Diversifying Chile’s Exports

Chilean exports are on the rise. Last year, the country exported US$71 billion worth of goods, up 31.5% from 2009. Exports during the first eleven months of 2011 totaled US$74 billion, up 17% from the same period of last year.

But while the value of Chilean exports is growing, the basket of products the country exports is actually shrinking. According to figures from Chile’s industrial association SOFOFA, the number of products Chile exports has fallen steadily from 5,302 in 2005 to 4,938 in 2010.

The reason is higher demand and prices for a handful of commodities which Chile produces in abundance, explains Hugo Baierlein, head of foreign trade at SOFOFA.                                                                                                                                                                       

Copper alone has accounted for more than half of Chilean exports so far this year. Add other commodities such as wood pulp, used in paper production, and molybdenum, a byproduct of copper mining, and the figure rises to almost 60% of the country’s exports, up from 40% a decade ago.

Over the last decade and a half, Chile has signed a flurry of free trade agreements and other commercial treaties which give its goods and services preferential access to markets representing most of the world’s economy and population.

Government and business expected that bringing down trade walls would help to diversify Chile’s foreign trade away from copper and other traditional exports to a wider range of goods and services.

This is reflected in the diversification of exports to the US market. In the first nine months of 2011, 1,962 Chilean firms exported 1,734 products to the United States – the most of any other market – and total exports grew by 34% to US$ 7.12 billion, representing Chile’s third most important export destination after China and the European Union.

But exports of minerals and agricultural products still dominate Chile’s export basket. Manufacturing was supposed to be one of the big beneficiaries of Chile’s free trade agenda but that was partly based on unrealistic expectations. When Chilean manufacturers moved into new markets in Europe, North America and East Asia, they soon ran up against other barriers, especially quality standards.

“We thought, once the agreements were inked, it would be easy,” admits Baierlein. “But soon we realized the standards are very high.”

Quality standards

SOFOFA is now working closely with the government and the National Standardization Institute to develop norms for a wide range of sectors to make it easier for them to break into new markets.

Significant progress has been made and the number of Chilean manufacturers has quadrupled in the last five years bringing major benefits to some parts of the economy.

Since two quality standards were published for matches, for example, Chilean matchmakers now export to 12 countries around the world, says Baierlein.

Quality standards not only help Chilean companies compete abroad but also make it tougher for foreign firms to export shoddy products to Chile, protecting both local businesses and unsuspecting consumers.

But as fast as Chilean firms fulfill one kind of standard, new ones are appearing. European supermarkets increasingly require products to display their carbon footprint. Several Chilean wineries have already invested in renewable energy or are planting trees to reduce or offset greenhouse gas emissions. Others have adopted fair trade labels, certifying the quality of their labor relations. Standards on water consumption could follow.

Currency appreciation

Chile’s success in exporting copper and other commodities has brought in billions of dollars in tax revenues and foreign earnings but has proved a double-edged sword to the economy as a whole. As the value of Chile’s mineral exports has soared on the back of apparently insatiable Chinese demand, the value of the Chilean peso has climbed.

Known as the China Trap, this has put terrible pressure on highly price sensitive sectors such as fruit exporters and wine producers.

“Our competitiveness has been affected, margins have fallen and the level of indebtedness in the industry has risen,” explains Ronald Bown, president of the fruit exporters association, ASOEX.

When the US dollar threatened to break through the 460-Chilean-peso barrier earlier this year, thousands of farmers from the Central Valley, Chile’s agricultural heartland, held a major protest demanding more support from the government. Prolonged weakness in the dollar could cost jobs in a sector which employs close to half a million Chileans.

Although the Central Bank has sought to shore up the dollar, buying up US$12 billion worth in daily auctions, it is likely to remain weak given the slow projected growth of the US economy.

Meanwhile, Bown says the government could do much more to support farming by providing more resources for phytosanitary controls and the Agriculture Inspection Service (SAG), as well as investing in Chile’s image abroad.

But the real answer lies with reconverting the sector to less vulnerable products and markets.

Aiming for quality

Free trade agreements have already allowed Chilean agriculture to make significant inroads into once-closed Asian markets, diversifying the markets the industry serves. The Asia Pacific region today accounts for 14% of fruit exports, up from almost nothing at the beginning of the century.

But the sector also needs to experiment with higher end varieties and invest more in training its workers to increase competitiveness and reduce sensitivity to fluctuations in the exchange rate.

“The sector has strong growth prospects in the medium term if things are done well and we manage to pull off a major reconversion process,” says Bown.

Chile’s wine industry is adopting a similar strategy.

In order to double exports to US$3 billion annually by 2020, the industry needs to go for quality rather than quantity. As more producers specialize in premium wines, the sector hopes it can boost the average price for a box of twelve bottles to US$37, from US$27 currently.

Unable to compete on labor costs, Chilean manufacturing will only succeed abroad by targeting high-end niche markets, argues SOFOFA’s Baierlein.

For example, the textiles industry has retreated in recent years in the face of cheap Chinese apparel, but the industry could take better advantage of rules of origin clauses in free trade agreements to import cloth and export high quality garments. Some companies, such as Trial, are already reaping the benefits, selling men’s suits in New York retailing at US$600-US$700.

Tourism promotion

Although not strictly an export, the government sees inbound tourism as another means of pulling in foreign income. The number of foreign visitors to Chile has doubled over the last decade to over 2.7 million last year, with a sharp increase in the number of long-haul visitors from Europe and North America who tend to stay longer and spend more.

Chile’s attractions from the fjords of Aysen to the Atacama Desert are world-class and the country is well-served with tourism infrastructure such as five-star hotels, domestic flights and good roads even in remote areas, says Francois Carrere, general manager at CTS Turismo, one of the country’s largest private tour operators.                                                                                                                                                   

In January 2011, the government recognized the importance of tourism for the economy by launching a new Undersecretary for Tourism, dependent on the Economy Ministry. In addition, AmCham is working with the Ministry and industry associations to make labor regulations more flexible and thereby improve the competitiveness of the sector.

But Chile is still a long way behind in terms of tourism promotion. Other countries, such as Colombia, Peru and Uruguay, already run slick TV campaigns tempting foreigners with their attractions. Chile’s first campaign, on the other hand, is limited to bus and metro adverts in four key markets: Brazil, Germany, Spain and the United States.

However, the real barrier to increasing inbound tourism is insufficient air connections, says Carrere. Today the country is poorly served with just a handful of airlines controlling the key routes to Chile’s main markets, especially in Europe.

While the government is working to expand Santiago’s increasingly-clogged Pudahuel international airport with a new terminal due for completion in 2017, the industry is keenly watching to see what impact the merger of Chilean airline LAN Airlines with Brazilian rival TAM will have. Although the creation of Latin America’s largest carrier will further concentrate the region’s aviation markets, operators hope the new company will increase connectivity especially to Brazil and Europe. Direct flights to more cities in Brazil would massively expand Chile’s reach in its largest market.

The industry has also done little to tap the huge Asian markets on the other side of the Pacific, says Carrere. Visitor numbers from Japan, India and Russia remain tiny compared to their potential but again air connections remain a bottleneck. In contrast, the industry has been able to build important markets in Australia and New Zealand, thanks to direct flights to Sydney and Auckland, he says.

An IT platform?

Connections are not a problem for Chile’s surging information technology sector. Its skilled professionals, a common time zone with the US Atlantic coast, and its world class communications infrastructure – one of the best in the region – have made Chile a natural base for an increasing number of technology firms, says Raul Ciudad, president of information technology association ACTI.

So far the industry is largely focused on the domestic market – just US$500 million out of US$4 billion invested in IT last year was export-related – but by joining forces with financial, engineering and other professional services, business leaders believe Chile could become a hub for a range of global services.

“We reckon we can increase exports of global services to around US$5 billion within a few years, up from US$2 billion currently,” estimates Ciudad.

The biggest barrier, however, is a lack of trained recruits. While Chilean engineers are well-respected (they are seen as more rounded than colleagues from elsewhere) and cost about 40% less than their US counterparts, there are far too few of them. Student numbers may have exploded over the last decade but the numbers opting for technical courses have lagged.

“Young people seem to prefer courses they see as easier like journalism or sociology,” laments Ciudad.

ACTI and other business groups are trying to persuade the government of the need for a campaign to convince school-leavers to opt for better-remunerated technical careers, but the issue has been lost in this year’s debate over whether students should pay for their education.

Similarly, the industry faces a massive shortfall of competent English-speakers. Roughly half of Chile’s IT workforce speaks English compared to 3% nationally. This makes it much more difficult for Chile to fill the call-centers and helpdesks at which it could excel. Lack of language skills also hinders the development of tourism services, says Carrere.

Size is everything

Another problem facing potential exporters is size. Most Chilean companies, from IT to manufacturing, are small businesses with a handful of employees dedicated to servicing a small number of clients and products.

Even an order from a small US firm would swamp their books, says SOFOFA’s Baierlein. In response, the government is trying to encourage Chilean firms to join forces in order to be able to seize opportunities in these bigger markets.

Another strategy is to take on smaller targets. Chilean businesses had hoped free trade agreements would open up a goldmine of opportunities by permitting them to participate in public purchasing tenders in the United States and Europe but this had not come to pass, partly because many Chilean firms lack the necessary scale.

So SOFOFA plans to lead missions to allow Chilean firms to participate in tenders in smaller markets in the region before trying to hook bigger fish.

“We will start with Colombia, Paraguay and Costa Rica, develop some success stories, and only then move onto the U.S.,” explains Baierlein.

Another aspect of Chile’s network of free trade agreements is the potential to turn the country into a business platform. By exploiting rules of origin included in the deals, firms from third countries could use Chile as a springboard to markets that would otherwise be closed to their products.

Several European firms have already installed operations in Chile for the access it offers to China and the United States. “We are seeing Spanish firms here at the rate of one or two a week,” says Baierlein.

Such investments, of course, may be vulnerable to the signing of other agreements. The French carmaker Peugeot used to assemble cars in Chile for the Mexican and Colombian markets, but when Mexico signed a free trade agreement with the European Union in 2000, Peugeot moved its operations to France and Chile lost out on exports worth around US$700 million a year.

But the increasingly-protectionist stance taken by Chile’s Mercosur partners Argentina and Brazil makes it highly unlikely they will sign trade deals with the United States and, as a result, firms are lining up to invest in Chile.

Attracting foreign investment and exploiting niche opportunities is vital if Chile wants to reduce its dependence on copper, molybdenum and pulp. Developing new products and services is especially difficult when high copper prices weaken their competitiveness, but when the copper boom eventually ends, as it must, it will be to these alternatives that Chile will have to turn.

Tom Azzopardi is a freelance journalist based in Santiago