The explosive growth of China's economy in recent years has had important implications for many Latin American countries, including Brazil. With Brazil's exports to China increasing more than 18 times between 2000 and 2009, China is now Brazil’s largest trade partner, accounting for more than 12% of Brazil’s exports. In addition, Asian, and mainly Chinese, exports to the largest Latin American economy have also increased exponentially. Total exports from Asia to Brazil increased by five times between 2000 and 2008 (these exports decreased in 2009 due to the slowdown in Brazil’s domestic demand following the international financial crisis).
However, in line with Brazil’s exports to China, exports from China to Brazil increased by 18 times during the same period. At first glance, China's contribution to Brazil's economic strength and its creditworthiness might seem clear. But a deeper look at the phenomenon reveals a more complex relationship between the two countries.
A multifaceted association
China's importance to trade in all of Latin America has increased significantly over the past decade. Total exports from the region increased by 88% between 2000 and 2009, with exports to China increasing 12-fold during the same period (see chart 1). China now constitutes the largest export market for several countries in the Latin American region, including Brazil. It surpassed the US as Brazil’s largest export market for the first time in 2009 (see chart 2).
However, despite their dramatic growth, exports alone do not tell the whole story. In fact, Latin American economies' growth engines remain more defocused on domestic rather than external demand. These economies remain fairly closed, with relatively low exports-to-GDP ratios. Within Latin America's largest economies, only the exports of goods and services in Chile constitute more than 30% of GDP. In Brazil, that ratio only marginally exceeds 10%. Import growth in Latin America has been substantial as well. Therefore, the contribution of net exports to growth in these countries was negative for most years during the past decade.
Within the region, consumption remains the critical source of growth from the perspective of aggregate demand. In some countries, such as Peru and Brazil, investment has also started to play a more dominant role. This is one of the main differences between Latin America and Asia. For the latter, net export growth remains a key engine for the region's economic development. In China in particular, despite the importance of domestic components, net exports still contribute significantly to GDP growth. Conversely, in Brazil, net exports only made a positive contribution to GDP until 2005. After that, investment growth diminished the importance of the external sector. Net exports have actually had a negative contribution to GDP growth ever since.
In addition, although Chinese demand has bolstered commodity prices, the importance of this is often overestimated when assessing the impact of China on Latin America's growth. Changes in terms of trade over the past decade have had significant benefits for some Latin American countries, like Venezuela, Chile, and Bolivia. However, the impact of changing terms of trade for most of the economies in the region, including larger ones such as Brazil, Mexico, and, to some extent, Argentina, was not very significant because increasing import prices partly offset the higher income from metals and agricultural commodities.
China's robust growth trend will undoubtedly result in a continued increase of the country's importance to Latin America. However, despite the remarkable pace of growth, regional exports to China only account for 7.4% of total Latin American exports (again, see chart 1). The remaining 92.6% of Latin American exports go to other markets (including trade within Latin America). Therefore, even though exports are growing rapidly, the overall impact of those to China remains modest from a broader perspective. On a more positive note, the low penetration of Latin American exports to China signals a strong opportunity for the region, as rapid Chinese growth will continue to require imports of products for which Latin America has clear advantages.
Trade with China has had greater impact in some areas
China has already been extremely important for some specific commodities, such as soybeans in Brazil and Argentina or metals in Brazil, Chile, and Peru. Research by international relations expert Kevin P. Gallagher of Boston University shows that eight sectors in five countries of the region account for 81.3% of the total exports to China. The four dominant sectors are copper alloys, iron ore and concentrates, soybeans and other seeds, and ore and concentrates of base metals. By themselves, these four sub-sectors accounted for 65.5% of total Latin American exports to China in 2009. The same research shows that only five countries in the region account for most of the exports from these sectors. For these sectors in the countries highlighted, the emergence of China has more dramatically changed their operations and redefined overall growth prospects.
Looking at Brazilian exports to various regions shows how segmented Brazilian exports are becoming. Exports to the US and the EU remain fairly balanced between manufactured goods and raw materials. However, raw materials make up the bulk of external sales to Asia.
Some analysts have expressed concern that this trend could lead to deindustrialisation in Brazil. Indeed, raw materials accounted for 41% of exports in 2009, which is a significant increase from 28% in 2002, before the commodity boom began. This occurred at the expense of manufactured exports, the share of which decreased to 44% of exports from 55% over the same period. Focusing exclusively on Brazilian exports to China underscores the growing importance of primary exports. They were equivalent to 77% of total exports in 2009, up from 61% of the total in 2002.
Although increasing commodity prices could have played a role in this, by increasing the value of the primary exports vis-à-vis other exports in addition to the volume exported, the emergence of China has definitely generated greater opportunities for the export of primary products. But it is not as bad as it might seem. Between 2002 and 2009, the dollar value of Brazil's manufactured exports doubled, reaching $67.3 billion at the end of 2009. Manufactured goods (including semi-manufactured products) accounted for 57% of Brazilian exports in 2009. This mitigates some of the concerns about Brazil's growing dependence on export of commodities, providing a larger buffer to a potential negative terms-of-trade shock.
How is the relationship between Brazil and China likely to evolve?
Trade links between Latin America and Asia -- Brazil and China in particular -- have grown significantly. However, several of the concerns so far appear to be overstated, such as Brazil's growth prospects being overly dependent on China's growth and Chinese competition leading to the deindustrialisation of Brazil. This is due to both the relative importance of exports to China within total Brazilian exports and the still limited contribution of overall exports to Brazil's GDP growth.
That does not, however, diminish the importance of Brazil’s increasing links with China. The nature of the bilateral relationship with China will be an important part of the policy agenda in Brazil, including aspects of the relationship that could pose some risks to the country's long-term growth. In addition to some of the typical concerns, Brazil had its first bilateral trade deficit with China in 2008 (Brazil ran a trade surplus in 2009, but only because of a sharp fall in Brazilian imports), and will likely experience a growing trade deficit with China in the coming years. However, for Brazil, there is a substantial upside to the relationship as the level of economic integration is still shallow. This provides a significant opportunity for Latin America and Brazil in the future.
The economic benefits of Brazil's and China's trade relationship remain high. Brazilian exports do not compete with Chinese exports in many markets. China's extraordinary growth prospects will therefore continue to bring new opportunities for some sectors in Brazil. On trade in particular, the challenge for Brazil and other Latin American countries remains focused on their ability to add value to the exports of raw materials to China's growing economy. Increasing exports to China could continue to provide additional resources to Brazil, helping to ease both external and fiscal constraints.
Dealing with these new resources and making sure that they are channeled appropriately will require appropriate management by Brazilian authorities. The growing debate in Brazil on how to deal with the appreciating pressures on its currency is just one example of the tensions this consolidating phenomenon will bring. Other governments, such as Chile's, were relatively successful in dealing with a period of strong export revenues by setting up a macroeconomic stabilisation fund that provided resources to the government to undertake countercyclical fiscal policy during a downturn. Managing the risks and opportunities of growing links with China will be a key challenge for the Brazil administration of newly elected president Dilma Rousseff, who will take office in January 2011.
The author of this article, Sebastian Briozzo, is a director of sovereign ratings at Standard & Poor’s.