Cristiane Gomes | Head of Sales & Relationship Management, South America, BNY Mellon Treasury Services
This article was originally published in June 2015 in TXF. A link to this article can be found here.
Cristiane Gomes, Head of Sales & Relationship Management, South America, BNY Mellon Treasury Services, explores the intensification of economic ties between China and Latin America and what this means for local banks and corporates.
Recently declared the largest economy in the world, China’s growth continues at an astonishing rate. Its urban population is set to reach one billion by 2030 — the fastest urbanisation rate in history — when it is believed that approximately one in eight people will reside in China’s cities. Indeed, by 2025, 221 of China’s cities will be home to at least one million inhabitants — that is compared with 35 such cities in Europe today. Certainly, China is undergoing further transformation, the scale of which cannot be overstated.
With such change and growth, of course, comes new, increased demands to satisfy. One result of this has been the establishment of a particularly fruitful partnership with commodity-abundant Latin America. Rich in raw materials such as agricultural products, oil and minerals, Latin America and the Caribbean (LAC) are an ideal resource for a country looking to meet the growing appetite of its population. In turn, China’s considerable and fast-growing market means that Latin America is more than happy to explore the opportunities this relationship presents.
With both regions awakened to the mutual benefits of strengthening their ties, the China-LAC trade corridor — which prior to the millennium had remained largely unexplored — is now booming. The value of trade between the two regions has soared in recent years, expanding from $12 billion in 2000 to $261 billion in 2013, with the export growth rate from LAC to China growing at an average annual rate of 23%. And this impressive growth doesn’t look set to stop there. China’s president Xi Jinping announced at the start of 2015 that he hopes to scale up China-LAC trade to $500 billion by the end of the decade.
In 2009, China became Brazil’s largest trading partner, with other major Latin American economies, such as Peru and Chile, quickly falling in line. China is expected to overtake the EU to become the second largest trade partner of the entire LAC region by 2016, and the number one spot (a long-standing position held by the US) could be reached by as early as 2030. Certainly, the significance and strength of the Latin America-China trading relationship has become a force to be reckoned with, advancing daily.
This is not just a story of scale, however. The nature of the LAC-China relationship is shifting, with China gearing up its activity and involvement across Latin America not just as a trade partner but as a growing economic presence. This trend stems from a number of factors.
Firstly, there has been a deceleration in China’s economic growth (though by all means, its growth remains still impressive, reaching 7.4% in 2014). And with commodity prices falling at the same time as China’s dependence on raw materials is decreasing, the impact is particularly noticeable in Latin America, where a dependence on commodity exports (80% of its exports to China are raw materials) means the region is particularly vulnerable to such developments.
Indeed, according to the World Bank, metal prices are expected to fall by 5.3% in 2015 (on top of a contraction of 6.6% in 2014), led by a sharp decrease of 22% in the price of iron ore, followed by decreases of over 5% in tin, copper and nickel prices. And with copper, iron and soy constituting over 50% of LAC’s global exports, the region is particularly exposed.
Secondly, foreign investment is becoming an increasingly key contributor to China’s economic growth. And with China keen to preserve and leverage vital sources of raw materials that are needed to cater to its demands, and with Latin America in great need of improved infrastructure, LAC is an ideal location in which to invest. It is hoped that such mutually beneficial arrangements will boost the yield and efficiency of LAC’s commodity production which will then serve to help meet the increasing demand for raw materials from China’s growing middle class population — as well as future global demand.
Finally, as Latin America’s own middle class population grows, China is becoming an increasingly important import resource itself, with volumes of Chinese exports to Latin America now exceeding those to the EU. Yet while China imports mainly raw materials from Latin America, Latin America tends to import high-value manufactured goods such as vehicles and electronics (a challenge to Latin America’s own desire to develop that sector).
The result of these factors is an expanding role for China in Latin America. Certainly, China’s economic presence — and influence — in LAC is being increasingly felt in many industries and countries across the region.
China’s interest in, and commitment to, Latin America is substantial — evidenced by recent investment, amounting to approximately $10 billion every year since 2010. China is increasing its economic leverage throughout Latin America via a string of strategic multibillion-dollar acquisitions, made primarily by Chinese government-owned energy and mining companies.
For example, the purchase of Peru’s Las Bambas copper mine by Chinese consortium MMG Ltd for $5.8 billion in July 2014 was the largest deal of its kind in Peru’s history — an acquisition that means China now has control of a third of Peru’s entire mining sector. What’s more, China National Petroleum Corporation (CNPC) now has involvement in four out of five of Peru’s biggest-producing oil concessions following its acquisition of Petrobras Energia Peru for $2.6 billion at the end of 2013. Such investments underscore China’s increasing power over Peruvian resources.
Indeed, in order to decrease its dependence on the Middle East for oil, a substantial amount of China’s LAC focus has been on the energy sector, with crude oil and gas taking the lion’s share of investments. China National Offshore Oil Corporation Ltd and CNPC are part of a consortium set to invest $500 million in Brazil’s offshore oil site, Libra — a site so large it is expected to quadruple Brazil’s oil reserves. And Chinese companies Sinopec and CNPC have invested $28 billion in an energy project in Venezuela’s Orinoco oil belt, which is currently yielding 1.2 million barrels of oil per day.
It is interesting to note that most of China’s investments in Venezuela (recently named the country with the world’s largest oil reserves) have been cash-for-oil deals, and 60% of Venezuela’s oil exports to Beijing are repayment of that debt. This arrangement helps to secure the oil needed to meet China’s energy demands and helps Venezuela leverage its abundance of natural resources.
Through such significant investments, China is not only fuelling business across LAC but is beginning a strategic shift from being solely an importer of raw materials, to moving upstream to take control of the very source of those imports.
China is also investing in ambitious transport network improvements within LAC; improvements set to stimulate the economies of both regions by facilitating bilateral trade, lubricating intra-regional Latin American trade and, of course, by providing healthy returns. Indeed, much-needed enhancements to Latin America’s infrastructure will improve access to, and transportation of, Latin America’s resources — such as the $250 million construction of a railway through resource-rich, transportation-poor, landlocked Bolivia.
Yet the sheer scale and significance of some of these projects means their effects are likely to extend way beyond China and Latin America. Indeed, some even have the potential to change the face of global trade.
Railway projects that would span continents and link oceans are being discussed, including a huge railway linking the Peruvian Pacific coast with Brazil’s Atlantic coast, an Atlantic-Pacific railway within Colombia, as well as a similar railway in Honduras.
The most radical of the projects, however, is the proposed development of the Nicaragua Canal; a 175-mile long shipping lane linking the Pacific and Atlantic Oceans, designed to rival the Panama Canal.
The Hong Kong Nicaragua Canal Development Company is helping to fund the project which is expected to cost $40 billion and take five years to build. At twice the depth of the Panama Canal (even after its current upgrade is complete), the Nicaragua Canal will be deep enough to accommodate the world’s largest vessels (currently unable to pass through the Panama Canal) therefore significantly reducing travel time and costs.
Furthermore, if China’s vision were to come to fruition, the competing east-west waterway — free from US jurisdiction — would be run and managed by China for at least the first 50 years. Indeed, building a new trade route such as this would secure China with a geopolitical foothold in the western hemisphere.
As well as efforts to bolster trade through investment into resources and infrastructure, China is also making the strategic move of investing in Latin America’s financial industry. Such a move positions Chinese banks as trade finance and working capital providers in the region, helping to facilitate trade opportunities for Latin America and, indirectly, China.
In November 2013, for example, China’s second largest commercial bank, China Construction Bank Corporation (CCBC), obtained a license in Brazil by acquiring a majority stake in Brazilian bank BicBanco, at a cost of $723 million.
Elsewhere, the Industrial and Commercial Bank of China (ICBC) became the first Chinese-owned bank to enter Peru’s financial sector in February 2014, where it will initially provide financing to Chinese corporations that operate in the country, as well as Peruvian exporters looking for business opportunities in China. In addition, 80% of Standard Bank’s Argentine organization was purchased by ICBC in 2012, which has since placed branches in Brazil and Peru.
China’s expanding economic influence throughout the LAC region is becoming more and more noticeable. And as the Chinese renminbi continues to develop as an international currency, this trend is only expected to grow.
Indeed, the latest SWIFT figures show the renminbi has had its highest share of global payments to date (1.72%), and in September 2014 the value of renminbi-denominated global payments increased by 13.2%; well above the average 8.1% growth for all currencies.
China’s efforts to increase the renminbi’s accessibility have certainly contributed to such progression. Documentary requirements, for example, have been significantly eased for corporates with proven track records, and with renminbi trade transactions now able to take place electronically, the currency is now more aligned with modern corporate expectations for efficiency, speed and convenience.
For both Latin America and China, there are advantages of settling trade using renminbi. While companies in China can reduce exchange rate risk by settling imports from Latin America in the currency, Latin American companies can benefit from better payment terms as businesses in China pass on the savings they’ve made by avoiding corresponding foreign exchange and hedging costs.
Furthermore, a willingness to transact in renminbi could allow Latin American corporates to expand their client bases, by gaining access to trade with Chinese businesses that were previously inaccessible due to their inability to transact in a foreign currency.
Certainly, the benefits that can be gained from renminbi adoption are becoming more widely acknowledged, with Latin America no exception. In 2010, for example, half of a $20 billion loan from the China Development Bank to Venezuela was denominated in renmnibi, with Venezuela agreeing to spend a significant portion of this on Chinese goods and services.
Elsewhere, China’s Ex-Im Bank has issued renminbi-denominated credit lines to Bolivia and Jamaica for construction and equipment, Brazil and China agreed on a $30 billion currency swap in 2012, and at the end of 2014 — two Brazilian corporations issued renminbi bonds in Hong Kong.
Most recently, significant steps have been taken to facilitate the use of renminbi in Chile. It was announced in May that Chile’s central bank has entered into a three year $3.6 billion currency swap with the People’s Bank of China. China is also establishing a renminbi clearing bank in Santiago — the first of its kind in LAC — and China is granting a $8.1 billion quota to Renminbi Qualified Foreign Institutional Investors (RQFII) in Chile, which enables offshore holders of renminbi to invest in China’s onshore stock and bond markets.
Furthermore, following the recent announcement that Toronto has become the first renminbi hub in the Americas, processing can now occur in greater alignment with Latin America’s time zone, which should further fuel renminbi adoption throughout the region.
With bilateral trade flows between LAC and China flourishing, there would seem, at present, few drawbacks for Latin American corporates choosing to settle trade payments directly in renminbi.
There is no denying that the LAC-China partnership has presented both sides with a plethora of opportunities. Yet as the nature of the relationship evolves and China’s influence in Latin America grows stronger, this presents somewhat of a challenge to Latin America’s drive for self-determination. This is particularly true for Brazil — the region’s main economic powerhouse and a country that only a short while ago had been cherry-picked — alongside China, no less — for its global economic potential as part of the high-flying BRIC community (Brazil, Russia, India and China).
Today, Brazil — which has seen sluggish growth in recent years, reaching 0.1% in 2014 compared with 7.5% in 2010 — must consider whether the partnership with China (which played such a fundamental role in Brazil’s rise) has in fact become a hurdle to it being able to transform its economy and reach its true potential.
Indeed, Latin America certainly stands to benefit from its robust relationship with the country that can lay claim to being ‘the world’s largest economy’. But it may be wise to adopt an element of caution in order to avoid over-indulgence on a Chinese banquet of investments that could lead to China gaining perhaps slightly too much economic influence across the region.
The views expressed herein are those of the author only and may not reflect the views of BNY Mellon. This does not constitute treasury services advice, or any other business or legal advice, and it should not be relied upon as such.