South America Boom Backfiring With Complacency From Commodities
January 16, 2012, 9:37 PM EST
By Randall Woods and Matthew Bristow
Jan. 16 (Bloomberg) -- Venture capitalist Arnon Kohavi arrived
in Chile last year aiming to raise $40 million for technology startup
investments. Six months later, the Israeli decamped to Singapore, saying
the world’s largest copper producer was too addicted to its commodity
wealth.
Kohavi’s tale may serve as a warning to the rest
of South America, which has done little to reduce its dependence on raw
materials during the past decade’s boom, said Colombia’s Mining Minister
Mauricio Cardenas. The failure to boost productivity, and tackle
longstanding gaps in education and infrastructure, make the region more
vulnerable to a global slowdown should demand for its soy, copper and
iron-ore exports decline.
“There’s no doubt that with the growth of China,
we’ve seen a re-commoditization of Latin America,” said Cardenas, an
economist who previously headed the Latin America program at the
Brookings Institution in Washington. “Given the region’s track record
managing past booms, it’s clear the pessimists have the upper hand in
presuming the current one will be misspent.”
As raw-material prices nearly tripled from 2000
to 2010, Latin America’s share of global merchandise trade barely budged
at 5.7 percent, and service exports -- a bellwether of economic
development -- fell to 3.4 percent from 3.9 percent. It’s easier to do
business in Pakistan or Albania than in Brazil, according to the World
Bank’s 2012 competitiveness study, which ranked the region’s biggest
economy No. 126 out of 183 countries. Across the region, productivity
has advanced more slowly than in Asia.
Slipping Forecasts
Now forecasts for raw-material prices are
slipping, which means the region’s economies aren’t likely to sustain
the high growth seen during the past five years, said Guillermo Calvo,
an economist at Columbia University in New York.
Deutsche Bank AG estimates copper prices will
average $6,900 a metric ton in the first quarter, down 8.4 percent from
the last three months of 2011, as gold declines 4.9 percent to $1,600 an
ounce, silver dips 5.8 percent to $30 an ounce and aluminum drops 10
percent to $1,900 a ton. Frankfurt-based Deutsche Bank was the top
industrial-metals forecaster and No. 2 precious-metals forecaster in the
eight consecutive quarters ended on Dec. 31, 2011, according to
Bloomberg Rankings.
To protect themselves, investors should “sell
into strength” and aggressively cut their exposure to the region’s bonds
and currencies, said Michael Shaoul, chairman of New York- based
Marketfield Asset Management, which manages $1.3 billion.
Since 2003, JPMorgan Chase & Co.’s Latin
American bond index has risen 175 percent, outperforming its Asian
equivalent, which returned 124 percent. Brazil’s real was the world’s
best- performing currency during the same period, surging 97 percent,
while Colombia’s peso jumped 56 percent.
‘Massive Booms’
“All of Latin America is tied into similar
capital flows and enjoyed massive booms in fixed-income issuance over
the last couple of years,” Shaoul said. “If the shutter comes down in
one market, the same forces are likely to take down the others as well.”
One exception is Mexico, the region’s
second-biggest economy, which is less dependent on raw materials and
stands to benefit from a continued U.S. recovery, he said.
Latin America has made progress since emerging
from the so- called ‘Lost Decade’ of the 1980s, after oil prices spiked
and the Federal Reserve raised interest rates, leading many of the
region’s then military dictatorships to default on their debts. Across
the region, policy makers have taken advantage of record investment
during the past decade to reduce deficits and accumulate
foreign-currency reserves.
Foreign direct investment to Brazil has more than
quadrupled since 2003 to $75 billion in the 12 months through November,
while FDI to Colombia rose more than nine-fold.
Tamed Inflation
Inflation also has been tamed in most countries.
Price increases in Brazil, which peaked at more than 6,800 percent in
1990, have remained below 10 percent since 2003.
Such policies, and a jump in social spending,
helped lift 21 million Brazilians out of poverty during Luiz Inacio Lula
da Silva’s 2003-2010 presidency. Five countries -- Brazil, Chile,
Colombia, Mexico and Peru -- now enjoy an investment-grade credit
rating.
Brazil’s stock markets rose to 2.7 percent of
total world capitalization on Jan. 13, from 0.7 percent eight years ago,
as commodities producers such as Vale SA, the world’s biggest iron- ore
miner, and BRF Brazil Foods SA, the world’s biggest poultry farmer,
cashed in on higher raw-materials prices.
Shares in Rio de Janeiro-based Vale, have climbed
378 percent since 2003 and Brazil Foods is up 1,622 percent, while
Southern Copper Corp., Peru’s largest copper producer, rose 13- fold.
Emerging-Market Rivals
Even with the progress, the region hasn’t stayed
competitive with emerging-market rivals such as China and South Korea.
Of 76 countries in a 2010 study by the Inter-American Development Bank,
half of the 20 with the smallest productivity gains were in Latin
America.
Only Chile had faster increases than the U.S.
during the past five decades, with a rise of 19 percent, while China’s
productivity went up 219 percent, according to the report by the
Washington-based lender.
Improving education, reducing red tape and modernizing roads and ports are keys to closing the gap, the IDB said.
Investment in Brazil was 20 percent of gross
domestic product in 2011, about the same as in 1980, compared with 38
percent for India and 49 percent for China, according to the
International Monetary Fund.
Eight Latin American countries -- including
Brazil, Argentina and Chile -- ranked in the bottom third in reading in a
2009 survey of 65 educational systems worldwide by the Organization for
Economic Co-operation and Development.
Growing Demand
The region spent 2 percent of GDP on
infrastructure from 2007 to 2008, short of the 5.2 percent the United
Nations’ Economic Commission for Latin America and the Caribbean says it
needs to spend annually through 2020 to meet growing demand.
“There hasn’t been any serious plan to improve
productivity,” said Calvo, who was chief economist at the IDB from 2001
to 2006. “The bonanza just redirected funds to the agriculture sector
and mining.”
Kohavi, 47, says Rio de Janeiro’s international
airport hasn’t changed since he first visited the host city of the 2016
Summer Olympics 25 years ago.
Tired of the inadequate infrastructure, and what
he said was the hidebound mentality of Chilean investors accustomed to
high returns selling copper and timber, Kohavi took his Yarden Venture
Capital fund to Singapore. From the new hub, he invests in technology
companies in Indonesia, Vietnam, the Philippines and other southeast
Asia countries.
‘Old’ Mindset
“Santiago looks very new and beautiful with tall
glass buildings,” said Kohavi, who was vice president of DSP
Communications Inc. in Cupertino, California, when it was acquired by
Intel Corp. in 1999 for $1.6 billion. “But the mindset is old.”
South America’s GDP grew 4.9 percent from 2005 to
2010 -- more than three times faster than advanced economies, according
to the IMF. Much of the growth came from commodities, Calvo said. Raw
materials made up 54 percent of Latin America’s exports in 2010 compared
with 44 percent in 2003, according to the UN.
That trend already is leading to so-called Dutch
Disease, said Simon Nocera, a former IMF economist who founded San
Francisco-based hedge fund Lumen Advisors LLC. The term was coined in
the 1970s when the Netherlands’ discovery of large natural-gas deposits
led its currency to soar and manufacturing to decline.
Vulnerable to Declines
The IMF warned in October that Latin America
remains as vulnerable to sharp declines in commodity prices as it did
four decades ago. Metal exporters Peru and Chile may be most at risk,
while Asian imports of the region’s soy, beef and sugar, so- called soft
commodities, will hold up better during a global slowdown, said Richard
Frank, chief executive officer of Darby Overseas Investments Ltd., a
Washington-based private-equity company with $650 million invested in 50
Latin America companies.
“Which type of commodity a country is dependent
on will determine whether they are going to get hurt,” Frank, former
head of the World Bank’s operations in Latin America, said in a
telephone interview.
Argentina, Venezuela
Brazil, Argentina and especially Venezuela also
may face bigger risks, as they used the tax windfall from commodity
exports to fuel a consumer spending boom, said Andressa Tezine, managing
director of emerging-market fixed income at PineBridge Investments.
In Argentina, President Cristina Fernandez de
Kirchner has relied on a 35 percent tax on soybean exports to fund
subsidies for services including public transport and electricity that
swelled to 72 billion pesos ($16.7 billion) last year, or 4 percent of
GDP, according to Moody’s Investors Service.
In contrast, Colombia and Peru are following in
the footsteps of Chile -- the region’s sole net creditor -- and are
taking steps to boost savings. Colombia´s Congress in June approved
legislation to create a fund similar to one that has long existed in
Chile to salt away excess mining and energy revenue that can be tapped
during an economic slump.
“Right now our ability to raise revenue is
running faster than our capacity to spend it wisely,” Colombia’s
Cardenas said. “That’s why it makes better sense to save the windfall.”
--With assistance from Phil Sanders in Santiago, Ye Xie and Wei Lu in
New York, Alexander Cuadros in Sao Paulo, Arnaldo Galvao in Brasilia,
Harry Maurer in Rio de Janeiro and Andrea Jaramillo in Bogota. Editors:
Joshua Goodman, Melinda Grenier
