Chile’s Economic Powerhouse: Achieving Sustainable Growth

Authors: Nabilah Binte Azhar & Phua Ying Isabel

Editor: Ho Chia Chun Daniel

Chile’s Rapid Economic Growth

Chile’s economy has roared back from the depths of the Covid-19 crisis. Quarterly Gross Domestic Product (GDP) growth has rebounded from a year-on-year rate of -13.72% in the Q2-2020 to 17.21% in Q2-2021 (Figure 1). This growth is reflected in the absolute value of quarterly GDP too, which has reached and slightly surpassed its pre-Covid height in Q3-2019 (Figure 1).

Figure 1

Source: OECD, 2021

This rapid Covid-19 recovery is in line with its South American neighbours like Argentina, Brazil, and Colombia (OECD, 2021). In Chile, this can be attributed to three key and intertwined factors: surging global metal prices, vaccination drives, and government policies to stimulate the economy.

Mining has and continues to play a huge role in the Chilean economy, accounting for 12.5% of GDP in 2020—the highest since 2012—and making up more than half of Chile’s exports (Alves, 2021). As the top copper producing country in the world with a production level of 5.7 million metric tons in 2020, copper is undoubtedly the most important metal to Chile (Statista, 2021).

Traditionally an indicator of economic growth, high copper prices are tied to a booming industry and hence, economy. As China—the world’s largest consumer of copper—recovered and started growing, copper prices soared (Imahashi & Nagumo, 2021). Furthermore, the large fiscal stimulus packages many countries have unleashed are often tied to green technology of which copper is a key input, thus further boosting demand for copper (Tan, 2021). Coupled with tight supply, these upward demand pressures resulted in a 130% increase in prices from a low of US$2.10 in March 2020 to US$4.76 in May 2021 (Figure 2).

Figure 2

Source: Nasdaq, 2021

With copper being such a key sector of the Chilean economy, the jump in copper prices came at an opportune time to cover the large stimulus the government has given so far, which amounts to 14.1% of GDP (Malinowski, 2021a). The Chilean government collects taxes and royalties from mining companies, and it is estimated that every US$0.01 increase in copper prices translates to US$60 million increase in these revenues (Sherwood & Cambero, 2021). Hence, surging global metal prices, especially those of copper, has enabled the Chilean government to splurge on stimulus recovery. This, along with a slew of other fiscal measures to be mentioned, has helped fuel economic growth.

Secondly, amongst the South American countries, Chile stands out with its high vaccination rates, with 84% of the population having received at least one dose of the vaccines (Figure 3). Such high rates of vaccination can be attributed to early planning for a vaccination campaign, a relatively smaller population, and the success of past vaccination campaigns leading to public trust in vaccines (Mohor, D. W., 2021). A high rate of vaccination has allowed miners to go back to work, reduced the infection and death rates, and thus allowed Chile to boost output and capitalise on rising prices of copper in 2021 (Keen, 2021).

Figure 3: Vaccination rates in South American Countries

Source: Our World in Data

Chile has been more vigilant than its neighbours, having allowed the Covid-19 state of emergency and curfew that it declared in March 2020 last well into this year (Sherwood & Shumaker, 2020). After gradually relaxing the curfews and movement restrictions as the vaccination drive progressed, Chilean lawmakers finally announced an end of the curfew system starting October 2021 (GardaWorld, 2021). With restrictions easing, high vaccination rate leading to greater business confidence, and citizens quickly returned back to normal life, such a highly successful vaccination campaign has contributed largely to economic growth and, according to Chilean Finance Minister Rodrigo Cerda, will continue to do so for the foreseeable future (Sherwood & Coghill, 2021).

Thirdly, the Chilean government has pumped billions into the economy through its fiscal stimulus policies, enabled by the mining industry windfall. Other than a US$11.8bn stimulus package intended to target the healthcare sector, protect workers’ incomes, and help small and medium enterprises (SMEs), the government has additionally approved early hardship withdrawals from private pension funds, adding another US$49 billion worth of liquidity to the economy (KPMG, 2021; Malinowski, 2021b).

Challenges Faced in Chile’s Economy

Nonetheless, Chile’s economy too has its setbacks. The recent rise in inflation above its targeted inflation rate of 3% is a cause for concern, with it currently standing at 5.30% (Malinowskic, 2021). In Figure 4 below, we can observe a smaller recent peak that occurred in the period of the COVID-19 pandemic declaration, in which Chile’s solid monetary policy in inflation targeting was able to hold its own and reduce inflation rates considerably. However, as emergency spending rises along with private consumption, inflation continues to soar beyond expectations. This is a key symptom of an overheating economy, where Chile is recovering too fast for the government to handle, to a point where it is becoming unsustainable.

As a result, the demands of the nation outweighs the productive capacity that it can provide. Consumer prices are already expected to rise by 4.1% and interest rates will increase by 125 basis points (1.25%) according to the Central Bank (Sherwood, 2021 ; Malinowskic, 2021). An increase in fuel prices and borrowing costs will then eventually constrict supplies to the mining industry and affect the banking industry as well. Also, there has been an increase in labour strikes across mining corporations due to conflicts in amending contract terms to assist workers during the hard times of the pandemic, leading to decreased labour and slower productivity in mining (France24, 2021).

Figure 4: Rising Inflation Rates in Chile

Source: Bloomberg, 2021

Additionally, Chile’s glory in the mining industry may well be short lived as an economic anchor in the long run. The negative effects of climate change can further aggravate the environmental impacts of mining, particularly copper and ore mining. The hub of mining, Atacama, has shown an increase in temperature of 4.5°C in summer, and 5.8°C in winter over the past two decades (Heubl, 2019). The resulting extremely dry weather eventually comes back to bite as water scarcity intensifies, which can further exacerbate the battle of water supply between the mines and local biodiversity.

A case of severe negative impacts on the mining processes as a result of erratic climates had occurred in 2019 (as seen in Figure 5 below) in the periods Q119 and Q219. The sharp drop on materials mined were attributed to unusually heavy rainfall which preceded incoming droughts that came in Q219. Most mining infrastructure and operations are built upon the assumption of stable climate situations, and hence have not been able to keep up with the drastic and sudden changes in Chile (Odell, Bebbington, & Frey). The estimated potential loss for copper in that period was 68.2%, and with copper mining being a large driver of the nation’s economy, it had also resulted in a drop in estimated economic growth in the year (FitchSolutions, 2020; Reuters, 2019).

Figure 5: Impact of Heavy Rains on Mining Production

Source: FitchSolutions, 2020

Towards Sustainable Economic Growth

At least in the short term, mining will undoubtedly remain a key economic sector in Chile, especially with the high global demand for inputs like copper and lithium that are utilised widely in green technologies. Nevertheless, the Chilean government can do more to increase environmental standards and encourage mining companies to adopt more environmentally-friendly practices.

A mining policy blueprint published earlier in September 2021 outlines plans to reduce the environmental impact of mining. It sets out that water from glaciers, rivers and lakes, which make up 18% of water used in mining, should be reduced to 10% by 2030 and 5% by 2050 (Cambero, 2021). The 5% goal can be shifted forward to 2035 for large miners, and 2040 for small and medium ones. Mining companies such as Antofagasta Minerals have already shown agility and innovation, with plans to increase seawater usage from the current 43% to 90% in four years (Bnamericas, 2021). Such a regulation will encourage other large mining companies to adopt greener practices at a faster rate.

With its huge desert, Chile has abundant natural resources that can be utilised to generate renewable energy such as solar and wind power. Considering the dramatic fall in the costs of renewable energy, making the switch towards renewables is now a lot more viable than before. In fact, companies just BHP and Anglo American had already started making the switch years ago, with renewable energy helping to cut energy cost by 20% in BHP’s copper mines (Lewis, 2019). It is estimated that over half the energy contracts of big miners in Chile would be in green energy by 2023 (International Climate Initiative, 2021). Thus, the mining policy blueprint could include a target of 100% renewable energy by 2030 for large miners, and by 2040 for small and medium ones. This would additionally be economically sensible, since renewable energy may actually cost less than fossil fuels.

In the long term, Chile should continue to reduce reliance on the mining sector, which stays locked in endless boom and bust cycles. While increasingly strict material requirements could lead to underinvestment in the industry, this would lead to shortages, followed by price spikes, and eventually unwarranted overinvestment (Kettle, 2021). This continuous loop in addition to Chile’s focus on mining could be damaging to an industry attempting to go green.

Instead, Chile could elevate opportunities in other economic sectors, such as agribusinesses and renewable energy. Agriculture in Chile has noteworthy potential, taking up approximately 11% of the nation’s GDP, a comparable portion to the mining industry currently (International Trade Administration, n.d.). Furthermore, the export-oriented nation has wide access to other global economies, having established free trade agreements with 90% of the world (Balter, Aronow, Serna, Shestakova, & Zhang, 2020). Such a competitive advantage can be further leveraged to catapult the agribusinesses profitability even further and in turn boost the national economy.

Conclusion

Essentially, Chile has proven its potential to continue its economic growth upwards for now with its abundant resources and commodities. However, as the reality of climate change and social impacts hit the nation, Chile needs to adapt new policy and investment strategies to reduce the impact of its mining industry, as well as develop other sectors of the economy to prevent an overreliance on mining. With these strategies, the country’s economy can continue its journey towards upward sustainable growth.

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