Belgo-Chilean Chamber of Commerce

Some features of Chile: Why to do business with this leading emerging

economy In the context of the preparation of the Belgian economic mission to Chile headed by Prince Philippe of Belgium from 3 to 8 December 2011, the Belgo-Chilean Chamber of Commerce would like to contribute to the assessment of the strategic reasons for Belgian firms to join to this high-level mission. The Chamber is honoured to make available a special report gathering significant data and key-information for presenting an overview of the Chilean economy and society to Belgian firms and persons interested to join this economic mission. The purpose of this document is to contribute to their information for helping them to assess/justify their participation to this federal mission to Chile. As a successful dynamic economy, Chile deserves more attention than its own market seize for the leading role its economic model uses to play. Pioneering most of the modernizing reforms implemented recently in other Latin American economies, the Chilean model is the basis for understanding how Latin America is now enjoying a sound renewed growth in spite of the global crisis and the difficulties in which most advanced economies are trapped. Therefore, Chile appears as an attractive candidate for doing business with as well as a strategic platform for Belgian interests in other Latin American markets as well as in the Pacific Rim. The present document is based upon official documents from International Financial Organizations and from the Chilean authorities, the list of which is provided at the end of the leaflet, but the positions expressed are only those of the Chamber and are issued under its own exclusive responsibility.

Brussels, October 2011 Christian Ghymers

President of the Chamber in Brussels

Content

Executive summary

1. General information

2. Overview of macroeconomic development and prospects:

• The Chilean success story • The resilience to the 2008-2009 global crisis • The recovery and the prospects for 2012 • Stock Exchange, business activity, inflation, employment, real

exchange rate, risk premiums, terms of trade, real copper prices, fiscal policy, financial system

3. External Trade:

3.1 Export structure, copper share and geographical

orientations 3.2 Non-Mining Exports 3.3 Trade in goods 3.4 Trade with the EU 3.5 Trade with Belgium 3.6 Trade in services

4. Foreign Direct Investment

5. Structural and Institutional Features

Main sources: statistical and graphical documents are taken from the Central Bank of Chile, Eurochile, the Foreign Investment Committee, Eurostat, and IMF. However, none of these institutions from which data or charts were taken could be responsible for the diagnostic and assessments presented in this document which remains of the exclusive responsibility of the Chamber.

Executive Summary “Oh Chile, this 'pilot-fish' for Latin America !...” (General De Gaulle's informal exclamation when arriving in boat to Valparaiso, Chile on 1st October 1964) The experimentalist Chilean idiosyncrasy covered at high social and political costs the whole range of possible economic policies… This historical sentence coined prophetically by the French President during his official visit to Chile remains fully true more than half century later as the best synthesis of the Chilean society. Chile uses to play a much heavier weight in its region with respect to its own economic and demographic weight. The reason relies upon the peculiar idiosyncrasy of Chilean people and institutions. Chile has been innovating and experimenting on its own many different policies and eventually, after costly experiments on both extreme sides of the possible range of economic models, it settled down in the second half of the 1980s paving the way for a smooth return to democracy. …stabilizing into a new economic model which combines successfully market, macro-stability, regulations and social policies… From 1990 the democratic governments preserved the pro-market reforms made by the military regime, and consolidated them into an innovative synthesis which has been trying to combine the efficiency of a free-market economy, macroeconomic stability together with strong microeconomic regulations and the urgent need for improving social cohesion and equity. The Chilean economic model, based upon structural fiscal surplus, independent monetary policy and financial regulations, is now considered as a success-story, which is spreading all over the region and even outside, where Chile appears often as a leader in successful reforms. …although income inequality remains high and social reforms are still lagging, Chile appears as the best candidate for a strategic partnership with Belgian interest and entreprises… Although the reforms are far from over and the success still need to be consolidated, especially on the social and educational sides, the sustained economic growth of Chile during almost three decades has given it a key-player role for its leadership in the recent positive transformation process of Latin America. This gives to this peculiar relatively small economy a strategic place in the global economy and the Pacific Rim. Companies with a global attitude or interest, whatever their size, have an interest to seize the strategic opportunities Chile could offer for their future as a test platform or a "hub" to the Americas and Asia. Belgian firms should pay special attention to looking for possible partnerships with Chilean counterparts in their global strategy.

In a nutshell Chile’s main features are:

• A fast growing economy based upon macroeconomic and financial stability rooted in fiscal and monetary discipline, with robust regulatory and supervisory systems, backed by credible institutional checks & balances, under scrutiny of independent experts accountable in active public debates. During the last two decades, it was the top growing economy of Latin America with a sustained average performance around 6% per year

• An Open economy: an emblematic fair trade partner fully respectful of the WTO rules (and EU regulations) complemented by over 20 trading arrangements (among which a full association with the EU) with 57 countries granting Chile preferential free access to 85% of its exports and markets encompassing over 4.2 billion consumers. Chile applies one of the lowest and non-discriminatory tariff system among emerging economies,

• A Competitive economy: The Global Competitiveness Index 2010-2011 ranked Chile first in Latin America while The Economist ranked Chile’s business environment as the region’s best.

• Good governance: Chile enjoys a very stable and transparent institutional order which allowed to build a macroeconomic scheme of governance based upon credible room for maneuver for both fiscal and monetary policies combined with a wise set of financial regulations which makes fully resilient the Chilean financial sector to strong external shocks; Chile is now one of the very few economies enjoying a net creditor position for its public sector with a genuine independent central bank managing a credible monetary policy. Furthermore, Transparency International’s Corruption Perceptions Index 2010 ranks Chile 1st in Latin America

• Quality of Life: According to Newsweek magazine, Chile’s thriving economy, health system and political stability make it the best country to live in Latin America. FTI Consulting (Forensic Technologies International) ranks Chile as the region’s safest country, noting the high regard enjoyed by police and security forces.

• World-Class Connectivity: According to the Connectivity Scorecard report, Chile leads telecommunications technology development in Latin America. In addition, strong public-private partnerships have given Chile some of the most advanced road, air and marine transportation infrastructure in the region.

• On the negative side, Chile continues to present unequal income distribution in spite of significant efforts during the last two decades with specific social policies. On top of ethical aspects, this weakness is also an obstacle for solving the present challenges the Chilean model is facing in the global competition: social cohesion is more than ever a crucial factor for a sustained high economic growth. This year, after strong social movement, radical reforms for improving the education system and increasing the social support to education, have started to be implemented very recently.

1. General Information

2. Overview of Macroeconomic development After a difficult and shaky period from 1970 to 1983, the Chilean economy initiated a fast and almost uninterrupted economic growth… Submitted to sharply opposite economic reforms, first from 1970 to 1973 with extreme-left socialist reforms (Allende’s government), and second by reaction with extreme neo-liberal dogmatism (Pinochet’s military regime), the Chilean economy registered very poor and unstable development up to 1983, with deep debt-crisis and financial disaster. At this time, in the context of Latin America entering into its so-called “lost decade” (debt crisis) a more pragmatic economic policy scheme was implemented and the economy entered in an almost uninterrupted fast growing period, in contrast with the rest of the region. On average from 1983 up to 2011, the annual rate of growth reached 5.3%, i.e. the highest average rate in Latin America over this 28 years period.

…becoming an economic success-story, Chile being now the country with the highest average standard of living in Latin America… This economic success-story is mainly explained by very sound and classical policies together with some peculiar regulations. This original scheme has been firmly maintained all along this period of 28 years throughout the successive regimes and governments since then. …the recipe of which is an original combination of free-market with regulations and institutional checks & balances… The recipe of the Chilean economic success is based upon the combination of:

• stable and credible macroeconomic policies, with an independent monetary policy and a structural fiscal surplus,

• together with a unilateral openness of the Chilean market for disciplining domestic producers through external competition pressures and a non-discriminatory legislation for welcoming foreign investments,

• a microeconomic framework favorable to private initiative but in a strong regulation framework using market incentives ("market-conform regulations")

• the creation of a deep a sound financial capital market thanks to prudential regulations, regulated private pension scheme, and some peculiar measures against speculative capital inflows.

…partially complemented by tackling (insufficiently) the social dimension… These policies were progressively improved and adjusted according to the new development, and started to tackle the huge accumulated “social debt” when democracy was restored in March 1990, leading to a new “socio-liberal” model. If absolute poverty is spectacularly eradicated as a by-product of the high growth path ("trickle-down effect"), social inequality has not yet been successfully reduced in spite of two decades of formal attempts, and remains a major challenge to be solved. Economic analysis demonstrates that social inequality might become a serious obstacle to growth at some stage when the economy needs an improved social cohesion with faster human capital accumulation. Although the educational system is relatively good with respect to the regional average, it is amazingly expensive and too weak according to international standards and for meeting the needs to face Asian challenges in the global competition. …but very resilient to the two major shocks of the global crisis and to the exceptional earthquake of 2010… The best test-case of the resilience of this Chilean model is to assess its recovery from the two major shocks of the recent/present global crisis and the violent earthquake of early 2010. This very open economy (with exports representing about 40% of GDP - twice the rate of Brazil or Argentina) was initially strongly affected by the collapse of international trade at the end of 2008/beginning of 2009. However the Chilean economy has bounced back firmly as a result from the excellent counter-cyclical macroeconomic management of Chilean authorities. Such a crisis management was allowed by the available rooms for maneuver for both monetary and fiscal policies combined with the accumulated capital of credibility of the Chilean Central Bank and Treasury, as well as of the financial supervisory authorities which were able to ensure the perfect soundness of the local financial/banking system.

The GDP fell by only 1.7% during the year 2009 (against -4.2% for the € area) and expanded at 5.5% in 2010 (against 1.9% in the € area) in spite of the important handicap (bottlenecks) provoked by the historic-record-earthquake of February 2010, and is estimated to growth between 6 and 6.5% this year in spite of the international slowdown of the second half of this year. For 2012, the impact of the emerging new recession in Europe (and maybe elsewhere) will affect downward Chilean growth. Although a forecast of 4.5% seems still possible, it is too early in November 2011 to take a position since the €-debt crisis could continue to be mismanaged (in this case the worst scenario would impact Chile too) or to be solved (in this case, the European recession would be smooth and Chile would continue to growth above the average).

This chart shows that most of the Chilean growth comes from emerging economies. However, emerging could be affected by a depression in the developed economies in case the present € debt-crisis would not be resolved adequately and would translate into a financial sector panic.

The Chilean recovery is spectacular but Chilean stock exchange does not reflect the same, being lower in comparison to the US or even the European stock exchanges for 2011.

This indicator indicates some slowdown for the second half of 2011, with the economy converging towards a more sustainable growth close to the potential output of Chilean economy. Therefore, inflation pressures won't appear and the stability target of the Central bank of 3% per year will be respected easily (contrary to 2008 when international commodities and food pushed the inflation above the target before to be made up by deflation in the second half of 2009). The expectations of inflation for 2012 converge exactly to 3%.

Unemployment is decreasing rapidly in Chile after reaching an annual average of 10.8% of active population it decreased to an average of 8.2% in 2010 and is now around 7.5%.

The exchange rate of the Chilean peso is freely floating since the Central bank manages with an inflation-targeting. However, for cyclical consideration, the Central Bank uses to intervene in some circumstances. This was the case in 2008, when depreciation was organized as a way to cushion the shock of the external crisis. The peso depreciated sharply in real terms at the beginning of 2008 (an increase on the chart above), but appreciated again (a decrease on the chart) during the end of 2008 and in 2009 and 2010. At the end of 2010 and for 2011, again the Central Bank decided to buy dollars in order to depreciate its currency. Measured in real terms (i.e. taking into account the inflation differentials) the exchange rate is close to its long term average (see red line above)

Measured by the CDS on Chilean bonds at 5 years and compared to the regional average for equivalent CDS for Latin America, Asia and European emerging countries, the Chilean risks are the lowest. The chart below shows the same measure of CDS for different kind of Chilean bonds (public debt and company debt). Presently this spread is around 130 basis points (1.3%).

Chilean spreads are also the lowest in Latin America as well as compared to other emerging economies.

The terms of trade have been especially favorable to Chile during the 2000s, the main reason being the copper price (see next charts).

On a very long period (from 1900), the relatively high price of copper in the 2000s compared to the 1990s and 1980s are not so spectacular with respect to the twenties or even the fifties or the sixties (the chart below stops in 2006 while the chart above goes up to 2011)

The fiscal management is the key element in the Chilean good governance, and the main explanation for its success. Thanks to the special law imposing a structural surplus in the budget, and thanks to the regular assessment of independent experts, the fiscal policy is able to behave counter-cyclically (while most European countries behaved pro-cyclically), cushioning the boom/bust instability and making possible an effective anti-crisis policy. In fact Chile made alone what the euro-area was supposed to do according to the Treaty and the Stability Pact, but that most European politicians violated cynically… The result is that Chile is one of the very few economies posting an absence of net public debt.

The external private debt is also very low and rated as Aa3 like for example Japanese companies. Furthermore, the financial regulation and supervision in Chile was particularly efficient, impeding excessive leveraging (contrary to the US and the EU cases) and making of the Chilean banks the most resilient to the crisis. The ratio applied by the Chilean banks is well above (14%) the official requirements (10% in Chile and 9% by Basle III), there are very low currency mismatch between assets and liabilities, nor excessive corporate leverage nor excessive household indebtedness, making the Chilean economy very robust to any external shock.

Chile‘s financial sector is one of the deepest in the region and is highly integrated in the global financial system. Banks are well capitalized, liquid, and highly profitable. Stress tests did not reveal stability concerns, suggesting the banking system is likely to be resilient to strong adverse shocks. Bank capital is high and of high quality (common equity accounts for 44 percent of regulatory capital) and leverage is constrained by regulation. Capital and leverage are already largely within the new Basel III standards due to the advance of Chilean legislation.

3. Foreign Trade

3.1. Export structure, copper share and geographical orientations

3.2. Non-Mining Exports

3.3. Chilean Trade in goods

Chilean Exports in blue Chilean imports in red

3.4. Chilean Trade with the European Union (Free Trade Agreement since 2003, 99,5% of Chilean exports enter now with 0% tariff)

3.5. Chilean Trade with Belgium

Chilean market represents 1% of total Belgian exports, but 4% of the total extra-EU exports

Bilateral trade Chile-Belgium 2006- 2010 (Dource: ProChile)

Millones US$ 2006 2007 2008 2009 2010

Exportaciones 731 755 775 842 1.653

Importaciones 165 216 265 176 268

Balanza Comercial 566 539 510 666 1.385

Intercambio Comercial 896 971 1.040 1.018 1.921

Principales Productos de Exportación de Chile (Fuente: ProChile)

Nº Producto En US$ miles %

Participación

1 Cobre para el afino 953.815 58%

2 Cenizas y Residuos (Excepto de siderurgia) que contengan

principalmente plata. 119.918 7%

3 Yodo 112.800 7%

4 Cloruro de Potasio 109.452 7%

5 Minerales de molibdeno tostados, concentrados. 53.465 3%

6 Los demás nitratos, excepto con un contenido de nitrato de

potasio inferior o igual a 98% en peso 49.891 3%

7 Nitrato de potasio, con un contenido (nitrato de potasio)

inferior o igual a 98% en peso. 36.483 2%

8 Los demás desperdicios y desechos de cobre refinado. 22.910 1%

9 Carbonato de litio 21.727 1%

10 Minerales de molibdeno concentrados, sin tostar. 17.994 1%

SUBTOTAL 1.498.457 91%

RESTO 154.715 9%

TOTAL 1.653.172 100%

Principales Productos de Importación desde Bélgica (Fuente: ProChile)

Nº Producto En US$

miles

%

Participación

1 Automóviles de turismo, de cilindrada superior a 1500 cm³ pero

inferior o igual a 3000 cm³.

20.142 7,51

2 Papas preparadas o conservadas (excepto en vinagre o ácido

acético), congeladas, excepto los productos de la partida 20.06.

14.356 5,36

3 Policarbonato, en forma primaria. 9.063 3,38

4 Los demás medicamentos (excepto los productos de las partidas

30.02, 30.05 O 30.06) Constituidos por productos mezclados o sin

mezclar, preparados para usos terapéuticos o profilácticos,

dosificados (incluidos los administrados por via transdérmica)

8.658 3,23

5 Polietileno de densidad superior o igual a 0,94, en forma primaria. 8.367 3,12

6 Vacunas para uso en medicina. 7.824 2,92

7 Las demás bombas de aire, compresores, campanas aspirantes para

extracción o reciclado, con ventilador incorporado, incluso con filtro.

6.808 2,54

8 Productos laminados de hierro o acero sin alear, de anchura

superior o igual a 600 mm, estañados, de espesor inferior a 0.5 mm,

chapados o revestidos.

5.945 2,22

9 Excavadoras, cuya superestructura pueda girar 360 grados. 5.669 2,11

10 Sulfato de Potasio. 4.614 1,72

SUBTOTAL 103.543 39

RESTO 164.529 61

TOTAL 268.072 100

3.6. Chilean Trade in services

4. Foreign Direct Investment (FDI) in Chile

The European Union represents 38% of the total FDI in Chile ($ 77 bn) and 1.6% of Chilean FDI in the world ($57 bn). Belgium amounts for $1 bn (or 3.5% of the EU FDI in Chile), occupying the 5th place after Spain, the UK, Italy and the Netherlands. The Chilean FDI in the EU amounted in 2010 to $ 867 millions (1,5% of Chilean FDI in the world), among which Belgium was in 3d position ($90 millions) after Spain and France up to 2010. However in 2011, Belgium moved to number 1 position with the purchase by Chilean company Sidco Koppers of the Belgian specialist in metallic products for processing minerals, Magotteaux, world leader on this market, for about $ 750 millions.

NB: without the purchase of Magotteaux

Regional breakdown of Chilean FDI in the world

5. Structural & Institutional features

Chile enjoys the first rank in Latin American economies for recording the lowest business and political risks, the best competitiveness indicators, the best education

results, and the best macroeconomic stability performance