Conclusion

Despite the rapid development of economic interaction between the People's Republic of China (PRC) and Latin American and Caribbean (LAC) countries, their trade and investment ties are still in their very early stages. The complementarity of factor endowments dominates their bilateral trade pattern, and much of the investment from the PRC to LAC countries has gone into natural resource extraction. Although the existing patterns of trade and investment cooperation between the PRC and Latin America are well grounded on their respective comparative advantages, both sides need to move beyond this traditional focus to a more dynamic, foreign direct investment (FDI)-based modern intra-industry trade.

We have used augmented gravity models to examine the trade performance of the PRC and Latin America. The analysis suggested that although the differences in institutional quality and infrastructure can partly account for the divergent export performance between the PRC and the LAC countries, the ability to absorb export-oriented FDI inflows is likely a more important factor. Relatively weak FDI inflows in recent years and the small contribution of FDI inflows to export activities in LAC countries may be the key factors behind their overall subdued export performance. The gravity model analysis also found that although Latin America is underperforming in terms of its overall exports, the bilateral export of South America to the PRC is significantly larger than the average export of Latin America to the PRC. This may indicate a strong complementarity in comparative advantage between the two parties.

To expand economic cooperation between the PRC and Latin America, LAC countries need to further liberalize their trade and FDI regimes and regulatory policies, and strengthen the integration with dynamic East Asian economies. A rise of protectionism against the PRC in Latin America would be harmful for all LAC economies. Our model-based analysis suggests that Mexico would suffer most if LAC countries raised tariffs on imports from the PRC, because Mexico's manufacturing sector has developed strong dependence on imports of parts and components from the PRC.

Establishing a cross-regional free trade area (FTA) between Latin America and East Asia will provide an important impetus for their economic integration. Given the heterogeneity in natural endowments, development stages, and production and trade patterns among LAC economies, an East Asia-Latin America FTA may not benefit all LAC countries at the moment. Our simulation results show that the South American countries with a high proportion of manufacturing exports and large trade linkages with East Asia would benefit from a cross-regional FTA with East Asia, while Central American and Caribbean countries would tend to lose. This result underscores that the current bilateral approach pursued by East Asian and LAC economies for establishing cross-Pacific FTAs may be a practical means for East Asia-Latin America integration.

Policy efforts at deepening economic integration between East Asia and Latin America would help LAC firms participate in the value chains of global manufacturing production, and enable Chinese and other East Asian firms to have greater and more stable access to resources and markets. In recent years, some relatively advanced LAC countries—such as Mexico—have developed strong ties with the PRC in manufacturing production and trade. Deep integration—through reduction of behind-the-border impediments—between Latin America and East Asia will help LAC manufacturing firms join the Asian regional supply chains, and facilitate the development of cross-regional production networks.

As shown in our gravity model analysis, FDI has been a key driver of export growth in East Asia. Given the large surplus savings in the PRC and its neighbor economies, East Asia can contribute to Latin American economic development by investing in the latter's manufacturing sectors and infrastructure. This will help some of the lagging players in Latin America rapidly catch up. With these efforts, a more sustainable and inclusive pattern of East Asia-Latin America economic cooperation could emerge, providing immense economic opportunities to both parties.

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