China’s Cautious Economic and Strategic Gamble in Venezuela

Since coming to power in February 1999, Venezuelan president Hugo Chavez has waged a highly visible campaign against the U.S. and Western “imperialism” in Latin America, replete with fiery rhetoric, nationalization of strategic industries, the creation of alternative regional institutions, support for a range of leftist causes and alliances with controversial leaders including Libya’s Muammar Gaddafi and Iran’s Mahmoud Ahmadinejad. Chinese financial and technical support has bolstered Chavez’s ability to do so. Beijing’s support so far has included the following: four loans totaling $32 billion; arms sales; the purchase of Venezuelan oil; the construction of transportation, logistics, power and telecommunications infrastructure in the country; and technical consulting.. China also committed to invest $40 billion in oil projects in the Orinoco tar sands, which estimates place as the largest reserve in the world with 513 billion barrels of recoverable heavy petroleum.  Most recently, on September 5, Chinese companies signed agreements to help Venezuela’s Ministry of Basic Industries develop its minerals sector (El Universal, September 6).

In each of these activities, the PRC has repeatedly emphasized that its support to the Venezuelan regime is strictly business, and it does not associate itself with Chavez’ “Bolivarian Socialist” agenda or any other political project in the region.

China’s deepening relationship with Venezuela is a high stakes gamble, motivated by strong, but different interests on each side. For the Chavez regime, Chinese assistance enables it to continue on its Bolivarian socialist course without having to compromise with Western governments, companies and financial institutions, and without having to control the rampant corruption and patronage that helps maintain the loyalty of key members of the government and military.  For China, the relationship supports a range of both commercial and political objectives, ranging from reliable access to primary products at reasonable prices to sales of products and services in strategically important high value-added sectors—such as telecommunications and computers, autos and heavy equipment,  logistics and transportation infrastructure and military and aerospace industries. Military and aerospace sales to Venezuela have also  opened up opportunities for commercial and military engagement with other states in the region while generating substantial profits for Chinese companies and banks.

Each side pursues its self interest in the relationship facing the possible consequences of an all-or-nothing gamble. For Venezuela, the danger is the unsustainability of committing ever greater portions of future resource exports to China to pay current obligations, while giving Chinese companies and banks increasing leverage in the productive, consumption and financial sectors of the Venezuelan economy. This leverage may give Beijing an increasing de facto role in deciding the fate of the regime in Caracas.  For China, reciprocally, the danger is twofold: (1) being drawn into the Chavez’s fight with the US through its coordination with the former and its role as an economic enabler of the regime, and (2) being stuck with tens of billions of dollars in loans and sunk investments that a post-Chavez government may not honor.  

Perhaps more than any other country in Latin America, Venezuela is a test case for the ability of the PRC to pursue its “resources and markets” agenda, while not being drawn into the same struggles to protect its investments, nationals and other interests that caused trouble for US relations with the Latin America for most of the previous century.

Chinese Assistance to Chavez

Chinese aid to the current Venezuelan government involves a combination of cash, loan-funded work, and investment commitments.  The Chavez regime has used such support, in part, to cover important short-term needs, generating symbolic benefits, and ensuring future production in primary product export industries of interest to the PRC.  Since 2008, Beijing has loaned Venezuela $32 billion (only partially delivered), including three infusions of $4 billion into the “heavy investment fund” first established in 2008, as well as a separate $20.6 billion loan, half denominated in Chinese currency, facilitating the purchase of Chinese goods and services.  China Development Bank alone is reportedly supporting 137 separate projects in Venezuela (Canal de Noticia, September 14).

In addition, Chinese companies have committed to invest $40 billion in the Venezuelan oil industry by 2016. The deals include $16.4 billion to develop the Junin-4 oil block, Sinopec investments to develop the Junin-1 and Junin-8 blocks and a commitment by China National Overseas Oil Corporation (CNOOC) to develop the Mariscal Sucre gas deposits off the Eastern shore of Venezuela (El Universal, December 2, 2010).

In the mining sector, although China has provided loans and technical advice to support the extraction of iron and the development of other products such as aluminum, bauxite and coal, it has not invested in the sector, except for an ill-fated gold mine joint venture with the Canadian firm Crysallex (El Universal, February 11).

The Chavez government, for its part, has used Chinese funds to cover a broad range of short-term needs, creating political risks for the regime.  Part of the $20 billon loan was used to purchase 300,000 Chinese Haier brand appliances for sale in state stores to offset the inflationary effects of the Caracas’ currency devaluation in January 2010.  Similarly, following Caracas blackouts in 2010 due to a severe drought and years of neglect of the power grid, the government developed a plan to build nine major power plants, using Chinese companies and paid for by funds from the same Chinese loan—including the “El Chorin” hydroelectric facility and seven thermoelectric plants [1]. In March 2011, after record floods highlighted a national housing shortage, Caracas contracted with the Chinese CITIC group to construct 20,000 houses, followed in August 2011 by a $700,000 contract for 6,000 more (El Universal, August 26).

Many of the infrastructure projects funded by Chinese loans compliment Chinese investment in Venezuela’s extractive sectors.  In September 2011, for example, the Chavez government signed $470 million in contracts with three Chinese mining companies, to improve infrastructure to facilitate the export of minerals to Asia, complementing previous commitments, such as the $7.5 billion upgrade a 472-kilometer segment of railroad across the interior of the country from Tinaco to Anaco, announced in July 2009 (El Universal, September 6). 

Military and Space Collaboration

China also has become a key supplier of military hardware and associated maintenance and training packages to Venezuela—including K-8 light attack aircraft, Y-8 and Y-12 transports and radar systems as well as a range of non-lethal equipment—helping the regime to overcome U.S. efforts since 2005 to deny such equipment to the regime (El Universal, June 2).  It also has sold the regime two satellite systems: the Venesat-1 telecommunications satellite, which it launched for the regime in October 2008, and the Venezuela Remote Sensing Satellite (VRSS), which is anticipated to launch in late next year (El Universal, May 23).  The Venesat-1 included construction of two ground control stations in the country and training of Venezuelan personnel.  For China, these sales have been valuable in enabling its companies, such as the defense conglomerate NORINCO and the space services company Great Wall, to prove their military and space products and services and expand their presence in Latin America.  Thanks in part to the active advocacy of President Chavez, these Chinese companies also have generated follow-on sales to Venezuela’s allies, including the sale of radar systems to Ecuador as well as both K-8 aircraft and the “Tupac Katari” communications satellite for Bolivia (El Economista, August 7; Agencia Venezolana de Noticias, August 12).

Commercial Benefits to China

The activities mentioned in the previous paragraphs are extraordinarily beneficial to China in multiple and often hidden ways.  Most of the loans are short-term contracts to be repaid in deliveries of Venezuelan oil, thus allowing Chinese banks to manage their risk. The loan agreements however use a below-market reference price for the oil delivered, making the value of the goods that Venezuela must pay back far greater than the quantity loaned.  Adding even more benefit to the PRC, virtually all of the loaned funds have been earmarked for the purchase of Chinese goods and services.  In the three September 2011 agreements in support of mining, for example, Venezuela committed $200 million to buy heavy equipment and services from Wuhan Steel, $200 million to the Metallurgical Corporation of China (MCC) to expand the port of Palua, and another $161 million to MCC construction to dredge the Orinoco river (El Universal, September 6).  Most of $300 million of the loan package for starting a new Venezuelan regional airline was actually earmarked for the purchase of Chinese Y-8 aircraft (El Universal, April 20).  The housing project was not only contracted to a Chinese company, but involved purchases of 210 tractors and other heavy equipment from the Chinese company XCMG (Agencia Venezolana de Noticias, August 26).

Beyond direct sales, a number of Chinese companies are establishing manufacturing and distribution centers in Venezuela in partnership with state-affiliated companies. These  include construction of Venezuelan factories by both major Chinese telecommunications firms, Huawei and ZTE, a $200 million Chery auto factory in Aragua that began production this month, an additional Great Wall Industries auto factory , and talks of factories by XCMG and the appliance manufacturer Haier (El Universal, April 20; May 14, 2010).

Implications and Challenges

As China becomes more deeply involved in projects in Venezuela, it is likely to face the same types of imperatives regarding as have Western companies and governments making large loans and investments in Latin America.

As it has provided ever greater quantities of capital to the Chavez government, Beijing has become increasingly active in overseeing how the money is being used.  Beginning in May 2010, for example, teams from China Development Bank (CDB) made a series of visits to multiple sites throughout the country to analyze the situation and evaluate Venezuelan economic needs, including ongoing and potential future work by Chinese companies. The CDB evaluation trip culminated in the delivery of a report from CDB President Chen Yuan to President Chavez on China’s “support for the planning of the development of Venezuela” (La Patilla, September 15).

Beyond project oversight, as money is invested engineering PRC refineries to process high-sulfur Venezuelan crude, Chinese oil companies will have an increasing economic stake in avoiding supply interruptions, the potential for which is great in Venezuela, including strikes, problems with the transportation infrastructure, or unpredictable policy actions and failures in project implementation by Venezuelan government organizations, such as what happened in 2006 when the regime backed out of a commitment to sell the heavy petroleum product Ormulsion to China after the latter had invested in a power plant to use the fuel.

At the individual level, as more Chinese arrive in Venezuela for negotiations, training, technical support and oversight of operations, they will have to deal with the same risks of murder, theft and kidnapping that other foreign companies have had to contend with in the country. Chinese government agencies and companies will have to decide how to best protect their people.  China has few private security firms and even more limited experience at integrating Venezuelan private security firms into their operations.

At the political level, China also faces the risk that regime change—perhaps arising from the death of Chavez from the prostate cancer which he is currently suffering or the October 2012 elections—could give rise to a new government from current opposition figures. The opposition has  questioned openly the constitutional authority and contractual basis upon which the obligations with China are being incurred.

Ironically, China’s increasing role as the economic underpinning of the Chavez regime gives it important leverage in any future leadership transition.  China, more than any other country, could help to bring down the Chavez regime by refusing to release new loan funds or embargoing the sale of products to Venezuela, especially if done in combination with other key suppliers such as Colombia, Brazil and Argentina.  The threat of doing so helps it to ensure that Chavez does not treat China in the fashion that it has treated Western countries and multinationals when servicing debts and adhering to deals disadvantaging the Venezuelan state become overly burdensome.  It also may be part of a core dilemma faced by the Venezuelan opposition in the next political crisis:  whether to agree to honor debts to China and questionable deals that will burden Venezuela for decades to come as the price for coming to power.

Notes:

1. Evan Ellis, “Chinese Engagement with the ALBA Countries: A Relationship of Mutual Convenience?”  Paper presented to the conference “The Economic, Political and Foreign Policy Implications of ALBA,”  University of Miami,  May 10, 2011.