Low-hanging fruit

On February 27, a massive earthquake struck Chile. The South American country is accustomed to tectonic instability, situated as it is at the intersection of four continental plates. Despite efforts at erecting earthquake-resistant buildings, the latest quake, clocking in at 8.8 on the Richter Scale, still managed to do enormous damage.

In addition to loss of life, looting and blackouts, the ensuing tidal waves damaged much of Chile’s export infrastructure. The port of Valparaiso was closed temporarily, and secondary ports remain closed at time of writing.

Authorities are scrambling to get the ports back up and running, and with good reason: Chinese customers are waiting impatiently. Rich in natural resources but with a small domestic market, Chile relies on international trade to keep its economy ticking over, and China is a willing trade partner. China’s relentless industrialization has led it to scour the world for raw materials, and Chile is a natural target; it has the world’s largest known copper reserves (160 million metric tons), and produces a wide variety of other minerals, including coal and uranium.

"Chilean exports to China are concentrated in raw materials," said Alejandro Puente, chief economist for Banco Bilbao Vizcaya Argentaria (BBVA) Chile. "In the last five years this feature has intensified."

According to Central Bank of Chile data, mining exports comprised an average 82% of Chile’s total shipments to China between 2003 and 2009, helping to produce a hefty trade surplus of US$6.36 billion in 2009. However, many Chileans are uncomfortable with the way minerals – and copper in particular – dominate exports. From the political left, critics claim Codelco, Chile’s state-owned copper mining giant, is selling off the national patrimony at the expense of environmental preservation – copper mining is a famously dirty process. The more business-minded fear that Chilean dependence on copper leaves it exposed to wide fluctuations in commodity prices and risks distorting the competitiveness of other local industries.

Taking both points, the Chilean government is seeking to diversify the country’s trade mix with China, but has so far met with little success. According to Puente, Chilean industrial exports declined between 2003 and 2009 from 24.6% of total exports to 14.4%, while mining increased from 74.3% to 85%.

It is a tough nut to crack. Chile is a lover of trade pacts. In addition to being a member of the South American regional trade bloc Mercosur, Chile has bilateral free-trade agreements (FTAs) with the likes of the US, the EU, Japan, South Korea and China. The China pact, signed in 2006, eliminated tariffs on imports of Chinese manufactured goods, exposing domestic firms to competition, directly and indirectly. Chinese exports can stop in Chile, or they can use the web of existing FTAs to re-export to markets in the Americas or Europe.

"The FTA doesn’t signify a diversification of our exports to China, most of which are low value-added primary materials," said Pablo Ugarte Cruz Coke, manager of investment and development for Corporación de Fomento de la Producción de Chile (CORFO), a government economic development agency. "As for Chinese imports, the reduction of tariffs on Chinese products entering Chile from 6% to 0% will result in a great loss of competitiveness for several national manufacturing sectors."

No yellow peril

But unlike some other countries, most Chileans don’t seem to feel very threatened by the prospect of Chinese competition. According to Alberto Cañas, Trade Commissioner at ProChile, the Export Promotion Bureau of Chile’s Ministry of Foreign Affairs in Shanghai, this attitude derives from Chile’s decision to open its markets in 1975. Back then, the government believed that domestic industries could survive the competitive onslaught and, on reviewing the decision during the FTA negotiations with China in 2004, it came to the same conclusion.

"We knew some Chilean industries would be affected, especially the manufacturers of textiles and electronics," Cañas said. "But we know we get more benefit out of an open economy than a closed one."

 This is not to say Chileans are blasé about rebalancing their exports. Today, many are beginning to pin their hopes on another kind of natural resource – agricultural products.

Here, too, Chile is blessed. The Humboldt Current, a frigid liquid superhighway that runs into and along the coast of Chile, is the world’s most productive marine ecosystem. Between 18-20% of the global fishing catch is harvested from this submarine hypermarket, much of it by Chilean fishermen. The current also impacts the country’s terrestrial ecosystem, engendering a mixture of rainforest and arid deserts that in combination produce a wide variety of fertile croplands suitable for fruit, dairy, and wine production. Selling this natural bounty to China, it is hoped, will ameliorate the dominance of mining products. 

Feeding China

The prospects for agricultural exports to China are excellent. China is home to more than 20% of the world’s population but only 10% of its arable land, a conundrum exacerbated by rapid economic development. Urbanization is eroding the agricultural workforce, industrialization is preying on farmland, and pollution is harming terrestrial and marine resources.

At the same time, Chinese consumers are in many ways the ideal target for Chilean foods, especially fruit. "Chinese people are very particular about their fruit," said Arturo Arranda, country director for China at The FoodLinks, an industry group supporting Chilean food importers. He notes that Chinese fruit vendors will set apples in individual baskets. Indeed, according to a report in El Mercurio, a Santiago-based newspaper, one of the first lessons Chilean fruit importers learned in China was to put windows in their fruit boxes so consumers could see what they were buying.

Coming from the southern hemisphere, Chilean fruits have the added bonus of being "counter-seasonal." They are ripe just in time for the Spring Festival – fruit is a traditional gift in China – while North American and European orchards are still dormant.

Wine, too, is a potentially hot product. Chinese wine consumption is increasing rapidly, and Chilean vintages sell at a significant discount to their French counterparts while being of comparable quality. They can also lay claim to a peculiar snob appeal: Thanks to Chile’s geographical isolation, local vines – originally imported from Europe – are the only ones in the world to have survived the phylloxera epidemic that wiped out European vine stocks in the late 19th century. In this way Chilean grapes are arguably more authentically European than modern European grapes, which are produced by phylloxera-resistant vines re-imported from the US.

Despite all these advantages, Chinese imports of Chilean agricultural goods began with a whimper, not a bang. While the FTA was a milestone on paper, it had two weaknesses: timing and implementation.

First of all, the reduction of import tariffs was staggered. "On some products the tariffs are reduced by 2% per year, some by 4% each year, some are already at zero and by 2015 they will all be zero," said Arranda of The FoodLinks. The tariff on bottled wine remains at 8.6%, and this slowed initial demand.

Caught out by customs

Worse, however, was the removal of administrative trade barriers. A 2008 ProChile report noted widespread dissatisfaction with the behavior of Chinese customs toward supposedly low- or no-tariff Chilean products. Under Chinese rules, imports only qualified for FTA treatment if they were shipped directly from Chile; any transfer of ship or aircraft negated the country of origin certificate.

Since the amount of direct shipping between Chile and China is relatively low – in particular vessels that carry containers of fruit (packed in specially-designed bags to preserve freshness) and bottled wine – this made the FTA moot for 67% of the exporters surveyed by ProChile.

According to Alberto Navajas, general manager of Chilean fruit exporter Rucaray, the logistical situation is aggravated by the overall collapse in container traffic over the last two years. As shipping companies look to cut costs, they are making more stops along their routes and reducing speeds to save fuel, which means Chilean fruit is less fresh on arrival in China.

A third weakness is the relatively poor marketing efforts of Chilean product groups. Adolfo Cadiz, managing director of PTC Chile, a firm that focuses on supporting Chilean seafood and wine importers, says that domestic firms are poorly positioned to compete with countries that push their products through rigorous image development campaigns.

"Our main competitors in wine are from Australia, New Zealand, South Africa and the US. They work together and they have more resources to develop their country’s image as a winemaker," said Cadiz. "The Chilean vineyards don’t necessarily do that. Not all Chilean companies are willing to invest in the future. They want the cash-flow today."

The problem is not limited to the wine industry. Cadiz notes that while Chilean olive oil is premium-class, it is Spain that runs ads on Chinese municipal buses promoting the country as an olive oil producer. The result is that Chile, as a brand, remains relatively unknown among Chinese consumers.

Fortunately, progress has been made over the last couple of years. In 2009, the Chilean government entered into negotiations with Beijing over the country of origin issue and achieved a partial resolution, said Cañas of ProChile. Santiago is also pushing on sanitation approvals for Chilean agricultural products – which have not been easily acquired.

Tariff levels have now dropped noticeably according to their respective schedules, and Chilean exports have correspondingly increased in absolute terms. Between 2004 and 2008, food and wine exports rose by 83%, from US$181 million to US$332.9 million. Growth dipped slightly in 2009, but 2010 promises recovery. Chilean wines are gaining market share – and are also being shipped in liquid bulk for bottling here – while Chilean cherries are the most popular imported cherries in China.

Furthermore, the country hopes its big debut at the Shanghai Expo will finally make a dent in Chinese consumer consciousness for good.

Challenges ahead

Chilean exporters will continue to face challenges, both from better-funded and coordinated foreign competitors and from the local regulatory environment, which continues to erect de-facto barriers. Chilean milk, for example, is still struggling to enter the country after the melamine scandals.

"It is a big headache," said Aranda of The FoodLinks. "[Chinese authorities] are requiring a certificate of origin, a health certificate, a quality certificate and screening for toxic compound levels like nitrates. These laws existed before the scandals, but now they are very strictly enforcing them."

In addition, Chilean firms must learn how to navigate the fragmented nature of the Chinese food market, much of which is dominated by informal street-side wet markets where most local fruit is sold. This complicates distribution and quality control.

As to whether the country will ever be able to diversify away from copper, the answer lies in Beijing, not Santiago. If China continues to buy and stockpile copper, Chile will certainly continue to sell it. There are, after all, worse problems to have.