Upgrade in Panama-China Relations: Win-Win for Both Countries?

By Ugo Armanini —

Panama City, Panama. Source: Dronepicr’s flickr photostream, used under a creative commons license.

In June 2017, Panama severed ties with Taiwan and established diplomatic relations with the People’s Republic of China, breaking with over half a century of foreign policy. This was a massive coup for China, as several of the handful of countries that recognize Taiwan are in Central America and the Caribbean, and the strategic actions of one country could herald a wider shift in the region. Sure enough, in May 2018, the Dominican Republic followed in Panama’s footsteps.

The evolving relationship between China and Panama can be seen as a weathervane for China and Latin America as a whole. China has increasingly entrenched itself economically in Panama, and Panama has thus far been very receptive. But the trade deals may not deliver for Panama — and Panama’s rapprochement with China could make it even more difficult for Latin America to address the challenges posed by China’s engagement  in the region.

Latin America and China

China’s foothold in the region remains primarily economic. The United States has traditionally been Latin America’s top trading partner, but China has steadily chipped away at this position. It has emerged as the top trading partner of many Latin American countries, including major economies like Brazil. In fact, excluding Mexico, China is close to catching the United States as the top partner for all of Latin America, and this is already the case in South America (see graph below).

Source: International Monetary Fund trade statistics for 2017, aggregated by the author.

However, trade relations remain dominated by China’s demand for commodities. Dependence on this sort of trade is risky for Latin America, as China is now transitioning towards consumption-led growth, which may lead to a long-term decrease in commodities demand and prices. Volatility in the demand for commodities already contributed to a 23 percent fall in Latin American exports to China between 2013 and 2015. Worse still, Latin American exports have decreased faster than imports, resulting in a growing trade deficit that was over $75 billion in 2015.

In a broader sense, Latin America suffers from sectoral asymmetry in trade with China. Simply put, Latin American countries export low-value commodities to China, while China exports manufactured goods to the region. Five products — soybeans, iron ore, copper, crude oil, and refined copper — account for 69 percent of the total value of Latin American exports to China; manufactured products account for just 8 percent. By contrast, commodities account for 34 percent of Latin American exports to the rest of the world, and manufactured products account for 49 percent.

While China is climbing the global value chain, Latin American economies run the risk of being stuck in agriculture and resource extraction paradigms. China’s demand for farm goods and raw materials has pigeonholed Latin American countries when they should be diversifying their economies. The situation is made worse by competition from China itself in international and regional export markets.

An Upgrade in Panama-China Relations

In Panama, China has found a strategic partner in its efforts to deepen relations with Latin America.

According to the International Monetary Fund, China was Panama’s fourth-largest export market in 2015. In the same year, China accounted for 20 percent of total cargo flows through the Panama Canal, second only to the United States. China is also a major player in the Colón Free Trade Zone, a free port in Panama that is the largest of its kind in the Americas. It accounts for 35 percent of imports in the free trade zone: this amounted to over $3 billion in 2017. Juan Carlos Varela, the president of Panama, highlighted these economic ties when he announced his country’s diplomatic recognition of China.

This diplomatic shift was quickly followed by an upgrading of China-Panama relations. A total of 41 agreements were signed between the two countries from September to November 2017. Through these agreements, Panama obtained most favored nation trade status, meaning that it would enjoy preferential treatment and lower tariffs at Chinese ports. Panama also acquired “approved destination” status, paving the way for increased flows of tourists from China. In addition, China committed to finance a feasibility study on a high speed railroad between Panama City and Costa Rica.

The two countries signed several banking agreements as well. Chinese presence in the Panamanian banking industry should be bolstered by the establishment of new branches of Chinese banks in the country, including the Industrial and Commercial Bank of China, the Export-Import Bank of China, and the China Development Bank.

Questionable Deals for Panama

On the surface, the signed agreements appear to mirror Panama’s economic priorities. Tourism and banking each accounts for 10 percent of Panama’s GDP, and the latter is eagerly expecting enhanced relations with China, after facing rough times due to the Panama Papers scandal. More importantly, more trade with China might help stimulate activity in the Colón Free Trade Zone, which dropped 36 percent between 2012 and 2017. Perhaps as a result of this deeper economic connection, Panama’s exports to China grew an estimated 56 percent in 2017.

Yet, all this is rather paltry compared to Panama’s huge trade deficit with China. Even though figures show a drop in the past few years, it still amounted to $2.8 billion in 2016. According to World Bank data, Panama imported almost $2.9 billion worth of goods from China that year, only to export slightly less than $37 million, mainly food products (41 percent) and metals (31 percent).

In July 2018, the countries held a first round of negotiations on a bilateral free trade agreement (FTA). Panama is expecting to boost its agricultural exports to China through the agreement, but actual trade volumes may fall short of expectations, as the case of Costa Rica demonstrates.

Costa Rica was the first Central American country to officially recognize China in 2007. Since 2010, when the two countries signed an FTA, Costa Rica’s trade deficit with China has increased: exports have decreased by two-thirds, while imports have doubled. This deficit was aggravated by the displacement of Intel’s operations to Asia; 78 percent of Costa Rica exports to China were tied to semi-conductor production. So far, Costa Rican agricultural exports failed to compensate for this loss. Costa Rica has faced limited access to the Chinese market, due to its inexperience with China’s business norms and China’s increasing safety regulations. Back in 2011, Costa Rica hoped to export more than 4,000 products to China. Yet, between 2010 and 2015, only 6 products were approved for exports. All of this serves as a warning for Panama. Moreover, the Chamber of Commerce, Industries and Agriculture of Panama has cautioned that the country’s industrial capacities may not be able to handle an increase in exports. And Jorge Arango, Panama’s former Ministry of agricultural development, stated that the country lacks the capacity to satisfy plant safety protocols.

The Panamanian “Front Door” to Latin America

While Panama’s prospects may be less bright than expected, China, for its part, has certainly gained a valuable partner in Panama.

Latin America already appears as a strategic partner for Beijing. The region has allowed China to secure and diversify its supply in oil, food, and commodities. Chinese investment have actively targeted extractive activities, like in 2010, when Sinopec acquired the branch of Occidental Petroleum in Argentina, and 40 percent capital in Repsol’s Brazilian branch. This year, Tianqi Lithium Corporation seeks to buy one quarter of the Chilean lithium producer SQM. Now, Chinese interest has turned increasingly towards infrastructure, energy, and services. Chinese companies are involved in several transportation, hydroelectric, and telecommunications projects in South and Central America. Panama became the first Latin American state to formally join the Belt and Road Initiative, highlighting a new strategic pillar in China-Latin America relations: “institutionalized” connectivity. This gels with President Varela’s desire to make Panama a logistic, financial, and re-export “platform,” as well as China’s “front door” in Latin America. Panama’s main exports partners might be the first concerned. Colombia has a long and unwitting experience of Chinese imports, partly through smuggling, which negatively impacted Columbia’s textile industry. This contributed to Bogota imposing duties on clothing and footwear re-exports from the Colón Free Trade Zone. The World Trade Organization ruled in favor of Panama in their 2016 dispute with Colombia, but new tariffs were implemented by Colombian authorities.

This Panamanian “front door” is a sign of things to come for China-Latin America relations. Faced with an increased reliance on commodities exports, deindustrialization, and Chinese competition on national, regional, and third markets, Latin America should seek export diversification, as well as fiscal, financial, and industrial policies, in order to secure long-term development, and competitiveness. This would also require regional trade and integration initiatives in order to bolster regional supply chains, and to break the region’s isolation from global supply chains. Yet, a coordinated response may prove difficult (and unlikely) due to the Latin American countries’ different interests and relations with China, while regional integration seems to have stalled. Panama’s promotion of Chinese exports, which may foster Chinese goods penetration within Latin American markets  at the expense of its neighbors’ products, will add to an already complex situation. This divergence in strategies – and potential outcomes – is why China’s involvement in Latin America and Panama must be carefully scrutinized going forward.

Mr. Ugo Armanini is a Masters student in International Studies at University of Montreal, with a multidisciplinary background in law, political science and International relations, both in France and abroad. His work focuses on China’s media image in Panama, exploring how China’s engagement is perceived in Latin America.


1 comment for “Upgrade in Panama-China Relations: Win-Win for Both Countries?

  1. Ugo Armanini
    August 22, 2018 at 11:36

    This Tuesday history repeated itself, as El Salvador severed diplomatic relations with Taiwan, becoming the third Central American country to officially recognize the PRC. Taiwan’s hold in the region keeps weakening, as countries turn to China by seeking economic and financial “opportunities” (https://www.reuters.com/article/us-taiwan-diplomacy/taiwan-says-china-out-of-control-as-it-loses-el-salvador-to-beijing-idUSKCN1L6058)

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