Sep 22, 2008

Latin American Exports to Soar With Lower Transportation Costs

IDB Study Says Exports May Rise 39% if Transportation Costs fall 10%

Lower transportation costs could prompt Latin American exports to soar, overshadowing any possible gains the region may have with lower tariffs in the future, a new Inter-American Development Bank study found.

A 10 percent reduction in freight costs in nine Latin American nations – including Brazil, Argentina, Chile, Colombia and Bolivia – would allow exports to the United States to soar 39 percent on average, the study said. In contrast, exports to the United States from those countries would rise less than 2 percent on average if import tariffs were reduced 10 percent (see figure below).

“Transportation needs to be at the center stage of the trade policy debate after the collapse of Doha.” Mauricio Mesquita Moreira, the IDB economist that has led the study, said. “A lot has been done to reduce tariffs and non-tariff barriers, but now is the time to expand the policy agenda and tackle transport costs and its perverse effects on trade.”

The emergence of China and India as leading exporters in the world economy coupled with the growing fragmentation of production and time-sensitiveness of trade has reshaped Latin America’s comparative advantages and has given investments in the transport infrastructure an unprecedented strategic importance to the region. This new reality imposes heavy penalties for Latin American economies with high transport costs, according to the study prepared by the Integration and Trade Sector of the IDB

The IDB is publishing this month the report “Unclogging the Arteries: A Report on the Impact of Transport Costs on Latin American and Caribbean Trade.”  Mesquita will unveil the findings of the study in a series of events in Brazil and Argentina in the week of September 29.

Poorly maintained roads, congested airports and ports, and inefficient custom services increase shipping time and add costs, and can wipe out the region’s logistical advantage of being closer to the world largest markets, particularly the U.S. market, the study said.


   The figure shows the median predicted percentage increase in exports to the U.S. stemming
   from a 10 percent reduction in freight costs and a 10 percent reduction in tariffs.
   The vertical axis shows the expected percentage increase in exports and the horizontal axis
   shows the selected Latin American countries.  The study used 2004 as a benchmark for its
   estimation model.

Relatively small improvements in transportation would also allow the countries in the study to increase substantially the sales of products they already export to other countries in Latin America and the Caribbean. The study suggests that by cutting transport costs by 10 percent, intraregional exports can grow by more than 30 percent, an impact that dwarfs the effect of similar cuts in tariffs.

In Argentina, for example, the increase in exports of dairy products and machinery derived from a 10 percent reduction in transportation costs would be, respectively, two and 27 times larger than a 10 percent cut in tariffs, according to the report.  In Brazil, the expansion of oil seeds and oleaginous fruits and machinery exports triggered by the same reduction in freight rates would be approximately 32 times larger that the effect of a tariff cut. The exports of cut flowers from Ecuador would increase by 25 per cent if transports costs are cut by 10 percent, compared to a negligible effect of a similar cut in tariffs.

Other Opportunities

In addition, lower freight costs would allow the region to open new markets for other types of products, particularly certain manufactured goods, the study said.

The region would become more competitive against certain Asian products, helping offset higher labor costs. Lower transportation costs coupled with Latin America’s proximity to major consumer markets could make it a natural exporter of heavy manufactured goods like agricultural machinery, construction equipment or high-tech products such as plasma television sets.

According to the study, a 10 percent decline in freight costs would increase the number of different goods they sell to each other by more than 20 percent.

Manufactured products in Brazil, Chile, Ecuador, Peru and Uruguay would benefit the most from lower transportation costs, while exports of minerals and metals would experience the highest increases in Argentina, Colombia and Paraguay.

In addition, exporters would be able to keep a bigger share of their profits that are now being transferred to an inefficient transport industry, allowing them to invest on expansion and on measures to increase productivity. In Brazil, for example, the cost of delivering soybeans can eat up as much as 79 percent of the producers’ price.

Cost of Transportation                                

One of the main drivers of Latin America’s export growth is the exploration of mineral and agricultural products, in which transportation plays an important role. The region, home for the world’s largest iron ore and orange juice exporters and the biggest producers of copper and silver, has higher transportation costs compared with developed nations.

The region spends nearly twice as much as the United States to import its goods (see picture below), according to the study, which analyzed data from seven Latin American countries. Argentina spends 22 percent more than the United States to import its goods, Chile twice as much and Paraguay more than four times as much.

Freight expenditures include freight and insurance
Source: Authors’ calculations based on ALADI and U.S. Census Bureau Data

Latin American and Caribbean exports to the U.S. pay ocean freight rates that are on average 70 percent higher than those paid by exports from the Netherlands, a country renowned for it efficient ports.

The recent trend in freight prices has also become a source of concern, the study said. Airfreight costs have increased in the region much faster than China and the rest of the world. Freight rates in 2006 were 36 percent higher for the Caribbean, for example, compared with 1995 rates. Meanwhile China kept its costs below the 1995 mark in spite of rising oil prices. Ocean freights show a less troublesome picture, covering to world rates.

Reasons for High Costs

Most of the difference in ocean and air freight costs can be explained by the “heavy” commodities the region exports as they tend to cost relatively more to transport than manufactured goods. Once researchers compare transport costs across regions between similar goods, a clearer picture emerges. About 40 percent of the difference in shipping prices between the region and the United States and Europe can be explained by port and airport efficiency.  The level of competition among shipping companies and the lower volume of imports from the region also help explain higher ocean freight costs. A similar conclusion can be drawn for air freight rates.

Transportation costs on the region’s imports would fall about 20 percent if Latin America improved its port efficiency to U.S. levels, the study said. Increasing competition among shipping companies to U.S. levels would help cut freight costs by four percent.

“Distance plays a minor role in explaining transport costs in the region,” said Mesquita. “The good news is that improving infrastructure is within reach of policymakers.”

Scope for Policy

Governments can increase port efficiency by improving the quality of facilities and support activities like towing, tug assistance and cargo handling.  Authorities can also increase transparency of procedures, improve accuracy of information and vessel traffic systems in a bid to reduce costs. Moreover, governments can reduce legal restrictions, such as requiring special licenses to operate stevedoring services, to improve port performance.

A revision of the regulatory framework for the airline and air cargo industry in the region could also help cut costs, the study said. Latin America still depends on complex bilateral air service agreements that often limit competition on international routes, protecting inefficient operators that pass their high costs to final users, the study said.

The region could also benefit from lower import tariffs, particularly in the southern cone. Lower tariffs would increase the volume of imports (and eventually exports) and trigger a reduction in freight rates. Moreover, lower tariffs would mean that transport costs would make up a higher share of the final price of the goods, making producers and consumers more aware of their relevance and transport operators less inclined to raise their prices.   

Without a significant improvement in transportation, a bigger Latin American and Caribbean presence in the world markets will remain an elusive goal, the study concludes.

More Information

Mauricio Mesquita Moreira
Senior Integration and Trade Economist

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Romina Nicaretta
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