Is a Changing China Good for Brazil?

Cornelius Fleischhaker on the implications of a new World Bank report

A new perspective on China and Brazil

It has long been a favorite talking point among Latin Americanists that growth in the region is made in China.

According to this line of thought, rapid growth in China and particularly that country’s hunger for natural resources was a crucial driver in the uptick of growth in most Latin American countries in the 2000s.

This line of thought is fairly convincing in regards to countries heavily dependent on commodity exports (such as Chile, Peru, Venezuela) which have seen their exports to China multiply over the past decade and the prices of their exports sore, allowing for increases in domestic consumption.

The China argument is also often made for Brazil, the largest economy in the region. While commodity exports are not as central to the economy in Brazil as in some other Latin American countries, commodity exports to China have indeed soared, making up close to 20 percent of total exports.

The flip-side of the Chinese coin is therefore that a slowdown in China (be it a hard or soft landing) combined with a structural change away from the investment and resource heavy model of growth of past decades will have significant negative effects for the region.

A new detailed report by the World Bank on the implications of a changing China for Brazil takes a different view.

Assuming a soft-landing scenario (gradual slowdown of Chinese growth) to 3.5 percent by 2030, it foresees some challenges but also ample opportunities for Brazil as China’s economy slows and rebalances.

The 100 page report is extremely rich in information on the current state of Brazilian-Chinese relations as well as projections as to how the commercial ties between the two could develop. A few examples:

– Trade between China and Brazil is unbalanced. While Brazil exports a total of 1,200 products to China, the bulk of exports are made up of only a 5 commodities. Meanwhile China exports a diversified portfolio of 3,500 products, mostly manufactured goods to Brazil (p. 85).

– China’s transformation in terms of economic structure (share in GDP of agriculture, industry, services) over the last two decades is very similar to that experienced by Brazil between 1961 and 1981 (p.47).

– Under the slow-landing projection assumed in the report, Chinese growth in absolute terms remains roughly stable (because of the growing base) which means China would grow by about the size of today’s South Korea every single year (p.34).

– Given China’s continued growth and rebalancing, Brazilian exports to China are expected to grow further at 8 to 12 percent per year, with agriculture leading the way (p.66).

The basic driver of this optimistic story is that the gradual slowdown and structural change in the Chinese economy bring many opportunities to Brazil along with a few challenges. On the important commodity sector, the report sees continued demand growth, with agricultural commodities particularly favored by a shift to consumption.

Yet even for minerals such as Brazil’s important iron ore exports, the outlook need not be dire. While a slowdown in investment may lead to less demand for steel in construction, increased demand for durable consumer goods should boost demand. If China is the reach a similar motorization ratio as advanced countries there will be plenty of steel needed to build these cars.

The picture is more mixed for the manufacturing sector. While the move towards domestic consumption and a moving up the value chain should open up space for Brazilian manufacturers that have been squeezed out of the market by Chinese competition, this same competition could be felt increasingly by high-end Brazilian manufacturers.

If we take the airplane industry, one of few success stories in Brazilian manufacturing in recent years, the national champion Embraer has so far had to compete mostly with European (Airbus) and North American (Boeing, Bombardier) firms. It is almost certain that in the future Chinese competition will enter this market.

Therefore the optimistic picture painted by the report comes with an important caveat. The positive outlook given is conditional on Brazil closing the productivity and competitiveness gap that has opened up increasingly relative to China and other markets.

Chances are Brazil will continue to export plenty of soy and iron ore to China no matter what. But is Brazil is to benefit from the increasing Chinese demand for manufactured goods and tradable services it will need to become competitive which means improved infrastructure, a more favorable business environment and a more skilled workforce.

China could help, particularly by reducing tariff escalation for Brazilian value-added exports (i.e. not charging a much higher tariff on steel compared to iron ore). But most of all to reap the benefits offered by a changing China Brazil will need to do its homework.