Analysis of the third kind
29 June 2016 07:37 (South Africa)
Business

Panama: Locks, stocks and a smokin’ economy

  • GREG MILLS & LYAL WHITE
    GREG MILLS & LYAL WHITE

    Dr Greg Mills is the Director of the Brenthurst Foundation. Dr Lyal White is the Director of the Centre for Dynamic Markets at GIBS.

  • Business
Main photo: View of an avenue during the activities of the VII Americas Summit in Panama City, Panama, on 11 April 2015. 15 of the largest 20 Latin American skyscrapers are in Panama EPA/Alejandro Bolivar

Along the Panama Canal, the types of businesses, international and non-governmental organisations, and research institutions are carefully selected on account of their technology and knowledge component. It is about putting in place the conditions to attract the right skills and businesses. By GREG MILLS and LYAL WHITE

Location, location, location. Not only is this the estate agent’s maxim, but is said to be one, too, for development success. Think Singapore, at the trading crossroads of East Asia. Or Hong Kong as China’s entrepot. Or Panama.

The completion of the Panama canal 101 years ago, dividing the Central American isthmus, was, even by the standards of today, an extraordinary achievement. It took the excavation of more than 150 million cubic metres of land. Its completion took two decades, and two attempts: First by the French from 1881, and then by the Americans.

Photo: On the way North, to the Atlantic from the Pacific. (Greg Mills)

The French effort went bankrupt in 1889 after spending nearly $290 million, and costing the lives of 22,000 of 63,000 workers, mostly from malaria and yellow fever. Restarting in 1904, the US construction finished the job in ten more years, completing the Gaillard Cut, building the 1,000 foot long locks with their 50 feet thick concrete walls, and 88 pairs of 700 ton steel doors, and in the process creating Gatun Lake, then the world’s largest man-made reservoir. This stage cost $375 million, about $9 billion in today’s money, and the lives of another 5,600 labourers. Thought still shockingly high, the fatality rate was significantly reduced with the discovery of the link between malaria and the mosquito, as a result of research led by Drs Carlos Finlay and Walter Reed, and the sanitation and spraying projects that followed.

And this commitment necessitated nothing less than regime change, the US blockading Colombian seaborne access to enable the declaration of Panamanian independence from Bogota in November 1903, granting at the same time access rights for the US to build and administer the canal. The amazing technological achievement, which raises vessels 85 feet in three chambers each on the Pacific and Atlantic sides through giant gravity fed six-metre diameter spiggots, has been an extraordinary money-spinner for both the US government and, latterly, since the handover of control in 1977, the Panamanians. The canal is one of the main revenue sources for Panama. Each day 45 to 50 ships make the 77 km voyage, at an average cost each of $85,000 and up to $490,000, depending on their size. It was originally estimated that the Canal would carry around 80 million tons of shipping traffic annually. Today it is over 300 million tons.

Photo: On the way down northbound. (Greg Mills)

But geography is no guarantee of success. Panama could have been Nicaragua, the difference between an $8,200 per capita economy, and that of $1,450.

Nicaragua has its own scheme for a canal across the isthmus. Until now, a lack of money, political stability, and sensible policy has made this improbable, though a Chinese-funded and constructed $50 billion, 278 km rival scheme is moot. Panama could also have been El Salvador, another Central American country using the dollar, but beset by violent criminality. Or think of the difference between the Dominican Republic versus Haiti, two vastly different countries sharing the same island, Hispaniola.

As elsewhere in Central America, it is easy also to blame Washington for everything bad. Panama has experienced its share of intervention, most recently with the overthrow of the government run de facto by General Manuel Noriega in 1989. Once Washington’s man, “Old Pineapple Face” had installed himself as ruler, while running a parallel drug economy. In spite of – or perhaps because of – such interference, Panama has prospered. Its dollar based economy, and presence in an American ambit offers investor security. It has been one of the fastest expanding economies worldwide during the last 15 years, growing at an average of over 7% between 2001 and 2014, over double the regional average in Latin America. It should grow at more than 6% this year.

There are 12 trains a day for transhipped containers from past-Panamax vessels, each with a 100 TEUs. (Greg Mills)

A University of Chicago-trained economist, and former World Bank vice-president, Nicolás Barletta served as president of Panama from 11 October 1984 until 28 September 1985, when he resigned over the military’s increasingly violent role. That act was the beginning of the end for Panama’s strongman Noriega. Barletta, who later served as head of the canal authority, identifies three main drivers in the Panamanian economy: geography, regional and global connectivity (including the regional airline Copa, the canal, and its sophisticated telecomms), and complementary policy.

As a result of these factors, says the former president, “83% of the economy is made up of services, including tourism, the trade zones, medical health, the ports, ship bunking and repair, and banking.” The results are there to see. “On the demand side of the economy, exports have grown by an annual average of 14.5 % for the last 12 years; and on the supply side, investment makes up 27 % of GDP [Gross Domestic Product], comprising equally the state, local private sector, and foreigners.” This is well above the regional average of 20% of GDP.

In terms of complementary policy, the use of the dollar offers monetary stability (there is no Central Bank), while tax reforms have reduced rates and brackets, simplifying filings and improving collection. The corporate tax rate is a flat 25%. In tourism, to take a specific example, investors are offered a total 15-year exemption from income tax, and real estate duties. The duty-free import of construction materials and equipment is permitted, and there is a five-year capital gains exemption. As a result, the number of international visitors has increased consistently, from 520,000 in 2011 to 1.8 million in 2013, nearly half Panama’s total population. Receipts in this sector have increased tenfold to over $5bn this century. The number of retirees is also increasing, attracted by the tax regime, good weather and cheap healthcare.

Photo: General view of the opening of valves to flood the locks of the Panama Canal expansion in the Atlantic sector, in Colon, some 50 km from Panama City, Panama, 11 June 2015. The Panama Canal Authority announced on 11 June that they will begin operations on the final phase in the first week of April 2016. EPA/Alejandro Bolivar

There was always a danger that an earner like the canal, which brings in $1 billion annually to government in profit, could have led to government apathy and national laziness. Yet the Panamanians have not stood still on all manner of inherited infrastructure. At either end, the two ports have been run by a Hong Kong-based company since 2000. And in 2007 work began on a $7.8 billion canal expansion which will allow vessels to pass with a beam of 180 foot, equivalent to 13,500 containers. Currently vessels (termed Panamax) of up to 80,000 deadweight tonnes carrying up to 4,400 containers can squeeze through the 110 foot locks. When this is completed, supposedly in April next year, shipping terminology will have to change: post-Panamax vessels now becoming new-Panamax. The charge per vessel through the new locks is estimated at $1.5 million each. Expensive, but not when the 10-hour journey cuts 20 days off the alternative around the Horn.

This is not the only sensible long-term investment Panama has made. While others talk about special economic zones, Panama has created six. American troops were based in Panama across 14 bases until 31 December 1999. While their presence was an affront to some Panamanians, most realised the financial benefit these “hidden tourists” brought. Rather than lament this financial loss, working together the government and private sector set about converting these areas into productive centres and economic communities. The former US Air Force base at Howard is now Panama Pacifico, a special economic zone (SEZ) just a 15 minute drive across the Bridge of the Americas. This SEZ hosts 248 companies, two-thirds of which are in manufacturing. Most are foreign, including big names such as 3M, BASF, Caterpillar and Dell. SAB Miller is slated to open a $400 million brewery shortly on the site. Panama Pacifico aims to attract businesses which will ultimately employ 40,000 with residential space for 60,000. Its motivation was to “find ways,” says Frank Terracina, the director of marketing, “of adding value to the goods passing through the canal.”

Photo: Towards the Bride of the Americas joining the Isthmus and the Pan American Highway (By Greg Mills)

Past the Pacific end of the Panama Canal Railway’s sidings, where 40-foot containers are loaded onto 50-waggon double-decker trains, is the City of Knowledge on the site of the old Clayton US Army base, where now 5,000 people work. The brainchild of two visionary businessmen, Gabriel Lewis and Fernando Eleta, the City was created as an innovation centre. If the land was the endowment for the foundation behind the City, the rentals from the 200 buildings on the 120 hectare site provide the cash flow. The types of businesses, international and non-governmental organisations, and research institutions are carefully selected on account of their technology and knowledge component. The attraction to business and others to attempt to enter both Pacifico and the City of Knowledge lies in a combination of excellent connectivity, simplified bureaucratic procedures, liberal visa laws, and no taxes. Hence the City of Knowledge has fifteen times as many applicants than spaces. It’s about putting in place the conditions to attract the right skills and businesses. Although Panama’s minimum wage is $600, the average pay in these facilities is more than $1,500.

Of course Panama has its problems. Its politics remain fraught and there are ongoing concerns about the rule of law and corruption. For example former president Ricardo Martinelli, who stepped down in July 2014, has been accused of bribery, and has reportedly decamped to Florida, though he remains the leader of the official opposition. Moreover, a quarter of the country lives in poverty, notably high in the rural areas, although this has come down significantly from 40% in 2008.

In just five years nearly half-a-million citizens have escaped poverty principally as a result of faster growth. There has also been an overall decline in inequality – sorry Mr Piketty. As former president Barletta notes, “If we do the right thing, Panama’s potential is to grow at six percent for the foreseeable future.” Doing the right thing is key. Geography matters, yes, but planning, policy and investing in competitiveness matter more. DM

Greg Mills heads the Johannesburg-based Brenthurst Foundation; Lyal White directs the Centre for Dynamic Markets at GIBS. Both have been researching in Panama.

Main photo: View of an empty avenue during the activities of the VII Americas Summit in Panama City, Panama, on 11 April 2015. 15 of the largest 20 Latin American skyscrapers are in Panama EPA/Alejandro Bolivar

  • GREG MILLS & LYAL WHITE
    GREG MILLS & LYAL WHITE

    Dr Greg Mills is the Director of the Brenthurst Foundation. Dr Lyal White is the Director of the Centre for Dynamic Markets at GIBS.

  • Business

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