seeking to use its economic clout for commercial and diplomatic advantage. The regime's leaders have crisscrossed Latin America in recent months in a bid to secure supplies of raw materials and gain greater market access for Chinese exports. President Hu led a delegation of 400 Chinese executives to the region in November. In addition to launching the free-trade initiative with Chile, he signed a deal to invest $500 million in Cuba's nickel industry; persuaded Argentina, Brazil and Peru to recognize China as a market economy, limiting potential antidumping actions; and promised to make major investments in Argentina's transportation network.

On a follow-up trip in January, Vice President Zeng Quinghong signed deals with Venezuela to obtain oil and gas in exchange for investment in the country's energy industry and other areas. He also reached an agreement with Mexico to negotiate an easing of quotas on Chinese goods.

Meanwhile, China has set its sights on what is potentially the largest infrastructure project in Latin America: the widening of the Panama Canal. In October, Beijing sent a high-level mission including a representative of the China Ocean Shipping Co., the country's leading shipping concern, to meet with the canal's administrator, Alberto Alemán Zubieta. The Chinese team "manifested its interest in participating in construction and financing" of the multibillion-dollar project, says Yu Furong, deputy representative of the China-Panama Trade Development Office in Panama City (see "Getting to Know the General's Son," page 66).

China is buttressing its Latin ambitions by seeking to join the Inter-American Development Bank, a move Beijing hopes will enhance its access to regional policymakers and help it win major infrastructure projects. The application, however, is being blocked by the U.S., which insists that China must drastically curtail its concessional borrowing from other development banks, such as the World Bank, before becoming an IDB donor.

As the deal making suggests, China's burgeoning markets represent the best opportunity in a generation for Latin America to achieve sustained growth and put behind it the years of periodic crises that have retarded the region's development. "It's a massive long-term change of a positive nature for Latin America," says David de Ferranti, special adviser to the World Bank's managing director on Latin America. "Maybe China will help Latin America get off the ground, finally."

For that to happen, however, Latin governments and companies must use today's windfall to improve their competitiveness. Latin governments are eager to ensure that closer relations with China produce tangible benefits -- notably, increased investment -- rather than lock the region into the low-value-added role of supplying commodities. That means using profits to improve productivity, develop higher-value products, upgrade the region's creaking network of roads, railways and ports and improve educational systems. Otherwise, the region is likely to see China surpass it economically, just as other Asian nations, like South Korea, have in recent decades. "This is a wake-up call for Latin America," says Robert Devlin, head of the integration, trade and hemispheric-issues division of the IDB. "The China they see today is not the China they'll see in ten years."

This concern is particularly evident in Argentina, where officials expressed disappointment after Hu's recent visit failed to produce a raft of big contracts. Prior to visiting Buenos Aires, Hu had cited plans to invest $100 billion in Latin America over the next decade in a speech to the Brazilian Parliament; Argentinian press reports had suggested the country might get as much as $20 billion. Even if there is no immediate windfall, though, China's investment in the region is increasing steadily. Chinese companies sent nearly half of their $3.62 billion in overseas investment last year to Latin America, slightly more than they invested in Asia.

"It's a good opportunity for Latin America to advance seriously in the area of infrastructure," says Osvaldo Rosales of the United Nations Economic Commission for Latin America in Santiago. "We have talked a lot about this over the years but advanced little. Now it's a practical possibility."

China's Latin offensive also poses an economic and political challenge to the U.S. in its own backyard. That much was made clear by Venezuela's left-wing president, Hugo Chávez, a fierce critic of the Bush administration, who hailed the oil deal with Beijing as a measure that would reduce his country's dependence on the U.S. market.

"China is a world power," Chávez told Zeng at a ceremony to sign the deals in Caracas. "She doesn't come here with imperialist airs; she comes here like a sister. God bless China."

The U.S. imports 12 percent of its oil from Venezuela, and the new uncertainty about those supplies has grabbed the attention of policymakers in Washington. Senator Richard Lugar, head of the Senate Foreign Relations Committee, in January requested a study of the risks of a reduction or interruption in Venezuelan supplies, and contingency plans for dealing with it, from the Government Accountability Office, Congress's investigative arm.

"The Bush administration doesn't have a policy to deal with this. They hardly notice it," says Nicholas Lardy, a China expert and senior fellow at the Institute for International Economics in Washington who sees a threat to the U.S.'s global economic supremacy. China's efforts to secure natural resources through long-term supply contracts or outright purchases, such as China Minmetals Corp.'s recent acquisition talks with the Canadian metals group Noranda, threaten to disrupt global commodity markets, he warns. What's more, efforts to develop a free-trade area in Asia risk creating a preferential trading zone, to the detriment of U.S. companies. But while China has been taking care of business, the U.S. has allowed its plan to create a Free Trade Agreement of the Americas, originally intended to be launched at the start of this year, to stall.

China's recent assertiveness simply reflects its economic growth, says Randall Schriver, deputy assistant secretary of State for East Asian and Pacific affairs. He insists that the administration is determined to see China play by the rules as it exerts an increasing influence on the world economy.

"They are starting to think of themselves as a global power. We regard this as a natural outgrowth of a growing economic power, and something that needs to be watched," Schriver tells Institutional Investor. In particular, Washington will look to ensure that any deals China makes for obtaining natural resources don't unfairly exclude U.S. companies. Says Shriver, "First and foremost, we want a fair playing field. We want our companies to have the same shot at those resources and activities."

China is backing up its commercial drive in Latin America with a push to join the IDB -- another move that puts it into conflict with Washington. Membership would give China a greater opportunity to win infrastructure contracts in the region. Chinese companies signed $23.8 billion worth of overseas engineering contracts last year, according to the Ministry of Commerce, and they have sent 3.2 million workers abroad to work on projects. IDB membership would also give Beijing better access to information and to economic policymakers in the region.

Chinese officials are hoping for a breakthrough at the bank's annual meeting in Okinawa in April. South Korea will attend the meeting for the first time after signing an agreement in March to become the bank's second Asian member.

The U.S. is blocking China's application, however, arguing that Beijing should first prepay all of its concessional borrowings from the World Bank, stop taking hard loans from the World Bank and Asian Development Bank and make a substantial contribution to the IDB's concessional lending facility. South Korea did just that before its application to join the bank was approved, officials note. "Any country that wants to become a member of a regional development bank should not be borrowing from one multilateral development bank to pay its exposure to another," says Randal Quarles, assistant Treasury secretary for international affairs.

That demand could be tough for China to meet. Its borrowings from the World Bank are relatively modest at about $1.5 billion a year (by comparison, Latin countries, combined, borrow $5 billion a year from the bank), but those loan programs give it access to a wide variety of technical expertise on everything from improving rural health care to training mayors. The bank itself is keen on maintaining loans to its star development pupil. "We think there's plenty of room for China to have an active program with us and join the IDB," says the World Bank's de Ferranti. Washington points out, however, that China can receive World Bank technical assistance without taking loans.

There is no small irony in the dispute over China's borrowings. The U.S. is now the world's largest debtor, after all, and China has been funding the U.S.'s current-account deficit by accumulating massive dollar reserves -- nearly $200 billion last year alone -- and plowing them into U.S. Treasuries.

The Bush administration has been lobbying Beijing, so far without success, to revalue the renminbi to help reduce the U.S.'s current-account deficit. Quarles insists there is no link between the trade and currency issue and Washington's stance on the IDB but adds that China's reserves make it obvious that the country has the wherewithal to prepay its concessional borrowings.

Access to natural resources and markets is China's overriding, but not its only, priority in Latin America. Beijing's diplomatic offensive is part of a wider effort to wield a political influence commensurate with its economic clout. "China views itself as the largest developing country. It feels like it can play a constructive role in that part of the world," says Fred Hu, a senior banker at Goldman, Sachs & Co. in Hong Kong.

Many countries in Latin America, long resentful of U.S. domination and the so-called Washington consensus of market-oriented economic reforms, are receptive to Beijing's overtures. President Luiz Inácio Lula da Silva of Brazil, the Latin country that trades the most with China, identified closer relations between the two countries as a priority in his inaugural speech in 2003. In a visit to Beijing last May, he met with Hu, and they agreed to work for "democratized international relations and a multipolar international system" -- diplomatic lingo for ways to counter U.S. hegemony. The two countries, along with Mexico and Argentina, also cooperate within the Group of 20, an assembly of developed and developing nations' finance ministers and central bank chiefs. In global trade negotiations Brazil and China were instrumental in pushing the demand that rich nations abandon farm subsidies. That demand helped torpedo the World Trade Organization talks in Cancún, Mexico, in 2003.

"We have a strategic agenda with the Chinese that includes looking at the overall financial architecture and trade to see if innovative financing mechanisms for development can be put in place internationally," says Luiz Pereira da Silva, secretary of international affairs at Brazil's Finance Ministry.

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China also has been using its economic muscle to press its longstanding claim to sovereignty over Taiwan. Twelve of the 25 countries that recognize Taiwan are in Latin America, but that number is dwindling. During a visit to Grenada in January by China's Foreign Minister, Li Zhaoxing, the island's government agreed to restore diplomatic relations with Beijing and break ties to Taipei. The tiny Caribbean island of Dominica made a similar switch in March 2004 after China promised it $100 million in aid over five years, or more than $1,400 for each of the island's 70,000 people.

China has contributed 125 police to a U.N.-sponsored peacekeeping force in Haiti, a move that could eventually affect Haiti's diplomatic relations with Taiwan. And the hope of gaining diplomatic recognition from Panama provides an added incentive to Beijing as it seeks to deepen relations with that country, diplomats say. As one U.S. official says, "We don't suspect that all of their motivations are benign."

As important as its political interests are, China's top priority in Latin America is clearly commercial. During his visit to China last year, Brazil's President Lula da Silva opened a Beijing office of state-owned energy company Petrobrás. The company has established a joint venture with China's Sinopec Corp. to explore for oil in deep waters off the coasts of Brazil and China. Petrobrás also is discussing the transfer of technology to enable Chinese refineries, most of which process light crudes from the Middle East, to handle heavy, high-sulfur crudes from Brazil.

Such investments will be needed if China is to take advantage of its opening to Venezuela. The lack of heavy-oil refining capacity outside the U.S. is one of the biggest factors preventing President Chávez from shifting the country's oil exports away from the United States.

In January, Venezuela launched a study with Panama about building an oil pipeline to carry Venezuelan oil to Panama, where it could be sent on to China and other Asian markets. The country also signed an agreement in December to allow China National Petroleum Corp. to explore 15 oil fields in Venezuela's Azumano region.

China's most strategic partnership in Latin America is with Brazil, which has the region's largest economy. Brazil's exports to China jumped 20 percent last year, to $5.4 billion; imports surged 72 percent, to $3.7 billion. China has become the fourth-largest export market for Brazil after the U.S., Argentina and the Netherlands, which handles the bulk of trade with Europe.

Commodities like soybeans and iron ore dominate Brazil's exports to China, but the country also has a broad base of manufactured exports -- broader than many of its neighbors. Embraer, the regional jet maker, makes a 50-seat aircraft, the ERJ145, in a joint venture with Hafei Aviation Industry Co. in China's northeast province of Heilongjiang, for example. The two countries also cooperate in satellite technology, having jointly developed and launched resource-monitoring satellites in 1999 and 2003; they agreed in November to build two more satellites in coming years.

"We are diversifying our export base to China," says the Finance Ministry's Pereira. "It is not only commodities."

Closer ties between Companhia Vale do Rio Doce, Brazil's leading iron and steel company, based in Rio de Janeiro, and Shanghai-based Baosteel Co. suggest a model of the kind of mutually beneficial trade relationship that Latin countries might develop with China. The two companies announced plans in November to establish a coal-mining venture in the central Chinese province of Henan with Yongcheng Coal and Electric Power Co. CVRD and Baosteel are also studying plans to invest $1.5 billion to build a steel mill in the northeastern Brazilian state of Maranhão.

For all of its strengths, however, Brazilian industry remains wary of the threat of unrestrained Chinese competition. The November decision to declare China a market economy drew a protest from the influential São Paulo industrial association. The group, whose members account for some 20 percent of Brazilian GDP, argued that the move threatens to undermine industry by restricting the country's ability to take antidumping action against Chinese imports.

Mexico, meanwhile, maintains compensatory quotas on more than 1,000 Chinese products, and although the two countries agreed in January to study possible market openings, Mexico will consider lifting quotas only on a case-by-case basis, says Gerardo Traslosheros, director general of multilateral and regional trade negotiations at Mexico's Economy Ministry.

The competitive threat explains why Mexico is just as interested as its neighbor to the north in seeing a revaluation of the Chinese currency. "The idea of revaluing the yuan [renminbi] is certainly something interesting for us," Traslosheros says. "It is going to benefit us in commerce and in investment."

Notwithstanding its disappointment that no major contracts were initiated during President Hu's recent visit, Argentina agreed to allow Chinese companies to undertake feasibility studies of possible road, rail and telecommunications projects. The country sends 10 percent of its exports -- $3 billion last year -- to China, making it Argentina's fifth-largest trading partner after the European Union, the U.S., Brazil and Chile.

"For Argentina, it is essential to hitch itself to the phenomenon of growth in China," says Felipe Frydman, director of international economic negotiations at the Argentinean Ministry of Foreign Relations. The country has plenty of company. China's economy is a rising tide that promises to lift all Latin boats.

Additional reporting for this story was provided by Contributing Editor Lucy Conger.