A Faustian Pack: China and Latin America

By John T. Sullivan
Thomson Reuters FX Analytics
May 12, 2011


One of my favorite economic theory classes dealt with the benefits of international trade. I had a dynamic Swedish professor who drilled into us the tenets of comparative advantage and its ability to enhance all trading parties. When that exchange failed to promote the social betterment, the comparative advantage thesis comes into scrutiny.

The benefits of international trade appear to have given rise to a new form of economic imperialism. Several Latin American countries have embraced a “Faustian bargain”, trading raw materials and food stuffs to one entity without regard to the implications of monopsony power. Monopsony (one powerful buyer) likes its opposite, monopoly, leads to imperfect competition. Monopsony in its purest sense causes distortions in the labor and wage markets, redistributing resources from the seller to the buyer. In this instance the exporting country is held to the commodity price and thus wage demands of the importing country.

Nowhere is this more evident than in China’s voracious appetite for natural resources and foodstuffs. In Latin America, this appetite takes several forms from being the principal buyer of copper from Chile, soybean and meat from Brazil, and fishmeal, copper and iron from Peru. In Peru, China has displaced the United States as its principal trading partner as of March. China is Chile’s second most important trading partner and is quickly closing in on the U.S. Imports from China to Chile rose 43.2% (January to March y-o-y) to $2,310MM. The U.S. exported to Chile $2,804MM up 37.8% during the same period. In part, these figures are distorted by the devastating earthquake and tsunami that affected Chile in late February 2010.

Brazil is China’s largest trading partner in Latin America. Brazil’s exports to China during the first quarter of 2011 amounted to $7,130MM versus imports of $7,186MM. Brazil’s largest dollar valued export is soybean and its by-product soy meal. During 2010, China bought 1.5 times more goods from Brazil than the U.S. importing $30,786MM worth of soybean, soy meal, foodstuff, iron and primary products. Brazil in turn purchased $25,594MM worth of electronic equipment, machinery and other finished goods from China. The United States managed to hold onto its market share in Brazil by exporting $27,253MM worth of goods. In the first quarter 0f 2011, the market share gap has closed as the U.S. has exported $7,234MM versus China’s $7,186MM.

Aggressive Chinese inroads into Latin American markets have supplanted former major trading partners. China has focused its efforts to access primary commodities through long term contractual purchases. The trade characteristics are unmistakable. China exchanges higher valued finished goods for primary resource goods and foodstuffs. China’s ability to hold its partners to long term contracts creates an economic dependency as the exporting nation is unable to diversify its buyers until either the contract is concluded or a new source of product is developed, (i.e. a new mine or larger farms). A country’s currency can under these circumstances be distorted. Certain Latin American countries run the risk of a misallocation of capital, wages and market prices --- and that’s a danger to both development and currency integrity.

John T. Sullivan
Tel: 646-23-4925