Zhu Xian, IFF vice-chairman, vice-president of the NDB, former vice-president and chief ethics officer at the World Bank Group
In Latin America, the New Development Bank (NDB), founded by the Brics nations – Brazil, Russia, India, China and South Africa – currently funds and manages projects in Brazil. However, the NDB has ambitious plans to conduct projects in other Latin American nations to foster greater co-operation within the region.
In Brazil, much of the NDB’s work is concentrated on infrastructure. Brazil is at a critical moment of profound economic restructuring but faces two conundrums in its infrastructure development and financing. First, Brazil has invested too little in infrastructure for too long, severely constraining economic growth. Second, given its lacklustre fiscal situation, the country is unable to use large-scale budget funds for public investment and infrastructure development.
The Brazilian government’s policy is thus to channel as much private capital as possible into the infrastructure sector and develop infrastructure through public-private partnership (PPP), which boasts great potential.
Meanwhile, it is essential to fully recognise and address the challenges and risks in infrastructure development. Despite enormous private capital available globally, there are thresholds for private capital to be utilised in infrastructure. We cannot simply assume private capital will enter the infrastructure sector as long as government implements incentives or pushes corresponding measures. Brazilian authorities must emphasise that infrastructure remains largely different in various fields and sectors, and a variety of measures will be needed to uncork the financing bottlenecks.
For financers, infrastructure can be categorised into three types. The first is commercially viable infrastructure, such as toll roads, airports in big cities and ports with sound business prospects. Governments can attract private capital by improving the business environment and rolling out PPP models. There are plenty of success stories in emerging market economies and developing countries, and Brazil is at the heart of many of them.
The second is infrastructure with large externalities and social effects – such as water supply, sewage treatment and power lines – which requires considerable governmental financial support. The financial benefits of these projects are not rewarding enough to fully entice private capital investment. This type of infrastructure requires favourable policies and supporting measures from governments – for instance, a better price standard should be set, and the leverage and guidance role of public resources should be utilised through equity investment, guarantees and even discount interest.
The third is public good infrastructure, serving people’s livelihood and society as a whole. Here, government should play a leading role by mobilising public capital, while private sectors improve efficiency.
When low-income countries are struggling financially, they should optimise their debt structures, manage and control risks in development financing, and refrain from putting their futures – for example, in the form of debt sustainability – at risk.
In the past, the term infrastructure was reserved for public goods and services, and the government was supposed to shoulder the responsibility of providing the major funding. However, today many countries – especially emerging market economies – face huge restrictions in debt sustainability and public resource feasibility. That is why it is essential for private capital to be engaged. However, if we adopt a packaged approach to attract private capital without distinguishing the different types of infrastructure and financial returns, we may actually get half the result with twice the effort. To this end, there should be a category of infrastructure and corresponding policy approaches for each funding.
Development financing institutions
Conventional development financing institutions – in particular the World Bank, the Inter-American Development Bank and the Development Bank of Latin America – have contributed much to infrastructure and social development during their many years in Latin America. The NDB is a relative newcomer to investment in the region, compared with the aforementioned conventional development financing institutions, with Brazil as the starting point for NDB’s venture into Latin America. In the past four years, the NDB has approved US$12 billion in funding for a total of 40 projects, including some possible co-operation projects with China.
Brazil’s infrastructure development can boost trade and investment between the two sides. One project under discussion, for example, is to build an entirely private port in northern Brazil. The NDB will provide loans to private companies, and Chinese companies will engage in construction with some equity investments. The port, when completed, could greatly enable Brazilian soybean exports to China. Besides, through its contacts and co-operation, the NDB has also found that Chinese enterprises have shown remarkable strength in experience and capital in infrastructure development over the past 20 or 30 years. Chinese companies are extremely competitive in Brazil and are able to undertake more infrastructure projects on a transparent and level playing field.
In short, Brazil and China are highly complementary in economic structures. Lifting the investment and trade co-operation between the two nations to a new level through infrastructure development will surely create a win-win situation for both China and Brazil.
Alessandro Golombiewski Teixeira, IFF board member, former special economic adviser to the president of Brazil and former president of the World Association of Investment Promotions Agencies
Having reshaped investment and trading flows since the country’s reform and opening-up that began in the 1980s, China’s economy has expanded rapidly to become the second largest in the world. Chinese financing power has become so influential that the fate of the global economy is closely tied to sustaining the Chinese economy and its accompanying investments. Fuelling this success are waves of outbound investments, as well as Beijing’s capacity to finance developing countries’ economies. Latin American and Caribbean (LAC) countries illustrate the impact of Chinese foreign investment in the past decade, driving economic growth in the region. In fact, the commodities ‘super boom’ in LAC countries can be directly attributed not just to China’s increasing capacity to buy, invest in and finance LAC production, but to its overall capacity for consumption.
From 2010 onward, the world saw a gradual shift in focus away from investing in developed economies towards emerging ones. China and LAC countries have formed particularly strong ties in this context, with China now the largest foreign direct investor in LAC. Owing to changes in the international environment, such as increased Chinese multilateralism and US protectionism, Latin America–China relations have been moving gradually closer – particularly in the past two decades. This culminated in the establishment of a comprehensive co‑operative partnership between China and Latin America in 2014. This feature examines bilateral exchange in three key areas – trade, investment and financing – and then offers an insight into the scenario of China–LAC financing.
Trade
The growth of Chinese exports to Latin America has been impressive. The share of total LAC regional imports represented by China increased from 2.3% in 2000 to around 16% in 2017, with total trade reaching a value of US$258 billion – a transformation owed partly to China joining the World Trade Organization in 2001. Additionally, in 2000 China did not feature as a top-three exporter to any of the LAC countries, but today places first or second for all of the major countries in the region. China also imports significant amounts of LAC goods and resources, receiving 10% ($126 billion) of LAC countries’ total exports, which accounts for 7% of China’s overall imports.
Investments
China’s outbound investments reached a record high of US$183.1 billion in 2016, making the country a net investor, with foreign direct investment outflows exceeding inflows for the first time. Investment by Chinese companies in LAC is estimated to be worth more than $25 billion, equivalent to around 15% of total investment in the region in 2017. According to the Chinese Ministry of Commerce, China’s direct investment in Latin America has already exceeded US investment in the region by $200 billion, making LAC the second-largest destination for Chinese overseas investment (see figures 1 and 2).
Mining was the most attractive sector for Chinese investment, receiving 27% of the total value of investments between 2004 and 2017, according to the World investment report 2018 by the UN Conference on Trade and Development. In recent years, however, there has been diversification of investment to sectors such as telecommunications, real estate, food and renewable energy, indicating Chinese companies’ appetite for entering new sectors in the region. Between 2013 and 2016, the leasing and business services industry was the number one sector receiving investment from China (see figure 3).
Financing China–LAC financial flows have seen unprecedented growth during the last decade, often concentrated in infrastructure, energy and mining. Chinese lending has become the largest source of external financing for Argentina, Brazil, Ecuador and Venezuela – superseding well-established international financial institutions in the region. While 60% of total financing to Latin American economies comes from the bond market, bilateral loans only represent around 8% of total international financing, a proportion that has remained constant since 2005.
However, in certain countries – including Bolivia, Colombia, the Dominican Republic, Ecuador and Venezuela – the proportion of bilateral loans has increased dramatically in recent years, most notably in the Dominican Republic and Ecuador, where the proportion of bilateral loans has increased by 12% and 26%, respectively.
Other LAC countries are actively engaged with Chinese financing – Argentina (16%), Brazil (19%), Ecuador (9%) and Venezuela (47%) accounted for 91% of Chinese loans between 2005 and 2016. Total investment by China in Latin America is expected to reach $250 billion by 2025, exceeding the $99 billion invested over the past decade.
While such loans are intended to complement the recipient country’s economy, loans made by major Chinese development banks to Latin American governments are primarily the result of the strategy to diversify China’s foreign exchange reserves with a view to promoting international use of the renminbi. These loans also support a strategy of assisting and directing Chinese enterprises to invest in natural resources. Chinese loans aim to finance a few specific sectors, such as infrastructure, energy and mining, rather than the large number of sectors covered by traditional loans from international financial institutions.
The role of China in the future of Latin America’s economic landscape, as well as wider impacts on international markets requires further evaluation.
Framing the investment relationship
Between 2005 and 2014, around 80% of total Chinese financing in Latin America supported infrastructure development, including partial or complete financing of hydroelectric dams, gas networks and turbines. Within this, telecoms represent close to 7% of total financing. Commodities accounted for the remaining 20% of financing – in particular, the Aluminum Corporation of China’s copper mining in Peru (roughly 9%), and other sectors, such as corporate and working capital operations. Almost 45% of total financing was directed towards transport infrastructure, including roads, airports, railways and metro networks.
These investments are expected to increase in the near future – especially in the areas of energy, oil and gas and infrastructure. As China takes up an increasingly prominent role in the global economy, LAC countries have shown themselves to be important partners. But it must first be established how to best co-ordinate this relationship.
Funding by Chinese and international organisations is facilitating LAC financing. China has increased its presence in the region through bilateral loans and its membership in multilateral development banks – from joining the Inter-American Development Bank (IADB) in 2009, to the launch of the New Development Bank operated by the Brics nations – Brazil, Russia, India, China and South Africa.
The China Development Bank and the Export-Import Bank of China have provided $150.4 billion in financing to LAC governments and their state-owned enterprises (SOEs), exceeding lending from the World Bank, the IADB and the Andean Development Corporation – Development Bank of Latin America combined. By comparison, the IADB approved $11.4 billion in sovereign-guaranteed loans to the region in 2017, while the World Bank lent $5.9 billion. Source: China–Latin America economic bulletin 2018 edition Specific regional funds targeting LAC countries, such as the China–LAC Cooperation Fund and China–LAC Industrial Cooperation Investment Fund, have helped China diversify its strategy.
The future of Chinese financing and the BRI The Belt and Road Initiative (BRI) is more expansive than its ancient predecessor, the Silk Road, and it is not limited to Asia and Europe. China formalised the LAC region as an extension of the BRI in 2017. The BRI has brought a host of development opportunities to Latin America, boosting the economy with transport and infrastructure projects. However, there have also been concerns regarding the financing of projects, particularly the potential for debt traps. With Chinese SOEs responsible for 70% of the BRI construction project contract value, questions surrounding the transparency of the procurement process remain, alongside environmental, labour and governance issues. These reservations from Latin America do not seem to have perturbed the Chinese government. President Xi Jinping predicts the total trade volume between China and Latin America will reach $500 billion by 2025.
LAC countries are using Chinese investment to fill their gap in infrastructure levels. There remains a significant investment disparity between more established coastal areas and often more remote inland areas, which hampers economic development. Initial investments have centred on infrastructure – such as China Merchants Port Holdings’ 90% acquisition of Brazil’s second-largest container terminal, located in Paranaguá. However, under the BRI, the scope for future investment co-operation will be more wide-ranging.
Latin America has become an important partner to China in supporting the BRI. A total of 33 countries in Latin America have established diplomatic relations with China, of which 19 have signed co-operation memorandums on jointly constructing the BRI.
Yet growing levels of exchange between LAC countries and China is not without its challenges. President Xi has described the globalisation of the LAC region as a double-edged sword. While it has fuelled and aided economic growth, it has also created social tension, due to further stratification of social classes and a growing middle class. The absence of a robust economic driving force and weak institutional governance has triggered rising levels of unemployment and income inequality, but with wider and more damaging effects in Argentina, Brazil, Venezuela and El Salvador.
Creating a shared community with a unified vision on development goals is essential. High levels of collaboration are necessary to demonstrate that the BRI is not a platform to further Chinese influence, but a co-operative one from which participating countries can derive benefit. The BRI in the LAC region will involve challenges and opportunities that need to be incorporated into a broader development strategy aimed at upgrading, diversifying and integrating. For this to happen, China also needs to understand Latin America’s development challenges. The willingness to establish channels of co-operation should go beyond bilateral forms of dialogue and include a structured dialogue with the region. A successful China–LAC partnership needs adequate multilateral governance.
One possible solution is for China to adopt the China–Community of Latin American and Caribbean States Forum as the main channel of communication with LAC countries. Participating countries can use this platform to propose a co-operation action plan for the region that encompasses the following factors:
1. A specific governance system for China and LAC countries to implement the BRI in the LAC region, defining targets, priorities, actions and an implementation timeline.
2. A quantifiable target for exports to China and Chinese exports to LAC countries, in addition to the diversification of exports away from commodities to other sectors such as services.
3. The development of an infrastructure investment plan that would help reduce the infrastructure gap. This is crucial for the medium- and long-term growth for many areas in the LAC region. Furthermore, investment in infrastructure would benefit China by reducing the cost of commodities. If Latin America closes its infrastructure gap, the region could increase its annual growth by an estimated 2%–3%. To meet infrastructure needs between 2019 and 2025, Latin American countries should invest around 5.2% of the region’s GDP every year.
4. A science, technology and innovation co-operation plan where Chinese and Latin American universities, research institutions and companies can exchange knowledge, talent, technology and investments in innovation.
5. The exchange of successful policies for the creation of a social development programme that could be adopted in China and LAC countries for the reduction of poverty and improvement of healthcare, education and sustainability.
6. The creation of a China–LAC culture and sports exchange programme to connect societies and promote cultural awareness and exchange.
7. The clear communication by China of the benefits for LAC countries’ accession to the BRI. It is imperative that LAC countries understand that this initiative is not a solo Chinese initiative but a co-operative platform that already has a global governance system.
It is clear what is expected from all leaders is to solidify co-operation with the region. Latin America needs a comprehensive strategy to direct its engagement with the BRI. This strategy must promote comprehensive development based on the expansion of trading areas, improvement of infrastructure, increasing investment facilitation and new finance instruments to promote not just infrastructure development but also the exchange of science and technology. This can be achieved by putting forward a common agenda for the LAC region: to seize the opportunities to eradicate poverty and to pave the road to development.
The path for China and LAC countries to deepen and improve their partnership is clearly delineated, and achieving this should be an integral part of each government’s development agenda. China has been – and will continue to be – a game-changer for the future development of the LAC region.
Think local
Ye Fujing, director of the Foreign Economic Research Institute, National Development and Reform Commission
In recent years, there has been considerable progress in financial co-operation between China and Latin America. With increased space for collaboration, and greater consensus on the need for these relationships, financial co-operation has established a solid foundation and is progressing smoothly. Latin America has remained broadly positive about co-operation with China because the relationship has focused on integrity, sustainable development, people-to-people connectivity, inclusive development and the extension of co-operation benefits.
In recent years, there has been considerable progress in financial co-operation between China and Latin America. With increased space for collaboration, and greater consensus on the need for these relationships, financial co-operation has established a solid foundation and is progressing smoothly. Latin America has remained broadly positive about co-operation with China because the relationship has focused on integrity, sustainable development, people-to-people connectivity, inclusive development and the extension of co-operation benefits.
Problems on the horizon
Undoubtedly, challenges exist. In the eyes of China, there are three issues that require careful monitoring.
First is the political environment in Latin America – regime changes can often result in instability. Currently, governance incapabilities that are manifested in trade unions flexing their muscles, are holding the continent back.
Second, the instability of the currency system has taken a huge toll on the scope of co-operation. With the US dollar still dominating as the preferred global currency, Chinese financial institutions are vulnerable to additional losses because the exchange rate of Latin American countries fluctuates wildly against the dollar, leading to large depreciations. This extreme volatility is evidenced by the depreciation of the Brazilian real by 28.6% in the first half of 2018, and the Argentine peso by 49% across the same year. The Venezuelan bolivar depreciated by more than 100% several times in 2018 alone. This is unsurprising given the political volatility that continues to isolate the country from the rest of the world. Intense exchange rate fluctuations have also given rise to serious shrinkages of domestic currencies in Latin America. This severely threatens the security of Chinese loans and investments in the region, and restricts further development of financial co-operation between the two parties.
Third, China’s connection with – and understanding of – the local market is insufficient. In China, there is a skills gap when it comes to familiarity with Latin American financial markets, mergers and acquisitions, and management. This has severely limited the scope of business activities for enterprises. Moreover, there is a lack of understanding of local policies, laws and regulations, and culture. Colliding with local laws and regulations, Chinese projects are often suspended or stranded, decreasing the chances of financial co-operation.
In addition to the three issues China faces, Latin American countries need to open up further. More Chinese companies may be establishing a presence in Latin America but, in many cases, they are merely offices to provide services for Chinese-funded enterprises and Chinese citizens abroad. Access to the local market still comes up against too many obstacles.
Two further problems haunt China–Latin American co‑ operation. The first of these is that Chinese investments in Latin America are clustered mainly in the energy and infrastructure sectors. Over-concentrated investments, insufficiently scattered risks and the long recovery cycles of large projects can easily break the capital chain in an already vulnerable and unstable economy.
Second, from a macro perspective, Chinese financial institutions gain a stronger sense of presence – and exert a more powerful influence – in Latin America than the other way around.
Fixing the co-operation gap
Strategic interests should be obtained on the basis of economic sustainability, and attention should be paid to cost/benefit analysis. China–Latin America financial co-operation should adapt to the changes in the structure of an economy and the mutual demands of each side. In this regard, Latin America should make good use of the favourable opportunities of China’s financial expansion and new round of opening-up.
Advancing financial dialogue between the two sides
Financial dialogue between China and Latin America can be enhanced by achieving the following:
Bolstering political mutual trust, eliminating doubts and deepening financial co-operation with the assistance of the Belt and Road Initiative (BRI).
Increasing dialogue and co-operation between the central banks, financial regulatory agencies and development finance institutions to accelerate information exchange.
Reinforcing financial co-operation – particularly in policy system and currency clearing, local currency swaps, bond issuance and insurance.
China must accelerate the upgrade and integration of the 1+3+6 co-operation framework into the BRI, to rapidly attain organic unity of financial co‑operation and financial integration.
Fortifying co-operation with Latin American financial institutions and jointly developing Latin American markets.
Improving co-operation localisation
China should target further opening of the Latin American market – especially the financial market – to accelerate integration and achieve long-term sustainable development. This will require the following:
Establishing talent pools comprising those with financial sector expertise, local languages, laws and culture. Indigenising employment – particularly encouraging Latin American students in China to engage with projects to strengthen China–Latin America co‑operation.
Collaborative work with local institutions in taxation, law and accounting.
Co-operation with local financial institutions and multilateral financial institutions such as local banks, government regulators and the Inter-American Development Bank.
Broadening investment fields
More investments can be made in infrastructure, agriculture, manufacturing, technological innovation and social livelihood. Latin America has huge investment needs across various industries. According to the UN Economic Commission for Latin America and the Caribbean, the continent will need a total of between US$3 trillion and $14 trillion in financing for agriculture, manufacturing and environmental protection before realising the UN’s 2030 Sustainable Development Goals, of which between $800 billion and $7 trillion will be required in infrastructure alone.
Mitigating the impact of exchange rates on financial co‑operation
The proportion of renminbi transactions should increase to reduce dependence on the dollar. Furthermore, measures to reduce currency mismatches can be adopted to appropriately increase liabilities denominated in local currencies. Under special circumstances, China can demand physical delivery to avoid exchange rate risks. Second, financial instruments that ward off financial risks can be brought in to enhance investment security. Third, it is important to heighten research into, and judgment of, the political and economic landscape to choose the right time for financial co-operation.
Making the most of the opportunities provided by financial opening‑up
Currently, there are many free-trade zones under construction that can usher in foreign financial institutions as a key to developing China’s financial services industry. Conversely, it is an opportunity for Latin American investors to access the Chinese market and expand their influence.
Exploring new sources of growth
To find new avenues for financial co-operation in traditional industries, China can enhance collaboration in the areas of insurance and bonds, as well as with traditional banks. Second, it is vital to shore up risk sharing mechanisms and improve risk monitoring capabilities. This can be done through creating new highlights in the supply chain of financial and financial technology co-operation and looking for breakthroughs in the realm of payment and settlement.