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AmericasJune 5 2005

Bankers on tenterhooks over trade agreement

Banks will benefit from CAFTA if it goes through, as it will increase trade among the member countries but there is considerable political opposition, both in the US and some Central American states.Monica Campbell reports from Honduras.San Pedro Sula, an industrial hub in Honduras, looks like an average Central American mid-sized city. Diesel-belching buses – mostly filled with workers, many of whom are young and female – dodge potholes while heading to nearby garment factories.
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But this year, San Pedro Sula’s steamy tropical valley near the Atlantic coast, and other Central American cities like it, are the subject of intensifying debate in Washington.

At issue is: the Central American Free Trade Agreement (CAFTA). This commercial pact between the US, Costa Rica, El Salvador, Guatemala, Honduras, Nicaragua and the Dominican Republic is in the process of being ratified by Central American legislators and will soon head to Washington for final approval.

Years in the works, CAFTA is designed to increase trade among the countries, particularly in the area of textiles and apparel, and agricultural goods. It largely mirrors the 1994 North American Free Trade Agreement (NAFTA).

So far, the pact has been signed by all participating countries, but still must be ratified by local lawmakers. To date, El Salvador, Guatemala and Honduras have ratified it, but Costa Rica, the Dominican Republic and Nicaragua have not.

Resistance in the US

In the US, members of president George W Bush’s administration are busy selling CAFTA to congress. It is tough going. In May, several centrist democrats protested against the trade agreement, saying that it does nothing to protect workers’ rights in Central America; particularly when it comes to forming unions. Also, they say, Central American governments are typically lax in guaranteeing workers’ benefits and severance pay, fearing that enforcing such standards will convince factories to leave the sub-region.

Sugar beet farmers in Colorado are also against CAFTA, saying that cheap Central American sugar will flood the US market. Unions say that CAFTA only means lost jobs for the US.

Meanwhile, pro-CAFTA groups say the US needs to help Central America – which is suffering from startling unemployment and poverty rates – compete with China’s bursting economy and manufacturing prowess, especially as global trade quotas vanish. Furthermore, CAFTA is widely viewed as an intrinsic step toward the ambitious goal of sealing a Free Trade Area of the Americas (FTAA), a hemispheric-wide, free-trade pact between the US and nearly all of Latin America.

Shaping up

Spotting market openings and tighter integration with the US, bankers in Central America support CAFTA. These days, bruises caused by natural disasters, including Hurricane Mitch in 1998 and Nicaragua’s devastating 1972 earthquake, along with civil wars and debt crises, are now fading.

“Banks are in better shape today,” says María del Carmen González, vice-president of corporate banking for Banco BGA, one of the largest banks in Honduras. “Profit margins are growing and new products are being offered.”

Banking systems in Central America are less turbulent thanks to decentralisation, more prudent reserve requirements and much-needed reforms regarding supervision and overall regulation. Market consolidation has also led to insolvent banks being scrapped. In Honduras, for example, there are 16 banks – down from 22 only a few years ago. Nevertheless, analysts say that too many banks remain for a $7.4bn economy.

Alliances are likely

“Smaller banks will not survive more competition,” says Ms González, while sitting in a Banco BGA conference room that overlooks one of the busiest thoroughfares in Tegucigalpa, Honduras’s capital. “They will be forced to seek out foreign alliances or look to be bought out. Many are actively doing that now.”

Partnering with foreign heavyweights would certainly help move Central America’s financial sector to the next level. New products emerging on the local market include equity services, longer-term loans and insurance products. Some Central American markets are taking on pension reforms that will allow private sector investment in the system.

The mortgage business is also moving up. Ms González explains that industrial parks catering to export-oriented factories are incorporating low-cost housing developments into their plans. “We can expect to see more of this activity with CAFTA,” she says. “We think this is very positive. You will see factory workers with a chance at getting a mortgage, perhaps with payments deducted from their salaries. For many of these people, this will be their first ever homeowning option.”

Even groups like the Overseas Private Investment Corporation, an independent US government agency that mainly sells political risk insurance and project financing, is considering entering Central America’s home financing market.

Backing from abroad

Still, the demand for more sophisticated products will be gradual, and foreign backing would make it less painful to invest in the development of products that may not pay off in the short term.

For example, Guatemala’s second largest insurer, El Roble, expects the country’s sluggish economy to limit local insurance growth to 5% this year.

“I agree that we will see more alliances with foreign institutions, especially with those in the US,” says Roberto Bueso, president of Banco del País (Banpaís). “Our markets our fragile and we need foreign partners. It’s do or die here.”

In terms of trade financing and other openings that CAFTA might generate, expect Central America’s most prominent banks to take the lead. They include: Banco de la Producción, Nicaragua’s biggest bank; US-based Banco Uno; and Costa Rica’s Banistmo, which controls Banco BGA in Honduras and is ranked as one of Central America’s biggest banks, with $6bn in assets. Top banks in El Salvador, namely Banco Cuscatlán, also carry considerable weight in the region.

A main target for trade financing is big textile firms, those typically worth at least $50m. Central America accounts for about 18% of US apparel imports, according to the American Apparel and Footwear Association. If CAFTA goes ahead, many textile firms will be anxious to offer just-in-time services as well as a full-package delivery. In its final form, CAFTA is likely to lift existing quotas that require garments to be made from US-sourced fabric and yarn, which can drive up a producer’s costs.

“Right now, companies in Central America mostly assemble goods, and that doesn’t require any financing,” says Ms González. “But once companies turn to a full-package model under CAFTA, financing needs will begin to rise.” A main demand will be financing for start-up ventures that will churn out locally-produced fabric, yarn and other raw materials.

Risky business

Yet the large number of small Central American textile manufacturers (employing fewer than 100 workers), are considered risky bets by many local banks. Many of these firms will continue to depend heavily on their suppliers for financial support and will struggle to land credit lines from commercial banks, which claim that microlending is too labour intensive and risky.

Mr Bueso does not mince words: small Central American factories will continue to suffer as regional and global competition heats up. He should know: although Banpaís is one of Honduras’s smaller banks, it is strategically headquartered in San Pedro Sula, a centre for maquiladoras (in-bond assemblers for exports), and Mr Bueso knows the market intimately.

While Mr Bueso is putting in place a programme to study financing alternatives for smaller firms, Central America’s microfinanciers, a steadily maturing group, will probably do more to fill the gap.

“We finance everyone from streetside tortilla sellers to hardware shops and tiny assembly outfits,” says Pedro Rafael Valladares of the Instituto para el Desarrollo Hondureño (IDH), a leading microfinancing institution.

The average IDH loan totals $100, with $50 increases available every four months. Even if a small Honduran business owner has the money available to get a commercial bank loan, they may be intimidated by the idea of entering a large, established bank, says Mr Valladares. “Class and economic divides here are so extreme, some people are convinced that they will never become legitimate bank customers and that it's not even worth trying,”

No panacea

CAFTA proponents say that one reason in favour of passing the treaty is to create more jobs at home, attempt to bridge the income gap, and convince Central Americans not to migrate to the US for work. But CAFTA will be no panacea to the region’s economic troubles.

“We have a role, along with politicians, to take advantage of these market openings to forge development in our countries,” says Mr Bueso. “To expect anything beyond that, would be to ask CAFTA to perform miracles.”

The consensus is strong that northward migration will continue. Recognising this reality, local banks are beginning to offer lower-cost money transfer programmes, while linking up with companies such as US-based Western Union and Moneygram, to take a bigger slice of the remittance business. Last year, Central Americans abroad sent home a record $7.1bn.

In Honduras, Banco Ficohsa is making inroads on this front, opening branches in areas of the US where Hondurans live. Bankers see many possibilities, including products that would enable remittances to back car and home loans.

Farmers out in the cold

Neither banks nor governments are willing to work together to create a strong financing structure that could support farmers, however.

Mr Bueso understands the urgency of the agricultural issue but argues that he cannot promote financing one of Honduras’s most vulnerable sectors if weak laws remain in place.

“I need to know that I’m not going to absorb the losses if there’s a sectoral crisis in the future,” he says. “Banks here have been burned in this area before.”

Not surprisingly, Central American trade unionists and small farmers are two major groups teaming up to fight CAFTA, fearing job losses and privatisation of services. Under the accord, say opponents, Central American farmers will be crushed by their US counterparts, especially those who receive government subsidies. This is no small thing: Central America’s agricultural sector has been in a vulnerable state for years, owing to uneven global demand and low commodity prices. Considering that about 42% of Latin Americans live in rural areas, farmers should not be marooned.

Sensing rising political and social tensions over CAFTA, local bankers are adopting a wait-and-see approach toward the trade deal. It is a smart move. In Guatemala, while congress was ratifying the trade treaty, government troops opened fire on anti-CAFTA protesters, leaving two people dead. Locking down CAFTA may not go smoothly in Costa Rica either, where nationalist sentiment is strong, or in Nicaragua, which is leaning leftward.

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