Kevin P Gallagher
Kevin P Gallagher
Kevin P. Gallagher is associate professor of international relations at Boston University and co-author of the new report "The New Banks in Town: Chinese Finance in Latin America".
Yuan diplomacy
The US used 'dollar diplomacy' to gain influence in Latin America; now the Chinese are beating the US at its own game.
Last Modified: 29 Feb 2012 05:38
China has become the largest source of finance for Latin American governments [REUTERS]

Boston, MA - When no one was looking, China became the largest source of finance for Latin American governments. Indeed, in the past few weeks Chinese government-sponsored banks have extended $1bn to Ecuador and are discussing another $1bn to the Inter-American Development Bank.

This presents a great opportunity for Latin America, but also brings new risk. If the region can seize upon the new opportunities that come with Chinese finance they could come closer to their development goals, and pose a real challenge to the way Western-backed development banks do business.

"Chinese finance tends to flow to countries that have a hard time gaining access to global capital markets."

Chinese finance in Latin America - chiefly from the China Development Bank and the Export-Import Bank - is staggeringly large and growing. In a new report published by the Inter-American Dialogue, colleagues and I estimate that, since 2005, China has provided loan commitments upwards of $75bn to Latin American countries. China's loan commitments of $37bn in 2010 were more than the World Bank, Inter-American Development Bank, and the United States Export-Import Bank combined for that year.

For one, this is a boon for Latin America because it diversifies their sources of finance. Chinese finance tends to flow to countries that have a hard time gaining access to global capital markets; some of its largest recipients are Argentina, Bolivia, Ecuador and Venezuela. Global investors see these actions and become more willing to follow suit.

Chinese finance is also more in line with what Latin American nations want, rather than what Western development experts say they "need". Whereas the US and International Financial Institutions (IFIs) such as the World Bank and IMF tend to finance in line with the latest development fads such as trade liberalisation and micro-anti-poverty programmes, Chinese loans tend to go into energy, infrastructure and industry projects in a region that has an annual infrastructure gap of $260bn

What's more, Chinese loans do not come with the harsh strings attached to IFI finance. The IFIs are notorious for their "conditionalities" that make borrowers sign on to austerity and structural adjustment programmes that have had questionable outcomes on growth and equality in the region.

On the other hand, Latin Americans pay a premium for this new finance. Contrary to the claim that the Chinese advance "sweetheart" deals to the region, Chinese Development Bank (CDB) loans carry more stringent terms than do World Bank loans, although the Chinese Export-Import Bank financing is indeed slightly more favourable. Latin America has a long history of debt problems, and nations such as Argentina and Ecuador in particular have recently defaulted on their debts.

And while the Chinese do not attach policy conditions to their loans, they have required that borrowers purchase Chinese equipment, employ Chinese workers and suppliers, and sometimes sign oil sale agreements. 

Another cost is that these loans could continue to crowd in investment into Latin American commodities production - oil, iron ore, copper, beef, soybeans and the infrastructure to support trade in those commodities. It is no surprise that China wants to support such development because those are exactly the products that China sees as essential imports from Latin America.

"Producing natural resource-based commodities causes a significant amount of environmental degradation."

That said, commodities' production is not very employment-intensive, nor does it link well with other sectors of an economy. Dependence on commodities can also cause a "resource curse" where the currency exchange rate appreciates such that exporters of manufacturing and services industries can't compete in world markets - and thus contribute to de-industrialisation and economic vulnerability.

Finally, producing natural resource-based commodities causes a significant amount of environmental degradation, and can be found in Latin America's most environmentally sensitive areas. What is more, those areas are where the region's indigenous peoples often reside and where conflicts over natural resources, property rights, and sustainable livelihoods have been rife for decades. 

In our report, we find that Chinese banks actually operate under a set of environmental guidelines that surpasses those of their Western counterparts when at China's stage of development. Nevertheless, those guidelines are not on par with 21st century standards for development banking - and at a time when environmental concerns are among the most grave in the region, in China, and across the world.

With every opportunity comes a challenge. Latin Americans have access to a new source of finance that gives them more leeway to meet their own development goals. That said, Latin Americans pay a higher premium for those loans - and if they don't use some of the finance to support macroeconomic stability, economic diversification, equality and environmental protection, this new source of finance could bring great risk.

If Latin America does seize upon the opportunities that come with Chinese finance, then the IFIs will have to rethink the way they approach finance and development. Given their past record, that wouldn't be such a bad thing.

Kevin P Gallagher is associate professor of international relations at Boston University and co-author of the new report "The New Banks in Town: Chinese Finance in Latin America".

The views expressed in this article are the author's own and do not necessarily reflect Al Jazeera's editorial policy.

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