Double Handshake

You may remember my sneering at the phrase describing Latin America as “the US’s backyard” a year ago. Well, now, courtesy of a recent Bloomberg article, there’s now some competition. The story is officially about Hu Jintao’s current visit to Brazil, but it’s really a News Story that we shall undoubtedly come to loathe in the coming years: BRIC-clashes. The story has some truly venomous interview quotes describing the high-level meeting as “sleeping with the enemy” and comparing China’s trade with Brazil to Portuguese colonialism in the 17th and 18th centuries. Most importantly, we get lots of territorializing.

When Brazilian President Luiz Inacio Lula da Silva hosts his Chinese counterpart today, he will welcome a leader whose economy is growing faster than his own — and whose exporters are outstripping Brazil in its own backyard.

So, Latin America is Brazil’s backyard. Well, that’s a nice twist on the usual “US’s backyard” at least. Then again, if  you’re being “outstripped” in your own backyard how long can it really stay yours? I wondered. This was cleared up later in the article:

“The world is China’s backyard and Brazilians shouldn’t be so hyped up about it,” Jim O’Neill, London-based chief global economist for Goldman Sachs Group Inc, said in an interview. “There’s a natural symbiosis in trade between the two countries despite Brazil’s legitimate desire to be a manufacturing powerhouse.”

I read this. Then, I read it again. It still doesn’t make total sense to me. I’m not sure if this is a case of sloppy editing, if he was quoted out of context or if Jim O’Neil (who coined the term BRIC in 2001, the article points out) was just speaking bombastically without meaning. I’m guessing O’Neil was arguing that since China exports more goods to other Latin American countries, Brazil “shouldn’t be so hyped about it” because it is no different than any other country whose exporters are being undermined by the Chinese.

Trouble is, the paragraphs leading up to the quote are about China-Brazil trade and investment. Also, the “symbiosis” second half of the quote seems to be about the dynamic only between the two countries – ie. Brazil produces oil and China consumes it, etc. This reading makes sense if you remove the bit about “the world is China’s backyard” first. In other words, “Don’t get worked up Brazil, in fact your trade relationship with China is largely symbiotic.”

But, what about the message: “Relax, Brazil, because the world is China’s backyard and you have a symbiotic trade relationship with it,” makes any sense – logically, geographically or economically? What am I missing?

At the beginning of the new year, I was drawn to headlines touting China “opening its doors to ethanol imports.” The government had decided to drop its import tax on ethanol – a sugar-based biofuel typically used in vehicles – from 30% to 5% starting January 1st.

In December, the two countries’ state-owned oil and gas companies PetroChina and Petrobras signed an MOU to build ethanol production projects in Brazil. The project was specifically aimed at exporting ethanol from Brazil to China, though no numbers were given.

Was China getting more serious about developing its biofuels industries? Would Brazil, the world’s biggest ethanol success story, have a giant role to play? I smelled a scoop.

For Americans like myself, the word “ethanol” brings to mind the US’s controversial foray into corn ethanol production, which began in earnest about 10 years ago. I’m not too interested in rehashing the arguments and data for and against the corn ethanol industry in the US (though, file me under ‘naysayer’). However, Brazil’s sugarcane-based ethanol industry (second to the US by production but far more sustainable, carbon-efficient and wide-spread) is probably worth a paragraph, if not a glance at its Wikipedia page.

Brazil, with abundant land resources and heavy rainfall, is an ideal place for growing lots of sugarcane. It is grown sustainably and not on deforested Amazon land. Sugarcane’s higher sucrose content makes it much more efficient than corn, and government subsidies were phased out completely in the 1990s. Cars (92% of new ones) in Brazil run on a mix of ethanol and petrol. The system has been invested in and promoted for about 30 years. By pretty much all measures, it works.

China’s ethanol industry also has its roots in the 1970s and 1980s, from grain overproduction in certain years. With tons of rotting grain on their hands and no good way to store it, the authorities decided fermenting it and turning it into fuel was a feasible option. Things progressed slowly but steadily (China was even a net ethanol exporter in 2006) until five years ago when the use of food crops for ethanol was banned because of rising food prices and concerns over scarcity.

The same fuel-vs-food debate that made ethanol so contentious in the US had delivered a major blow to China’s industry.

I recently interviewed Rob Earley, an expert on biofuels in China for iCET, for my day job. He brought me up to speed on China’s present ethanol industry (and the serious structural challenges impeding its development). You can read the full interview here (need to first register for free). Here is the exchange relevant to the Brazil-China ethanol connection.

Q: As of the first of the year, China lowered its import tax on ethanol. Do you expect this move to affect the ethanol landscape in the country?

A: You have to look at the fundamental question: Why is China interested in biofuel? The answer, at least in my experience, is completely based on energy security. If they’re importing ethanol, it doesn’t improve their energy security greatly considering that the (world’s) supply of ethanol is probably more limited than the supply of oil at present. In terms of diversifying sources of energy, it’s not a bad thing. But realistically, the biggest source of ethanol is from sugarcane in Brazil, and if China and Brazil aren’t getting along, that supply gets cut off. Since there is no policy push for low carbon fuels in China right now, then there is no carbon rationale for using biofuels in China. I don’t think the import tax is going to make a big difference, but anything is possible.

So, this begs the question: Why do it, then? Earley said he couldn’t offer an explanation.

It’s worth remembering that China and Brazil are already closely intertwined when it comes to energy. Last May, China loaned Petrobras US$10 billion to secure a steady supply of oil. The Asian country also overtook the US as Brazil’s largest trading partner for the first time the month previous. Ethanol will probably never replace oil as a primary fuel source in China nor will it likely even surpass oil in importance in the China-Brazil trade relationship. However, it’s not impossible to imagine ethanol trade significantly changing the two countries’ current energy trade relationship (oil produced in Brazil, exported to China). Consider the following:

Diversifying energy sources – As Earley mentions above, it is in China’s interest to diversify its energy sources. Yes, importing ethanol from Brazil does not change China’s dependence on a foreign country for energy, but ethanol does offer much better price stability.

The table is set – The same energy giants (PetroChina and Petrobras) that are responsible for Brazil-China oil trade would be the ones taking on ethanol. Ramping up ethanol trade would not require new companies cutting in on entrenched state-owned interests. Ethanol would simply become a new stream of business for those already involved.

Oil already ties the two together – It’s true that China (and all countries) would rather not depend on foreign countries for energy, but the reality is China has little choice right now. Compared with China’s other oil suppliers (the Middle East, Russia, Central Asia, Africa, Venezuela), Brazil looks pretty good stability-wise. If importing ethanol from Brazil could displace some oil imports from, say, Sudan or Iran, wouldn’t this make China’s fuel portfolio a bit more stable, which is the stated goal?

The cars are a-comin’ – The number of cars on China’s roads is set to sky-rocket in the coming decade. If the country is to realize its goal of cutting energy intensity by 40-45% by 2020, it must keep vehicle emissions within reason. Costs for setting up the infrastructure for ethanol-fueled cars would be significant, but would pay for itself economically and environmentally.

Jump-starting things back home – China’s domestic ethanol industry is not dead, mind you. It’s just not a big priority right now. Working closer with Brazil on ethanol could result in China gaining the technology and experience necessary to revitalize its own ethanol industry, which is all but certain to miss its 2010 production target.

Image: Wired

A few noteworthy links from around the web (a few that I’ve had on my desk for some time now). With a little down time in the coming weeks, I’ll hopefully give a few of these stories their proper treatment. But, for now, the short list:

Bloomberg reports that newly christened 2016 Olympic city Rio de Janeiro is looking to China to help finance the its planned US$11 billion in Olympics-related infrastructure projects. (China knows a thing or two about the topic). State-owned China Development Bank loaned Brazilian state-owned oil giant Brasileiro SA US$10 billion earlier this year.

On the subject of oil, the Latin Business Chronicle republished an article from the Wharton Business School on China’s quest for oil in Latin America. Buried half-way down in the piece is a good breakdown of China’s proposed deal to buy Argentinean oil exploration and refining firm YPF for around US$17 billion – which would be the largest-ever overseas deal by a Chinese company.

R. Evan Ellis, whose book China in Latin America: The Whats and Wherefores has been reviewed nicely here, published another exhaustively cited bird’s eye view of what China’s presence in Latin America means for the US earlier this month for the Jamestown Foundation’s China Brief.

Two of his four main claims raised an eyebrow for me: “[China] is enabling the survival and spread of regimes oriented against the United States, Western-style democracy and economic models” and “[China] is undermining the United States as a source of political and economic influence in the region, as well as U.S. options for regional engagement.” Ellis takes pains to point out that China is, of course, not directly undermining democracy and US influence, but rather propping up the economies and the political lives of leaders like Hugo Chavez and Rafael Correa with its investment and trade dollars. Still, should we be alarmed or is Ellis being alarmist? Is the US’s capacity for “regional engagement” actually hindered by China’s presence or is the US simply in less of a position of power?

Chile is the only South American country to commit to its own pavilion at next year’s Shanghai Expo, spending US$6 million on construction rather than renting, according to Shanghai Daily. Fear not: Easter Island will be represented at the Chilean pavilion, as will this groan-inducing design idea:

At the Shanghai event next year, Chile will attract visitors with three special wells. People will be able to look into the wells in the pavilion in Shanghai to see scenes and hear the sounds of some Chilean cities on the opposite side of the earth.

Finally, here is a new trilingual corporate blog from the newly launched SinoLatin Capital, which specializes in China-Latin American investment deals. The blog got off to a roaring start in August, but posts have since grown a bit infrequent. I can relate. There’s more to be written about SinoLatin Capital, but for now, find some background on the company here.

So, now it’s official – Brazil will be the first-ever South American country to host the Olympic Games, in 2016. I can only imagine the parties going on now on the beaches of Copacabana…

Like last year’s Summer Games in Beijing, the 2016 Games in Rio de Janeiro promise to be “coming out party” for one of the world’s largest and most important developing countries. No offense to London, but 2016 stands to be a momentous occasion – beyond sporting competition – for not only a city and a country, but a continent as a whole. As an article in the NY Times earlier this week put it:

For Brazil, which has bid three times before — Rio twice and Brasília once — Friday’s vote comes after several years of economic growth and the nation’s emergence as the continent’s business and diplomatic leader. The Olympics, Mr. Osorio said, would have “a clear alignment with the country’s long-term strategy of presenting itself in the world.”

There will be much to say on the Rio-Beijing comparisons in the coming days, but for now: Enjoy the party!

First off, apologies for the major drop-off in posting on DH lately, things should pick up again in the fall when I’m more settled in my new home in Beijing. Nevertheless…

Latin America and Africa are often lumped together when talking about China’s interest in them – namely, as two gigantic sources for natural resources. While many of the billion-dollar trade and investment deals have been made in oil and mineral resources to keep the furnaces back in China blazing, agricultural resources are also included. China has had a national policy for 95% food self-sufficiency in place for some time, but with 22% of the world’s population (eating increasingly more and more) and only 7% of the world’s arable land, China is looking abroad as it stares down some frightening food-supply pressures.

Unlike the last wave of Chinese agriculture investment abroad (in the 1990s, largely to Southeast Asia), Chinese companies are now flocking to southern Africa to buy up and develop fertile African farmland to grow food for export. By 2007, China had 63 agricultural investment projects in southern Africa, and last year, Beijing promised US$800 million to modernize Mozambique’s agricultural sector. Loro Horta wrote a good overview of the situation for the Jamestown Foundation earlier this year.

But what about Latin America? With some of the world’s richest agricultural regions in the Argentine Pampas, is China buying up farmland there as well? Apparently not.

Reuters published an interesting article last month about China’s noticeable non-interest in buying up Latin American farmland in the same way it has in Africa.

Land prices and mature farming markets in Brazil and Argentina, the engines of Latin America’s commercial farming, make investments in big production projects less of a bargain for China.

“China’s ideas about farm prices are very different from the reality in Argentina’s Pampas. They think they can buy good farmland for $1,000 per hectare.” said Ernesto Fernandez Taboada, executive director of the Argentine Chamber of Commerce for Southeast Asia.

The best Pampas land costs up to 10 times that much.

—

“They wanted to enter but couldn’t after they realized what kind of investment it would take to have their own local infrastructure and logistics to control production,” said Carlo Lovatelli, president of Brazil’s grain crushing association Abiove.

The complexity of local farm markets makes it difficult to guarantee that the products of Chinese investments in food here would make it efficiently to China’s ports.

“Today China is offering financing and access to cheap labor, neither of which Brazil especially needs,” said emerging market analysts Trusted Sources in a report.

Local growers are closely integrated with trading companies, which provide credit and inputs like seeds, agrochemicals and fuel. Producers, already carrying heavy debt loads, have little need for additional financing. They also have ample directed government credit.

In Africa, Chinese financing goes a lot farther. The Asian nation also has been allowed to deploy one of its competitive advantages in Africa – low-paid Chinese workers. Entrenched Latin American labor interests would not permit that.

Instead, China has bought Latin American agricultural products (especially Brazilian soybeans) directly. This is possible because soybeans are a major exception of the 95% food self-sufficiency policy described above. According to Reuters’ article, China buys 65% of the world’s seaborne soybean trade, making it the country’s number one import from Brazil.

So, while China may not be buying up Latin American agricultural land directly, Latin American is and will continue to play a major role in what ends up on Chinese dinner tables. Should China’s food self-sufficiency policy start causing hunger pangs (as it may already be doing) – and Beijing open up the country to more agricultural imports – look to the sprawling estancias of Brazil and Argentina to play a major role in becoming China’s “new rice bowl.”

Last November, just before 2008’s APEC conference in Lima, Peru, China made news by releasing its first policy white paper describing its overall strategy for engagement with Latin American and the Caribbean. It’s a lengthy and far-ranging document, with sections devoted to political visits, trade cooperation and even sports exchanges. One finishes this document thinking: China’s top priority in Latin America may be procuring natural resources, but it has much more planned than that.

What about the reverse? Does, say, Brazil have an overall strategy for engaging with China? Has it been codified in its own white paper? Are Brazilian students flocking to Chinese language programs in Sao Paulo to gain a leg-up for the explosion of Chinese investment that’s to come over the next twenty years? The answers are all no. From Reuters:

China and Latin American specialists speaking at a conference in Sao Paulo said China sees Latin America as vital to its own future energy, food and economic security, but that the region had been slow to develop China policies.

“Latin America is acting toward China’s expansion in the world in a reactive, disorganized or ad hoc fashion,” said David Shambaugh, professor of political science at The George Washington University.

“When I asked Itamaraty (Brazil’s foreign ministry) about its strategy on China, I got blank stares. There is no strategy.”

Shambaugh, who is very well-respected on China-Latin American relations, has talked about Latin America’s unpreparedness for China before. Countries like Brazil and Argentina granted China market economy status years ago, which has created problems as Chinese manufactuers undercut local producers. “It’s almost as if these (countries) didn’t do their homework,” said Shambaugh. “The United States, Europe, Japan and Australia did not grant China market economy status.”

This alleged lack of strategy includes language. The article notes there are only two serious Chinese language studies programs in all of Latin America, one in Mexico City, the other in Buenos Aires. It is telling that in Latin America, the biggest development in Chinese language learning has come from China itself, in the form of its promoting Confucius Institutes abroad. These centers, which promote Chinese language learning and culture, are springing up throughout Latin America and the rest of the world. As of May, 328 institutes had been established, including a new one at Catolica University in Santiago, Chile.

I’ll add tourism to this list as well. Traveling in Peru, Chile and Argentina, I often asked tour operators about the prospect of Chinese tourists. Many of their eyes lit up at the prospect of a billion customers. Like many countries, Latin American countries are anticipating a wave of newly monied Chinese tourists to arrive in the coming years.

Yet, aside from some enterprising Chinese and Taiwanese businessmen I met in Lima, no one I spoke to was prepared to handle Chinese-speaking tour groups. Nearly no one in these tourism industries speak the language or understand the, um, unique demands of the Chinese tourist (hot water thermoses, slippers, casinos, shopping). It seems that when the tourism wave hits Latin America, it will be Chinese-owned (or ethnically Chinese-owned) tourism companies that will cash in.

So, how long will Latin American countries wait before they formulate their own China strategy?

The China-Brazil trade connection has made headlines this past month as China became the South American country’s top trade partner for the month for April, and the two countries said they were looking into making some trade deals with yuan and reals instead of US dollars. Then, Brazilian President Luiz Inacio Lula da Silva visited Beijing it what was being billed as a meeting between players in the “new economic order.” So, did meeting live up to expectations? Not quite. A reality check on the flurry of China-Brazilian news comes our way from the Global Post (via the Huffington Post) Wednesday.

Seth Kugal notes that though trade volumes are indeed increasing, the variety is not. Raw commodities like iron ore and soya are still far and away the most important facet of the relationship. And this doesn’t look to change anytime soon, despite Lula’s best efforts. A major priority for Lula on his recent trip to Beijing was to diversify his country’s exports beyond raw resources.

Lula’s visit to China was in part portrayed here as a meeting of giants. “No economic discussion is possible that does not take into account China, Brazil, India and Russia,” he boasted while there, and upon his return declared it the most successful of his foreign trips. But all signs pointed to the visit not meeting expectations, at least in the short term. It broke little new ground and largely saw the signing of deals that had been virtually concluded, most notably a $10 billion loan from China to the Brazilian state oil company, Petrobras, and an agreement to allow Brazilian chicken into China.

Other efforts failed: pork exports are still halted, and Brazilian textile industry leaders were unable to squeeze any voluntary reductions in exports out of the Chinese, whose imports have flooded the Brazilian market this year. Efforts to jump-start a stalled 45 plane contract between Embraer and the Chinese were unsuccessful. The trip was shortened to three from five days, and several events were canceled.

“Lula comes home empty-handed from Beijing,” according to a Folha de Sao Paulo newspaper editorial, “without having advanced the objected to diversify bilateral trade.”

And his thorn in Lula’s side raises a very important point for most Latin American economies’ trade with China: What can they offer China in addition to natural resources? Given China’s manufacturing competitiveness, is Latin America doomed to the same role it played for the Spanish, British and US throughout history, to export their resources (and lion’s share of the profits) to be processed abroad?

Brazilian President Luiz Inácio Lula da Silva arrives in Beijing today for a three-day visit that will include face time with Chinese President Hu Jintao. A number of trade issues are expected to be discussed ranging from oil contracts to biofuel technology. China overtook the US as Brazil’s top trading partner in April. Brazilian soya products and iron ore constitute a major portion of the trade relationship. This week, Lula is expected to push to expand this, seeking to open the Chinese market to more Brazilian meat exports and negotiate the sale of Brazilian-manufactured Embraer aircraft as well.

Oil deals, however, will likely see most of the limelight. Brazil’s oil industry has found itself in a unique position: having massive reserves (much of it underwater) but without the resources to exploit it. Petrobras, the country’s state-owned oil giant, said it wants to spend US$174 billion over the next five years to become one of the world’s major oil producers, but it lacks the funding. And this is where China – a country with massive energy needs and flush with cash – can help. From Bloomberg:

If Lula’s plans pan out, he’ll return with a $10 billion credit for Petroleo Brasileiro SA, an $800 million loan for the state development bank, and financing for ports and waterways. He expects he’ll be able to open China to Brazilian poultry, (Brazilian Trade Secretary Welber) Barral said.

For the loans, Brazil, in turn, will ensure China a steady supply of oil (as much as 200,000 barrels/day) for the foreseeable future. This is one of the reasons some people describe China’s trade relationship with Brazil’s as “more complementary than with any other Latin American country.”

The Wall Street Journal’s preview of Lula’s Beijing visit raises another fascinating point about the Brazil-China oil dynamic: how state-owned enterprises are changing the world’s energy landscape.

“The U.S. has a problem,” Sergio Gabrielli, chief executive of Petrobras, said recently when asked about the loan talks. “There isn’t someone in the U.S. government that we can sit down with and have the kinds of discussions we’re having with the Chinese.”

Mr. Gabrielli was referring to the fact that Chinese government banks are willing to extend huge foreign loans to further China’s long-term energy-security goals: ensuring diverse global supplies and winning entree into competitive regions for its oil companies. A string of recent oil loans to Russia, Kazakhstan and others has pushed China’s total commitments to more than $45 billion.

Such direct government lending is an increasingly powerful tool in an era when three-quarters of the world’s oil reserves are in the hands of state-controlled oil companies. By dealing directly with governments in oil-supplier nations, China can use its wealth to reduce the role of big oil companies — the traditional intermediaries between oil producers and oil consumers.

“What you are seeing is the new geopolitics of oil, where deals start from a political understanding and cut out the international oil companies,” says Roger Diwan, a partner at PFC Energy, a Houston-based consultancy.

In fairness, the article goes on to describe how privately held international oil companies still have technological and managerial advantages over SOEs. I for one am not ready to declare the privately held oil company extinct. In addition, many SOEs everywhere operate under more free-market capitalism conditions than is popularly believed.

Still, the above WSJ selection rings true to me; how can US oil companies like Exxon and Shell compete with the financial resources, political influence and sheer magnitude of Sinopec and PetroChina, and their de facto trade representative Hu Jintao?

Image: Wall Street Journal

A few noteworthy links out there:

China becomes Brazil’s top trade partner – AP reports that China has surpassed the US as Brazil’s biggest trade partner, with trade last month reaching US$3.2 billion, compared to US$2.8 billion between the US and Brazil. Brazil is China’s biggest trade partner in Latin America, with soy and iron being the top Brazilian exports.

The Beijing-Havana connection – Yinghong Cheng at the Jamestown Foundation, a Washington DC think tank, published a good piece on China and Cuba: Beijing and Havana: Political Fraternity and Economic Patronage. Cheng describes China’s investment in the island “a massive economic blood transfusion” to ensure it has a strategic partner in the region.

China: Quarantines ‘proper and necessary’ – China Daily has the country’s latest reaction in its ongoing row with Mexico over the quarantine measures it began taking over the weekend (H/t Danwei). Chinese netizens have made their opinon known on the matter:

A poll by major information portal Sina.com showed that 92.5 percent of 4,263 online users said the quarantine was “a necessary preventive method and had nothing to do with discrimination”.

I mentioned yesterday the fact that Chery’s plan to build a production plant in Brazil by 2012 would mean building ethanol-burning cars. I had quietly wondered whether or not Chery had the technology and experience to produce ethanol-burning or flex-fuel cars. According to the company’s chairman Yin Tongyao, the answer apparently is no:

Yin said that before the group started building the factory it needed to develop “flex-fuel” technology, “which is something we have not mastered yet.”

China’s own biofuel experience has been a mixed one. It will be interesting to see if that changes once Chery “masters” the process of turning sugar cane into biofuel using the world’s most advanced biofuel technologies.