Latin America has two different views on trade and not surprisingly, two competing trading blocs: Mercosur represents the older trade bloc while the Pacific Alliance is a newer regional trade agreement. In many respects, the struggle between these two trade groups epitomizes the economic challenges of the entire region.
In Latin America, there are two very different perspectives on trade. That seems only appropriate given that the region has two competing trading blocs representing two highly divergent economic groups. The trading blocs and their members are on very different trajectories.
The older and largely ineffective Mercosur bloc includes Brazil, Argentina, Uruguay, Venezuela and Paraguay. Chile, Colombia, Mexico and Peru constitute the newer and far more dynamic Pacific Alliance.
“The Pacific Alliance is a much more promising trade pact,” said Juan Pablo Fuentes, an economist for Moody’s Analytics and analyst of Latin American economies. Mercosur “has been in decline since the early 2000s.”
As exemplified by the Pacific Alliance, some Latin America countries and their businesses see regional trading blocs as the wave of a shared economic future. They dismiss fears of a protectionist “contagion” that may blow in from United States or British shores.
Through regional trading alliances, “very fast action can be implemented regardless of global trends,” said Fabian Gil, president of Dow Latin America, at a recent World Economic Forum on Latin America, referring to both Brexit and rhetoric from the likes of Donald Trump.
Other countries in the region, though, are finding it tough these days to peddle the benefits of freer trade. Brazil’s commodities-heavy economy, the largest in Latin America, contracted by more than 3% last year. It faces further contraction this year and next as low commodity prices continue to stymie growth. That dismal performance has given the country’s strong protectionist forces even more ammunition.
Smaller countries are facing difficult times as well and many domestic players are resisting more open trade. Then there are the outliers like Venezuela, which are melting down.
“It’s hard to sell trade agreements when your economy is struggling,” said Fuentes.
“Mercosur must be reformed or dismantled,” wrote Fuentes in a 2014 Moody’s Analytics
Diverse Economic Patterns
The contrasting approaches not only underscore Latin America’s ambivalence toward free trade, but also the difficulties in boosting commerce within the region. That trade flow remains extremely low, especially when compared to commerce with the US and China.
According to World Bank data, trade within Mercosur in 2013 amounted to just 14.2% of its total trade, while intra-Pacific Alliance trade was a scant 3.6% of total. By contrast, trade between Pacific Alliance member countries and the US was half total trade.
Several factors are working to thwart larger trade flows in the region, even among the most dynamic players. That includes two problems particularly familiar with shippers: infrastructure and bureaucracy.
“That is the big limitation for us, moving products in the region,” said Gil, describing ships anchored for days at ports or trucks stuck on the roads.
Add to that steep tariffs levied between neighboring countries that are not members of the same bloc. According to Gil, products moving from Argentina to Colombia are subject to duties that can reach as much as 50%.
Geography presents an enormous logistics challenge as well for the Pacific Alliance, whose countries are scattered throughout the region. (Four countries, for example separate Chile from Mexico.) That makes land transportation from country to country extremely difficult and costly. Sea transportation is pretty much the only game in town.
“They need to upgrade ports and, in general, infrastructure,” said Fuentes. “That’s been a deterrent to trade,” said Fuentes.
In Chile, for example, some 95% of foreign trade was transiting its seaports, according to a US Commerce Department study a few years back.
The countries are attempting to boost their ports’ capacity and each has earmarked money for new or improved facilities. Mexico is leading the way. Last year, the government announced it would invest a further $5 billion in ports improvement.
However, road and rail access to ports in these countries must be improved as well and an OECD study criticized Chile last year for neglecting these links. It’s not cheap. Colombia has set an ambitious target of $100 billion in transportation infrastructure for the decade ending 2021, including $25 billion for roads alone.
Foreign direct investment is certainly increasing in these countries and that includes some terminal operations. However, it’s been hard to attract the kind of capital necessary to improve transportation flows.
Yet, despite challenges, the five-year-old Pacific Alliance is extremely promising. The much older Mercosur, whose origins date back to 1991, is, by all accounts, a failure.
The Mercosur Mess
“Mercosur must be reformed or dismantled,” wrote Fuentes in a 2014 Moody’s Analytics study. “Mistrust within the bloc, a deficient legal framework and a lack of commitment from its members are to blame.”
If anything, it’s got worse since the study was released. Venezuela’s socialist economy is in free-fall, with food shortages and hyperinflation. Brazil’s commodities-based trade is in dire straits, with corruption scandals rocking big business and government alike. Argentina’s economy is at a standstill and economists project GDP will fall again this year.
Politically, Mercosur is a mess. Members are now fighting with each other. Conflict burst out into the open over the past few weeks.
Last month, Venezuela was in line to assume the group’s presidency, which rotates every six months. Paraguay blocked the move and other countries condemned Venezuela. It was allowed to join in 2012, but has yet to implement many free-trade protocols. Members gave Venezuela a deadline of August 12, with the threat of downgrading membership. Venezuela’s hardline president Nicolas Maduro responded by calling the other leaders names including “the triple alliance of torturer presidents,” according to the South Atlantic News Agency, MercoPress.
Add to all this a structural policy impediment that cripples Mercosur’s trade growth. It demands that member countries negotiate as a group when seeking other free-trade agreements, rather than negotiate bilaterally. This severely limits what individual members can do to expand their options. Mercosur has signed only four free-trade agreements in its history, with Egypt, Palestine, Lebanon and Israel. It has been negotiating for years with other blocs, most notably the EU, but there’s no end in sight.
Pacific Alliance Looks to Trade for Growth
The Pacific Alliance, on the other hand, embraces open trade and encourages bilateral agreements between its members and others. “The economies of the four countries are among the most liberalized in the world,” wrote the Congressional Research Service in a recent study.
Its leaders support the need for more agreements to broaden trade. “Increasingly, these trade agreements become an important tool not only to penetrate international markets, but also to create growth within each of our countries,” said Maria Claudia Lacouture, Colombia’s commerce, industry and tourism minister, another speaker at the World Economic Forum.
While Mexico accounts for the majority of both population and GDP, the Pacific Alliance is a deceptively large group. According to statistics compiled by the Inter-American Development Bank (IADB), the alliance, with a population of 200 million, represents 35% of Latin American GDP and 50% of regional trade. The bank calls the Pacific Alliance the “eighth largest economy in the world and the seventh largest world exporter.”
The group has the potential to grow much larger.
Panama and Costa Rica have applied to join the alliance, although no date has been set for either. There are pockets of opposition in both countries, including farmers in Costa Rica who recently voiced disapproval of the proposed pact. This is understandable, given concern about competition from larger countries.
“For small countries, it’s not as easy to see the economic benefits” of free-trade alliances, said Fuentes.
Mercosur: Frozen in Time
Meanwhile, the future of Mercosur is in serious doubt, and not just because of infighting with Venezuela. In July, Mauricio Macri, Argentina’s new centrist president, called for a trade agreement between the two blocs. “We have to boost the Mercosur bloc and take it to the 21st Century and to do that we have to integrate with the Pacific Alliance,” he told business leaders at a Pacific Alliance summit in Chile. He criticized Mercosur for being “frozen for a long time.”
It’s more likely that Mercosur could wither on the vine or simply fall apart.
Uruguay is testing the alliance. Uruguay said it will sign a free-trade agreement with Chile in October, challenging Mercosur’s alliance-only approach to new agreements. More critically, Uruguay is considering an invitation by Peru and Chile to join the Pacific Alliance, something that could happen as early as 2017. While Uruguay is a small country, with a population of only 3.4 million, its government and economy are far more open than other Mercosur members. What’s more, it is attempting to decouple its economy from traditional dependence on neighbors Brazil and Argentina.
The question now is whether other countries allow Uruguay to retain some status within Mercosur or boots it out, a move that could well hasten the alliance’s demise.