Argentina’s New Currency Crisis: What Happened This Time?

The peso crisis in Argentina: A risk analysis. What happened this time? Is any comparison with the previous crisis (1998 – 2002) possible? What impact could we expect in the close-term for President Mauricio Macri and the country’s political stability? The article tries to give some clues on what might be going to happen in the South-American State.

A history of debt crises

Argentina is no stranger to currency and debt crises. In the 20th century, periods of economic growth often led to trade deficits, pressure on the currency and the hasty adoption of fiscal austerity to tamp down the economy, creating an impoverishing and tiresome cycle of boom and bust. After a bout of hyperinflation in the 1980s, Argentina attempted to stabilize the Argentine peso by tying it 1:1 to the dollar in 1991 (the Convertibility Plan). Though successful in the short term, convertibility went disastrously awry at the century’s turn.

Argentina’s contemporary problems are a typical currency crisis. Those who hold Argentine pesos or peso-denominated assets are selling, partly to buy US dollars and dollar-denominated assets because the US Federal Reserve is raising interest rates. Argentina also runs a fiscal deficit, which it has to finance in dollars or another hard currency. As the peso falls, that debt becomes harder to service, increasing fears of default and creating a cycle of ever-increasing pressure on the peso. As the peso falls, prices rise – inflation currently runs at about 30 percent per annum.

The Argentine central bank attempted to stem the pressure on the peso by raising interest rates to extraordinarily high levels – they reached 27.25 percent at the end of April, and 40 percent in the first week of May. However, the peso continued its decline. The International Monetary Fund (IMF) was created just for situations like this. The Argentine government in May appealed to the fund for credit to reassure investors, obtaining a credit line of $50 billion, which the state can use to ensure its debts are paid and to support the peso. In return, the Fund has mandated Argentina take steps to reduce its budget deficit through fiscal austerity, including cuts and the reintroduction of taxes on exports. Argentina announced it would speed up this fiscal tightening on September 3.

Argentinian politics: A turn to the right

During the first decade of the 21st century, Latin America was seen as undergoing a left-wing transformation, with governments of varying left-wing ideologies, identities and programs coming to power in the majority of the region’s states. Since 2015, by contrast, there has been a turn to the right.

Argentina’s initial drift to the left began after the convertibility crisis of 1998-2002, which saw extreme austerity, an explosion in poverty and unemployment and the total discrediting of the IMF and economic orthodoxy more generally. The left turn in Argentina was represented by Néstor Kirchner (1950-2010), president between 2003 and 2007, and Cristina Fernández de Kirchner, his wife and successor as president between December 2007 and December 2015. The Kirchners introduced subsidies for utilities and public services, wage increases and, under Fernández de Kirchner, the nationalization of private pension funds to support public spending. Fernández de Kirchner also introduced capital controls, limiting the ability of peso-holders to exchange or sell their pesos on the open market, and thus the peso’s depreciation.

The Kirchners kept the peso reasonably stable, but prosperity during their tenure depended in large part on high prices for Argentine commodities (most notably soybeans). They also presided over a prolonged period of high inflation and considerable levels of corruption. In the 2015 elections, when Fernández de Kirchner could not run again, her left-Peronist faction ran Daniel Scioli, who in turn lost narrowly to Mauricio Macri, the mayor of Buenos Aires and representative of a center-right coalition, Cambiemos.

Macri succeeded in reducing subsidies and returning Argentine bonds to global markets – the country had been unable to borrow openly after the 2001 default. He also deregulated the finance sector. However, his attempts to cut inflation failed, while Macri failed to attract foreign investment. The currency crisis makes it harder for him to argue that his orthodox, conservative economic policies will succeed in restoring Argentine prosperity.

Economic risks

The immediate worry would be that Argentina would again default on its obligations. How likely is that? Well, the fact that the IMF credit line hasn’t prevented increasingly extreme attempts to reassure markets is certainly a bad sign. The Argentine central bank raised interest rates to a dizzying 60 percent at the end of August. There are significant doubts that Argentina will be able to meet the inflation and budgetary targets the IMF demands in return for its help.

The IMF learned during the 2001 crisis that it does not pay to continue supporting a country that is obviously going to become insolvent, so it is certainly possible that the IMF will cut off support – perhaps up to a 50 percent chance over the next year. This means that the danger of an Argentine default in the next year is probably almost as high, as it’s unclear who else might fund Argentina’s deficits.

Political risks

The immediate concern would be the sort of political chaos that attended the 2001 default. This led to a popular uprising and the flight of President Fernando de la Rúa from the Casa Rosada. The chances of this happening over the remainder of Macri’s current term (i.e. between now and December 2019) are probably very low – under 10 percent. The main reason is that the trigger for de la Rua’s downfall was neither inflation nor a default, but his order to freeze bank accounts (which prevented people from withdrawing their pesos and buying dollars). Macri is unlikely to issue a similar order simply to avoid recalling that precedent; rather, like Fernández de Kirchner, he would probably try to limit access to dollars in other ways.

The second political risk, especially from the purview of foreign investors, is Macri’s losing the next presidential elections, due at the end of 2019. This depends on a number of factors. Will Macri continue to pursue austerity and risk a recession, or limit cuts in a bid to save voters some pain?  Will Cristina Fernández de Kirchner be able to run, or will she be barred, legally or practically, by corruption investigations?

Because many Latin American countries do not allow presidents to run for immediate consecutive terms, there are relatively few precedents to apply. Macri is not accused of epic-scale corruption; indeed, his government has been rather vigorous in pursuing graft cases. His economic record is poor, but Fernández de Kirchner’s was not emphatically better. Given that Macri won his first term by a margin of three percent and his poor economic record, the chance of a left-wing victory would probably fall between 40 and 55 percent.

Comparison: Chinese Foreign-Owned Enterprises Versus Private Limited Companies in India

In China, a wholly foreign-owned enterprise (WFOE) is a limited liability company (LLC) formed solely by one or more foreign investor(s) with no mandatory requirements to have a domestic partner. The flexibility afforded to a WFOE through Chinese policies makes it a popular form of foreign investment in China.

Foreign investors increasingly believe that China’s economic and legal development make it unnecessary to over-rely on guidance from a local partner.

Many factors make the establishment of WFOEs attractive in China, especially for businesses engaged in manufacturing or trade.

These include:

  • 100 percent foreign ownership and control;
  • Security guaranteed to technology and intellectual property rights;
  • Ability to develop own internal structure;
  • Capacity to retain organizational culture even on foreign land;
  • Access to China’s large market; and
  • The ability to repatriate funds to holding company.

Under Indian law, foreign investors are able to establish wholly-owned subsidiary companies (WOS) in the form of private limited companies if they operate in sectors that permit 100 percent foreign direct investment (FDI).

WOS in India work in a similar manner to Chinese WFOEs, with a few key distinctions. The specifications for establishing a wholly-owned subsidiary in India can be found here and for establishing a WFOE in China can be found here.

Regulation of foreign-owned companies in India, China

In India, both 100 percent foreign-owned private limited companies and joint venture companies are governed by the same regulations. The Companies Act, 2013, regulates joint ventures (JVs) and wholly-owned subsidiaries in India.

In China, too, JVs and WFOEs are subject to the same general laws, such as the Company Law, 2013 and the Measures of Record-Filing for Establishment and Change of FIEs. However, there are other specific measures regulating each type of legal entity as well.

For example, a corporate JV in China, whether it is a limited liability company or a joint-stock limited company, is subject to Company Law, 2013. In addition, corporate JVs with foreign investments must also comply with the Sino-Foreign Equity Joint Ventures Law and the Sino-Foreign Co-operative Joint Ventures Law.

Different types of WFOEs have different registration criteria depending on their area of operation and category of industry. Some entities need pre-approval before setting up, trading WFOEs need to register with the customs department, manufacturing WFOEs need to pass an environmental impact report, among others. This is similar to the regulatory landscape in India.

The specifications for establishing joint ventures in India are discussed here.

Securing approvals for FDI in India

Foreign investment in India is regulated under the Foreign Exchange Management Act (FEMA), and is allowed under two different routes – the automatic and the government approval routes. (See the Consolidated FDI Policy published in August 2017 here. This has been amended in January 2018, which can be seen here.)

In both India and China, the scope of the business – the company’s intended activities – dictate the need to establish either a 100 percent foreign ownership or the requirement of additional national investors.

For example, any sector in India that attracts an equity cap or falls under the 49 percent government approval route for FDI needs an Indian investor to be involved within the business.

A business eligible for 100 percent automatic FDI requires no prior approval.

Setting up in India versus China

Setting up a private limited company / wholly-owned subsidiary in India differs substantially from the WFOE set-up in China.

The standard setting up process in India is known as the ‘automatic route’, which involves a comparatively easy establishment process.

Under this route, 100 percent investment is allowed in certain sectors, as per the Master Directions issued by the Reserve Bank of India (RBI).

For these sectors, no specific approval is required prior to setting up the entity, making the establishment process quite simple.

The investors are only required to notify the RBI within 30 days of the receipt of inward remittances and file the required documents with that office within 60 days of the issuance of shares to foreign investors.

For sectors that fall under the approval route, sectoral investment caps are defined, and investment requires government approval.

In this case, there is a separate set of procedures to be followed.

Among other things, the company must obtain approval for investment from respective ministries or administrative departments through the Department of Industrial Policy and Promotion (DIPP).

To improve the ease of doing business in India, the Indian government now allows 100 percent automatic FDI in most sectors.

In China, more industries are being opened up to FDI, such as the automotive and insurance sectors. The country released its latest Negative List in July 2018 reducing the restrictive measures from 63 to 48, and for a Negative List for Free Trade Zones, where restrictions were brought down from 95 to 45.

Major industries that are highly restricted because of FDI caps or other laws or practices in China include finance, telecommunications, education, healthcare, internet businesses, and any industry engaged in the extraction or processing of natural resources.

In India, the FDI regime is more liberal.

In its foreign investment policy released in January 2018, the government allowed 100 percent FDI under the automatic route for single brand retail trading and construction development sectors besides introducing relaxations for investing in power exchanges and the medical devices sector.

As mentioned earlier, most sectors in India allow 100 percent foreign investment without the need for specific government approval.

Industries were FDI restrictions apply include mining, defence, petroleum refining, broadcasting services, print media, and air transport services. However, even in these sectors, investments beyond regulated caps can be made after securing government approval.

Difference in organizational requirements 

Foreign investors interested in setting up a WFOE in China or a WOS in India must follow the government’s organization structure guidelines. However, distinctions exist here as well.

A WFOE set-up requires an executive director or board of directors, at least one supervisor, and a general manager.

The Indian WOS, on the other hand, must have a minimum of two directors and between two and 200 shareholders. A shareholder can be another legal entity, such as a Hindu Undivided Family (HUF), whereas directorship is held only by individuals.

As in the case of China, the amount of paid-up capital required should be a financial exercise to determine the business’ start-up and cash flow needs. For a WOS in India, there is a minimum share capital requirement of INR 100,000 (approximately US$1,500). This has been relaxed under the Companies (Amendment) Act, 2015.

Taxation of WFOE versus WOS

IB-Tax-Liability-–-India’s-Wholly-Owned-Subsidiary-ModelIB-Tax-Liability-–-China’s-Wholly-Foreign-Owned-Enterprise-Model

India does not charge a tax on profit repatriation whereas China levies a 10 percent tax on the value of repatriated funds. Additionally, China’s labour welfare costs are higher.

However, it is also important to note that domestic companies in India are liable to pay dividend distribution tax, levied at 16.995 percent of dividend payout, which is deducted from their reserve or surplus.

Foreign investors whose countries have double tax avoidance agreements (DTAAs) with India will need to calculate their respective tax liability according to the terms of the respective DTAA.

India DTAAs Part 1India DTAAs Part 2

How Will Dollar Appreciation Against the Real Impact Brazil’s Economic Recovery?

Internal political uncertainty and US rising interest rates have caused a two and a half year high of the dollar to real exchange rate. The dollar’s appreciation, in turn, has caused concern regarding Brazil’s economic recovery – which has been driven by its internal market – given its pressure on inflation and the possible decrease in consumption as products become more expensive.

On September 5, the dollar hit a two and a half year high against the real closing at R$ 4,14 – the highest level since January 2016. Throughout the past few months, the dollar continued to rise and exchange offices were selling the tourism dollar – dollars sold directly to consumers – at R$ 4,32. Since January 2018 the dollar has appreciated 25% against the real.

International and domestic factors

On the international front, the dollar’s appreciation was caused by higher yields on U.S. Treasury securities which rose to 2% and continuous fear of a trade war between the US and its trade partners. Additionally, the Federal Reserve may continue its interest rate increase to contain inflationary pressures due to economic growth – especially in US retail sales. The concern is that an increase in retail sales may increase inflation, and in order to contain this increase, the Federal Reserve would likely increase interest rates even further.

High interest rates in the US – deemed the safest market in the world – have the potential to attract resources from other emerging market countries, such as Brazil.

In Brazil, the appreciation of the dollar can also be explained by the continuous volatility in the presidential polls. Last week, the Superior Electoral Court (TSE) voted to deny Lula da Silva from running under the Clean Slate Law – as of the latest August poll Lula was polling first with 39%. After the TSE decision, a new poll was published on September 5 without Lula; Jair Bolsonaro is now first with 22%, followed by Marina Silva 12%, Ciro Gomes 12%, Alckmin 9%, and Haddad 6%. Doubt remains as to whether the next government will make the necessary economic reforms to reach fiscal balance.

Alongside the dollar pressure, the Brazilian economy continues to underperform with 1.1% growth so far in 2018. This indicator is far worse than what was expected, causing economists at financial institutions to revise the GDP growth to 1.44% for 2018 – earlier in the year the expectation was 2.70%.

Brazilian Central Bank

So far in order to intervene, the Central Bank has held a number of foreign exchange swaps, equivalent to the future sale of dollars. In its latest round, on August 30, the total offer was $1,5 billion.

On August 1, the Central Bank’s Monetary Policy Committee (Copom) decided to keep interest rates at 6.5%, signalling caution due to the volatility of the external scenario.

The Selic rate is used to keep inflation within its target to control prices of goods and services – when inflation is low the Central Bank lowers the Selic rate to boost economic activity, and when inflation is high they increase the Selic to encourage people to consume less to remove reais from the market (sometimes increasing unemployment). Financial analysts project inflation at 4.16% for 2018.

Despite this volatile scenario, Minister of Finance, Eduardo Guardia, and Central Bank President, Ilan Goldfajn believe that Brazil will not face the same difficulties as its neighbour, Argentina, since Brazil has low levels of foreign debt, high international reserves, opportunities to sell future dollar contracts, and stable foreign investment inflows.

Impact

The dollar’s appreciation has a direct impact on the pockets of Brazilians. Uncertainty in the presidential elections polls and a need for security has caused investors and Brazilian tourists to buy more dollars, which in turn increases the price of the dollar even more.

In addition, it causes an increase in prices of goods and service and puts pressure on inflation, as many parts of the final goods are imported using U.S. currency – especially true for the electronics industry as well as food such as bread and pasta since wheat tracks the price of the dollar. In addition, the price of oil is likely to continue to increase due to tensions between Iran and the United States. If the dollar rises too much too quickly, it creates concern of boosting inflation in Brazil – something that if relatively moderate would not be considered too negative given its low 2017 and 2018 rates.

Inflation may also be passed along to products that do not use imported parts as some goods are traded in dollars for export and Brazilian exporters will have to adjust their prices in order to make a profit.

In regards to tourism, the appreciation of the dollar comes with positive and negative effects. On the negative side, vacations for Brazilians looking to go abroad became extremely expensive. On the positive side, international travellers may be attracted to come to Brazil due to its weak real which in turn can boost the tourism industry activity and improve some parts of the economy.

Overall, an increase in the price of the dollar is set to delay economic recovery in Brazil, especially as safe countries like the United States become more attractive to investors.

 

Lorena Valente is an Associate at Promontory Financial Group, an IBM company.

Why Peru’s Democracy is at Stake in Vizcarra’s Anti-Corruption Crusade

As yet another corruption scandal reverberates through Peru, polling shows that citizens are disappointed with their government and doubting democracy itself. If new president Martín Vizcarra fails to lead Peru past the wrongdoing that has plagued its government for decades, Peru could fall into a democratic crisis.

On Saturday, Peruvian president Martín Vizcarra called for a national referendum on judicial and political reforms aimed at tackling the country’s widespread corruption. The week previous, he asked congress to debate the ouster of the country’s magistrates “in light of the evident acts of corruption and crimes”. These extraordinary moves come after recordings were released that chronicle widespread influence peddling between dozens of senior judicial officials and organized crime gangs. The judicial branch is only the latest Peruvian democratic institution to face a corruption crisis, after President Vizcarra himself assumed the presidency after the resignation of his predecessor due to corruption allegations. In fact, all six living Peruvian presidents have either been imprisoned, implicated, or investigated for corruption.

Governmental wrongdoing has undermined Peruvian belief in democracy

Polling shows that Peruvians are weary of these scandals, and that they have negatively affected their opinion of democracy itself. Surveys conducted in May, before the most recent round of corruption scandals, indicate that 62% of Peruvians are worried about financial and political corruption in their country, compared to 35% worldwide. This is enough to make Peruvians the most concerned among the 28 major countries surveyed. Confidence in democracy has followed a similarly troubling trend, with only 45% of Peruvians indicating that they support it, the lowest approval level in a decade. Upcoming polls will likely find that the situation has worsened, as anti-corruption protest marches have begun and there are movements to fly the Peruvian flag at half-mast during its Independence Day celebrations.

Vizcarra’s anti-corruption crusade

When he assumed office in March, president Vizcarra pledged to curb corruption “at all costs”. While this commitment may cause déjà vu among corruption-weary Peruvians, Vizcarra is one of very few Peruvian leaders that has any chance of bringing it to fruition. Most political decision makers that have the ability to reform the system have themselves been embroiled in corruption scandals. Key stakeholders in the public and private sectors have benefitted greatly from the status quo, and thus have little incentive to right the ship. Though Vizcarra faces substantial headwinds in his quest to clean Peru’s political system, there are three key indicators to watch that would suggest his attempts will be successful:

Firstly, if he pays close attention to the governmental structures that will enable his success. A clean, independent judiciary is a vital pillar of any successful anti-corruption campaign, so he should continue to enact drastic actions to clean out any wrongdoers.Firing wrongdoers and leading thorough reviews is a good start, but he should also be sure to identify and place an untainted crop of new magistrates lest a new judiciary display the same problems as the old.

Secondly, if he heavily leverages the Peruvian people’s dissatisfaction with corruption. It is clear that many politicians have an incentive to inhibit the success of his initiative, so Vizcarra must mobilize the citizens that they supposedly represent and pressure the politicians to either clean up their act or resign. Though Vizcarra’s approval rating has fallen precipitously to 37 percent from his initial figure of 57 percent, he still is far more popular than any other Peruvian politician. By calling a referendum, he has taken am first step toward uniting the Peruvian people behind him.

Thirdly, if he creates a functional relationship with the powerful politician Keiko Fujimori. While Vizcarra’s lack of political history and party affiliation makes him feasible as an anti-corruption crusader, it puts him in a weak position compared to Fujimori, who helms Fuerza Popular and controls a healthy congressional majority. Since the Peruvian constitution grants disproportionate power to the unicameral legislature, any major proposition by the Vizcarra government will require the de facto sanction of Fujimori. Fujimori herself is under investigation for corruption and money laundering and wasmentioned as a potential co-conspirator in the same recordings that revealed wrongdoing in the judiciary, so conflict between her and Vizcarra’s anti-corruption crusade may be inevitable. Nonetheless, if he is to expect any major success in his administration’s objectives he must find a way to at least maintain a temporary alliance.

Outlook: what if he fails?

Vizcarra is faced with the unenviable task of confronting corruption and reinvigorating the legitimacy of his government in the eyes of the Peruvian people. He will likely find that much of the Peruvian government is hostile to his cause. Since he is one of a very small group of Peruvian politicians that has a realistic chance of reforming the system, his failure could prove the final straw for citizens. Peru’s democracy is already lacking strong institutions and leadership, and the further exasperation and disenfranchisement of its citizenry would make it susceptible to power grabs. The end result of Vizcarra’s failure could be a state where establishment and anti-establishment strongmen compete for power.

 

Arthur Williams is a Consultant in the Kuala Lumpur office of Kaiser Associates, a management consulting firm.

How Costa Rica Could Become the Regional Leader in Latin America for Electric Vehicles

There is a huge untapped market for electric vehicles in Latin America. Costa Rica is a regional leader in Latin America, as far as driving much of the innovation behind the electric automotive industry.  It has introduced tax incentives for the industry, which is likely to experience exponential growth in the next two decades. Risks to investors nonetheless remain.

Carlos Alvarado became Costa Rica’s 48th president on 8 May. In his inaugural speech, Alvarado pledged to eliminate fossil fuels from all vehicles by 2021. This pledge will likely inspire automotive investor confidence, due to the country’s growing spectrum of green industries. However, those advocating for an electric vehicle (EV) revolution must appreciate that the rhetoric of an incumbent president does not always match up with the realities of a much more complicated economic and political landscape.

In the country’s “Pura Vida” tradition, Costa Rican officials are proclaiming their intent to make their country a leader in the widespread adoption of EVs over the next few years. While tax exemptions have led to some immediate EV cost reductions, government actors must introduce policies to significantly change the country’s existing infrastructure, or the EV market will struggle to attract widespread support.

In December 2017, Costa Rica’s congress passed the Electric Transportation Bill which established several tax exemptions for electric vehicles. Defined as the Law on Incentives and Promotion for Electric Transportation, the new law came into effect on 25 May 2018. For EV advocates, this spark will unlikely provide the catalyst for insurmountable change.

As there are no local EV manufacturing plants in Costa Rica, the legislation hints at increasing imports of EVs, with tax exemptions helping to offset the higher costs of shipping. One important – yet still unanswered – question is whether this reduction will make EVs more attractive to consumers. As suggested in a report by La Nacionit is estimated that final EV prices will fall only marginally, from an average of $36,720 USD to $31,750 USD.

Another essential component to encouraging greater numbers of EVs is the need for more charging stations and an electricity grid that can support the extra electricity demand. Without these, it will remain difficult to incentivize most consumers to switch from the convenience of the petrol pump. According to a report in El Pais, Costa Rica currently has only 30 charging stations throughout the country. Officials plan to install only a handful more charging stations in 2018.

Market potential

Costa Rican National Registry data reveals that twice as many cars were registered than babies born in 2016, suggestive of a rapidly growing automotive industry. Car ownership is increasing by 5 percent per year, although EVs currently account for only a tiny fraction of the 1.4 million cars on Costa Rica’s roads.  Government officials hope to see 37,000 EVs being driven by Costa Ricans by the year 2022.

While this is a substantial increase from the current number of EVs, it falls dramatically short of inspiring a complete eradication of fossil fuels. To assume greater numbers of Costa Ricans will take up EVs in the time frame proposed by the Alvarado administration, ignores current domestic consumer demand trends.

According to a study by the Estadio de la Region, the country’s public transportation system has so far proved insufficient to satisfy exponential population growth. This has partly encouraged an increase in personal vehicle purchases. While this provides an opportunity for EV ownership, it could also prove to be an Achilles heel to advocates of EV. The EV market has proved uncompetitive to consumers demanding efficient and affordable modes of transportation.

As suggested by Oscar Echeverria, president of the Association of Importers of Vehicles and Machinery (AIVEMA), the transition away from fossil fuels will likely extend beyond 2021 because the Costa Rican market is slow to attract consumers.

Nonetheless, EV growth globally is promising. This bodes well for Costa Rica’s long-term plans of EV integration into its domestic transport system. According to a May 2018 Bloomberg New Energy Finance report, EVs will account for 33 percent of the world’s vehicles and 55 percent of all new cars purchased by 2040.

Remarkably, levels of forecasted EV growth have increased substantially in each year’s report. In the 2018 outlook, analysts predicted there would be 559 million EVs on the road by 2040. This is up from the 2017 analysis which suggested a total of 530 million EVs. Analysts in the 2016 report suggested lower numbers, with 406 million operational EVs expected globally by 2040. This forecasting further adds to the sustainability of long-term investments into EV usage worldwide, and in Costa Rica.

Outlook

The World Economic Forum’s Global Energy Architecture Performance Index (EAPI) monitors key trends in the energy transition of all countries towards “sustainable, affordable and secure energy systems”. Costa Rica is ranked 14th out of 127 nations in the EAPI’s 2017 report. Alvarado’s shunning of fossil fuels in transportation is a bold step towards ensuring that Costa Rica continues to rank highly.

Monica Araya, the head of the organization Costa Rica Limpia, noted the immense opportunity granted through the country’s recent legislation. She suggested that the Electric Transportation Law would be “an exercise in inspiring the people to feel part of this great agenda which will allow our country to overcome the fossil fuel transportation model.” However, this tax exemption law does too little to encourage significant changes in the transportation landscape. Introducing new charging stations and a more efficient electricity grid would greatly help to boost Costa Rica’s  EV industry.

Additionally, 22 percent of total government tax revenue in Costa Rica stems from taxes imposed on fossil fuels. Eradicating this source of revenue by eliminating fossil fuel based vehicles, without significant changes in economic policy, could inspire considerable opposition from legislators.

Costa Rica has been at the forefront of energy innovation and bold environmental pledges for several years. With impassioned rhetoric, Alvarado has planted the seed for further changes in the country’s energy infrastructure. However, an electric vehicle revolution is likely to be less explosive than Carlos Alvarado would have us believe.

Euroscepticism in the Czech Republic: A Central European Disaster Or Hot Air?

The rise of euroscepticism in Central Europe has been well documented, particularly in the Czech Republic. Among the nations of the Visegrad Four, anti-EU sentiments have long provided easy fuel for political actors willing to appeal to populist instincts to secure political power, but rarely do such sentiments crystallize into concrete anti-European movements. In the Czech Republic, however, political instability and populist rhetoric employed at the highest level is frequently warned against as a harbinger for a potential earthquake in Czech – and potentially Central European – relations with the EU. But how likely is such an event in real terms?

It is no secret that the Czech Republic harbours one of the highest levels of eurosceptic sentiment in the European Union, a fact which has drawn plenty of analytical attention from outsiders and – particularly in light of the tectonic consequences of the Brexit referendum in 2016 – no end of warnings and extrapolations by parties concerned that a similar ‘Czexit’ referendum could very well take place. In the immediate term, it is certainly justifiable for external investors and third parties to be concerned by Czech euroscepticism as an economic and political risk; Eurobarometer has historically recorded significant levels of discontent with the EU both pre- and post-accession, which has never appreciably declined, and in late 2017 36% of Czechs recorded were unhappy with their status as an EU member, the highest percentage of any EU Member State.

The roots of Euroscepticism

Euroscepticism in Czech is an ongoing study; whilst the country benefits enormously from EU funding, the EU is nevertheless often held as the cause of economic woes by a salient portion of the Czech populace. Grassroots resentment over inequalities in salary between the Czech Republic and neighbour countries (for example, in Germany, where an occupation as sales assistant can yield a salary five times greater than its Czech counterpart) is widespread.

Socially, the story is similar: the advent of Brussels-imposed migration quotas in 2015 was almost universally poorly received in the Czech Republic, where anti-migrant and Islamophobic sentiment is extremely widespread, and to this day the migrant quota debacle has dramatically deteriorated Czech perceptions of EU membership, regardless of the fact that the migration quotas were rejected by the Czech government, and that Czech economy and society continues to benefit from and grow with the aid of EU funding programmes.

Potential outcomes

The EU continues to be scapegoated by Czech politicians seeking support from the eurosceptic vote. In real terms, the consequences of this may be dramatic: persistent whispers at the highest levels of Czech politics calling for a Czexit referendum suggests that Czech euroscepticism could, if unchecked, become the groundswell behind an anti-EU movement that eventually leads to a referendum on Union membership with dramatic consequences.

However, whilst the victory of Czech President Miloš Zeman in the January elections of this year, and the reappointment of Andrei Babiš to the post of Prime Minister were received by European analysts as indicators that euroscepticism is gaining ground steadily, the reality may be quite different. Both Mr. Zeman and Mr. Babiš stand to gain very little from a Czech departure from the European Union; Mr. Babiš in particular is unlikely to follow through with any threatened referendum on Czech membership given his economic interests in remaining within the EU. In particular, however, it is noticeable that both Mr. Zeman and Mr. Babiš have distanced themselves publically from the extreme anti-EU voices within the Czech government, refusing to enter into cooperation with hardline or single-policy parties advocating for EU departure. Following the 2018 presidential election results, only one extreme eurosceptic party entered the Lower House of the Czech Parliament, the SPD (Freedom and Direct Democracy) party under Tonio Okamura.

Ahead of the October 2018 Czech parliamentary elections, the outlook on the future of Czech euroscepticism may not be as negative as has been posited by some analyses. As long as political movers rely upon the European Union’s status as scapegoat – whether in the form of President Zeman’s reprimands over perceived bureaucratic incompetence in Brussels, or Prime Minister Babiš’ invocation of the sensitive subject of migration quotas – to build their support base, Czech euroscepticism will be considered a potential risk to EU-Czech relations and the interests of external actors in the Czech Republic. However, those with the greatest power in Czech politics – although perfectly content to utilise euroscepticism and populism as tools in their political arsenal – are very well aware of the damage a Czech departure from the European Union would cause to the Czech Republic.

 

Louis is a political analyst and researcher currently based in Prague, Czech Republic. He has worked previously as political advisor in one of the major political groups in the European Parliament, assigned to the Foreign Affairs, Security and Defense and Human Rights committees.

Why India May Get ‘Limited Waiver’ From Trump to Keep Buying Iranian Crude

India will very likely get a ‘limited waiver’ from the US to keep buying Iranian crude – albeit at decreasing levels into 2019. A 6-7 September “2+2” strategic dialogue between US Secretary of State Mike Pompeo and Secretary of Defense Jim Mattis with their Indian counterparts will likely result in India receiving a limited waiver in recognition of the immense geostrategic considerations at stake in the bilateral relations between the US and India. India will likely commit to gradually reducing its purchases of Iranian crude oil into 2019. While Brent briefly flirting with $70 per barrel on demand concerns this summer increasing focus on both supply reductions from Iran and the potential for ever greater military tensions in the Gulf will provide support for Brent prices as we head toward the 4 November US-imposed deadline for implementing the US sanctions. China will probably stand alone as the market of last resort to take increased volumes of distressed Iranian oil.

The complex context of the US-India relationship at present makes the decisions of both Indian and US policymakers on implementing US secondary sanctions very difficult. On the surface, there seems to be an impasse as the 2+2 ministerial meeting approaches. The US has made clear that there will be little flexibility shown in terms of granting waivers of US sanctions for countries which continue to buy Iranian crude after 4 November, and certainly no “blanket waivers” which would allow countries to continue doing business as usual with Iran in the physical oil market. For their part, Indian officials’ public statements have hewn closely to their tradition of foreign policy independence, making clear that they feel bound to comply only with sanctions endorsed by the UN Security Council.

However, despite the stated Indian policy, there seems to be accumulating evidence of an unstated policy. Shortly after the initial response, there were anonymous comments in the early summer from Indian refinery managers in the press suggesting that government officials had discussed with them the possible need to reduce Iranian crude oil supplies. More concrete support for this has emerged recently in the preliminary data from Bloomberg, with a steep drop in Indian imports from Iran in August, from 787,000 bpd in July to 376,000 bpd in August. To be sure, there are significant monthly fluctuations in normal times, but with the approach of the deadline this seems to be too large a drop to be coincidence. It also is clearly not driven by other bilateral issues, which has happened before, such as over a dispute between Iranian and Indian parastatal firms over development of a gas field. One Indian refiner, part of the huge Reliance Industries conglomerate, already has halted purchases from Iran due to the exposure of other Reliance Industries’ business lines to the US market. The big question is around the parastatal refiners IOC, HPCL, and BPCL, which own the bulk of India’s refining capacity.

Given India’s very independent foreign policy orientation, the US demand to cut off oil purchases from Iran is a significant irritant in bilateral relations. Even when similar sanctions were implemented in 2012 by President Obama prior to the 2015 nuclear deal, India never formally said it was complying with US wishes – but somehow Indian purchases declined by 20%, which Asian importers had been told would get them a waiver.

In this case, the Trump administration is taking a harder stance – trying to cut Iranian exports to zero. There also have been other irritants in the relationship besides sanctions, including social media chatter in the Indian press alleging that President Trump has mocked Prime Minister Modi’s Indian-accented English in private, and lectured him in their summit meeting about the need to ‘buy American,’ and restricted access to US visas for Indian technology workers.

Countering that, however, is that Indian-US relations have continued to grow closer under the Trump administration, propelled by the perceived need for India to balance a rising China along with the US and Japan. Recent Chinese moves to invest and strengthen relationships with Sri Lanka, the Maldives, and Nepal have added to longstanding Indian concerns about Chinese ties to Pakistan. The geopolitical pull of rising Chinese military power is a very strong force on both sides of the US-India relationship. It has led to a surge in US-India defense contracts – with India currently having $18 billion in defense sector trade with the US, and Russia falling well behind into second place. That geopolitical pull also will influence the US side. Japan and South Korea will halt purchases of Iranian crude entirely, but if there is a country with the geopolitical weight to get a waiver from the US for some level of reduced imports, it is India.

We will not know the outcome of the talks on this issue immediately after the meeting ends this week, as there is no way India will take a formal policy decision to comply, and there also is no way the Trump administration will telegraph a decision on the issuance of a waiver so far in advance of the deadline. What will be telling is the reaction next week from Indian refiners, which should come out in the press in due time, as well as the tanker loading schedule into the fall.

As outlined in previous notes, the US could tap its Strategic Petroleum Reserve (SPR) to temporarily offset the bullish price trend, but they will probably hold off and use that only as a last resort. If the market is knocking against $80 per barrel in early October, or above, that is the most likely time for President Trump to pull the trigger, for maximum effect on the 6 November midterm elections in the US.

China-Russia-Iran Axis Emerges As Asian Oil Refiners Anticipate Escalating US Trade War

Although China has backpedalled on proposed tariffs on U.S. crude imports, the move is indicative of its need to diversify sources and steps may now be taken to enable China to play the oil card in the future – including imports from Iran despite sanctions, and drawing closer to Russia. 

A reshuffle of crude oil exports to Asia

Asian oil refiners have been rushing to secure crude supplies in anticipation of an escalating trade war between the United States and China. Last week, Dongming Petrochemical, an independent Chinese refiner, said it has halted crude purchases from the U.S. and turned to Iranian imports amid escalating trade tensions between Beijing and Washington. U.S. crude oil exports to China reached 400,000 barrels per day (bpd) at the beginning of this July, but Beijing has recently threatened a 25 percent duty on imports of U.S. crude as part of its retaliation for Trump’s latest round of tariffs on US$34 billion worth of Chinese goods. In addition, Iran’s foreign minister said on 3 August that China was “pivotal” to salvaging a multilateral nuclear agreement for the Middle Eastern country after the United States pulled out. A reshuffle of crude oil exports to Asia is possible, with China vacuuming up much of the Iranian oil that other nations won’t buy because of the threat of U.S. sanctions.

China, India, Japan and South Korea together account for almost 65 percent of the 2.7 million barrels a day that Iran exported in May. The U.S. has been lobbying these countries and other multinational oil giants to cut crude purchases from Iran to zero by November, the deadline for re-imposition of the secondary sanctions. In view of the current trade disputes with the U.S., China has reacted defiantly to U.S. sanctions banning business ties with the Islamic republic. This could be the determining factor in helping Tehran withstand the sanctions on its vital energy industry.

With China turning to Iran, U.S. oil would start flowing in greater amounts to other leading importers in the region, such as Japan and South Korea. In Japan, the oil industry has yet to respond to this issue publicly. The Petroleum Association of Japan previously warned refiners that they will have to stop loading Iranian crude oil from October onward if Tokyo doesn’t win an exemption on U.S.-Iran sanctions. However, this past weekend,South Korea’s embassy in Iran rejected media reports that the country had suspended oil purchases from Iran under pressure from the U.S. Whether Japan and South Korea would seek more crude imports from the U.S. remains to be seen.

China may have Russia on its side

The sanctions imposed on Russia from the West as well as the trade tensions between China and the U.S. may provide even more room for energy cooperation between China and Russia. Russia’s sour relationship with the West forces it to look for new trade and investment partners, which definitely include China and Middle East countries. Russia has already become China’s single largest crude oil supplier, exporting crude oil worthUS$23.7 billion to China in 2017. Now with China possibly cutting imports from the U.S., Russia may seek to export even more crude oil to China.

On 19 July, China received the first ever liquefied LNG cargo from Russian natural gas producer Novatek via the Northern Sea Route (NSR) alongside the Arctic coast. The $27 billion Yamal project is the world’s largest Arctic LNG project and the first large-scale energy cooperation project to be implemented in Russia after the “Belt and Road” initiative. China’s National Energy Administration said China National Petroleum Corp (CNPC) will start lifting at least 3 million tonnes of LNG from Yamal starting in 2019. Therefore, it’s highly possible that China and Russia will deepen their cooperation in liquefied natural gas (LNG) trade despite U.S. sanctions.

In addition, according to an anonymous Russian government official, Russia is ready to invest US$50 billion in Iran’s oil and gas sector amid mounting pressure from the U.S. to economically and diplomatically isolate Tehran. Russia’s energy minister Alexander Novak said that Moscow was interested in developing an oil-for-goods program that would allow Iranian companies to buy Russian products in exchange for oil contracts to be sold to third world countries. This was evidence of Russia’s consistent strategy of using its strong oil and gas industry to meddle in Middle East issues. Under the current situation, even though China may somehow reach an agreement with the U.S. promising that it will cut oil imports if the U.S. is willing to reduce the trade tariffs, in the short-term China is still likely to get Russia on its side in defiance of the U.S. oil campaign.

Yueyi Chen is a graduate student at the Center for Eurasian, Russian and East European Studies, School of Foreign Service, Georgetown University.

Roaming Tiger on the Belt and Road: Is Malaysia the Victim of Politically Motivated Cyber-Attacks?

The unexpected and stunning election victory of veteran politician Mahathir Mohamad in Malaysia this May caught both the Malay elite and international observers off guard, throwing out what many decried as a corrupt long-standing governing class primarily concerned with enriching themselves, a running sore which culminated in the widely reported IMDB scandal which saw billions being stolen from the Malaysian national wealth fund by politicians and their friends.

US justice department investigations of the 1MDB scandal resulted in a breakdown in relations with Kuala Lumpur and Washington as the Malaysian government resented what it saw as unwarranted US intervention.

The Malaysians instead turned north to forge ties with Beijing, who famously make non-interference a cornerstone of their foreign policy. Already a major trade partner, Chinese firms were soon backing major infrastructure projects like the East coast rail line which will have the effect of deepening Chinese economic ties and further cementing political relations.

But the election of Malaysia’s new government threw a major spanner in the works, the new administration in Kuala Lumpur wasted little time in reviewing relations with China and soon suspended several major projects following allegations of bribery and concerns over pricing. Probes into the IMDB scandal were given new life (the previous government had blocked them) and the former Prime Minister Najib Razak was arrested. Low Taek Jho a financier implicated in the scandal remains on the run, allegedly in China.

The affected projects include the multi-billion dollar East Coast rail line which could have transported Chinese goods via Malaysia and a major pipeline project. These have significant commercial and geopolitical implications for China and represent a major pushback of its Belt and Initiative, it also left some wondering how China would react to such a rebuff.

In the last week, cybersecurity firm FireEye identified Malaysia as the target of cyber attacks originating from China as it allegedly sought to punish Malaysia for suspending its projects. The firm suggested that Chinese threat actors were targeting Malaysia through targeted malware in an effort to collect intelligence on infrastructure projects in the country.

If true these incidents highlight the possibility of China using cyber attacks through proxy groups such as Roaming Tiger and TEMP.periscope to target companies, infrastructure or nations that deviate from or backtrack on commercial or diplomatic promises, particularly those concerning its flagship Belt and Road initiative. Using proxies gives China the ability to distance themselves from attacks.

Russia has demonstrated the effective use of cyber warfare in recent years, the release of the Democratic Party emails has shown it can be low cost and highly effective. Compared to an invasion such as Crimea which provoked an international diplomatic and economic backlash.

FireEye identified that Roaming Tiger used malware to attack Western European Foreign ministries (via Toysnake), the Cambodian elections using Litrecola malware, other attacks have been made on Tibetan independence organisations.

There should also be a fear that these developments could be the tip of the iceberg, as Chinese backed threat actors develop their abilities and gain confidence they could go after ever more high profile targets.

A Sino-Malaysian summit this week highlighted strong ties between the two and the desire to increase already substantial trade, but delicately skirted around the issue of the suspended investments. Publicly China has been demonstrating a humble attitude to recent developments and there has not been an outburst of anti-Malaysian propaganda.

Both sides face major losses if the infrastructure projects are called off as preliminary work has already begun. It remains to be seen whether Prime Minister Mahathir has suspended the projects as a bargaining ploy to get a better deal on the projects from China, or perhaps for the Chinese to hand over fugitive Low Taek Jho and help bring a conclusion to the IMDB scandal or does he genuinely see the projects as an unnecessary drain on an overstretched national budget and is just allowing the Chinese to save face by not immediately cancelling the projects.

More broadly China’s use of cyber-attacks on other countries will be a trend worth watching, will Beijing target countries that resist China or attempt to interfere in national elections and how will nations hit by such attacks respond.

Merlin Linehan has worked in development finance within Eastern Europe and Asia, and spends much of his time investigating the risks and opportunities that are created from the ongoing expansion of Chinese businesses that invest overseas in emerging markets.

This column does not necessarily reflect the opinion of the editorial board or Frontera and its owners.

New to Investing? Four Tips to Help Make Sure that You Start Off on the Right Foot

When you enter the world of finance as a private investor making their first steps, the experience can be daunting. You need to have a fair grasp of the market and keep morale high in order to come back from potential losses and make level-headed investment decisions. If this is your first time testing the waters, consider these four tips that are great for beginners in the investment world.

1. Define Your Investment Strategy

Before you can even consider making your first investment step, you need to have an honest and thorough discussion with yourself. What do you hope to get out of your investments? What is your financial ability and how much can you stretch out for? Are you willing to hold on to stocks for years or do you want to try a quicker-paced investment strategy? It is important to set your goals right from the start and clarify how much you could invest on a monthly basis as well as your margin for error early on, as these will guide your investment decisions. If you aim to gain $100,000 in the next 5 years, you will develop a much different approach than if you plan to save $200,000 in that same time.

2. Pick the Right Account for You

The next step is to select the right type of trading account for you. This will determine both how much you will be spending each month as well as the types of services and investment products that your money will buy you access to. This will depend on your trading volume, the range of asset classes that you are interested in, as well as extra services such as a personal relationship manager. Depending on your personal and professional situation, you might also want to consider a corporate or a joint trading account. If you are unsure, you can always start with a demo trading account and build from there when you feel safe that you have learned enough.

3. Diversification Is Key

Most long-time investors will highlight the importance of diversification if you want to make sound investment decisions. Despite its popular appeal, you need to move away from the idea that investing means just quick profit by picking the right trending stocks in the stock market and start thinking in a more rounded way. If you want to accumulate wealth in the long run, the best way is to cut back on your risks and increase your revenue potential by diversifying your portfolio: look for your option in stocks but also in bonds and other asset classes.

Source: Pexels

4. Learn from Your Mistakes and Bounce Back

One hot tip that Warren Buffett has for new investors is to understand the learning potential of your mistakes. Everyone makes investment decisions that prove to be wrong in the long run – what sets good investors apart is that they learn from them and come back wiser. Buffett even suggests that it is a good idea to keep a record of your investment choices that went wrong in order to keep them in mind and ensure that you don’t make the same mistake twice.

Investing is a brave new world for many of us – but with a good plan, prudent investment choices, and a lot of resilience, you can increase your chances of succeeding.

North Korea Is Facing A New Food Famine — Worst Since Kim Jong-un Became Leader

North Korea faces a new food famine this winter. The expected fall in crop production will be the worst since Kim Jong-un became leader. A sustained famine could test the stability of his regime. Squeezed by new import restrictions induced by international enforcement of a tough UN sanctions regime, against the backdrop of a stalled nuclear negotiation with the US, a crippling heatwave, a shortage of fertilizers and the lack of farm equipment, North Korean fall crop harvests could fall by up to 20%. A new food famine in late 2018/ early 2019 is very likely unless UN sanctions are lifted, or China, Russia or others provide massive food aid to the beleaguered regime. North Korea’s precarious food balance may mollify its hard foreign policy stance at the US denuclearization talks and possibly produce a major foreign policy win for the Trump administration before the November mid-term elections.

Agriculture accounts for 22% of North Korea’s GDP, employs between 37% and 40% of the population. With a mere 22% of the total land area of North Korea arable, an imminent crop failure will have serious consequences for regime stability if no headway is made on US sanctions talks.

The likely crop failure this fall will hit the country’s west coast which shares a border with China much more significant than the rest of the country, and may see an upsurge of refugee inflows into China. The west coast of the country is the country’s ‘bread basket,’ accounting for 17% of available land. The country’s main food crops: rice, maize, potatoes, wheat and barley are all likely to be badly affected by the ongoing heatwave as they are harvested each year between August and October.

Further complicating the North Korean food situation is the poor quality seeds and proper fertilizers (made even harder by the strict oil import quota under the UN-sanctions enacted in November 2017). Frequent droughts and flooding do not help either. Additionally, environmental degradation, deforestation and economic mismanagement have conspired to stagnate crop yields over the past decade. With little economic incentives, most North Korean farms are run as socialist farm cooperatives where each household rely on a small plot of land – about 100 sq. m – to grow vegetables for their own consumption but also rear rabbits, pigs, goats and poultry to supplement household nutrition and income. The lack of economic incentives leads to massive inefficiencies and waste. The waste is staggering. A 2014 UN FAO study found that post-harvest loss of rice, maize, and wheat & barley, was 15.6%, 16.7%, and 16.4% of total production respectively.

North Korea’s food insecurity situation is so grave that the World Food Program (WFP) and its Global Hunger Index classifies the country as ‘serious’ with a rating of 28.2% of the population going hungry contrasted with India 31.4%, Sudan 35.5%, Chad 43.5% and Central African Republic 50.8% (the latter three labeled ‘alarming’/’extremely alarming’). Since 1995 WFP has regularly provided food aid and other assistance to North Korea.

The shortcoming of the agriculture sector is also visible in the trade sector. FAO’s Food Security Indicators shows that North Korea ‘average dietary requirement supply adequacy’ is just 88% – on the same level as Somalia. (Eastern Africa average 92% and world average 120%). Such shortfall ought to be met by ample food imports. That is not the case. The value of food imports as a percentage of merchandise exports is 11% (in 2013, latest available data) vs. 25% for Eastern Africa 11% – which is way below the 31% for low-income economies/frontier markets. Another way to illustrate the shortcoming is to compare with South Korea, which shares the same geographical and meteorological conditions, its southern neighbour imports 70% of its food needs.

In 2017 most of North Korea’s grain import came from China and increased three times according to Chinese customs data. Wheat (81,653 tons) was the biggest import, followed corn (57,887 tons) and rice (35,408 tons). Corn imports jumped 16 times to 31, 235 tons, and flour imports which stood at 7,000 tons increased 12 times from the previous year.

Furthermore, unregistered barter trade with China helps to mask the true size of imported agriculture products. However, the heavy trading sanction regimes levied on North Korea and stricter border controls are making increased agriculture imports challenging at the moment.

Strong Military Link

The North Korean military is called upon during labor-intensive planting and harvest periods to assist farmers. The North Korean military, the fourth largest in the world in manpower size, possesses the limited gasoline supplies and heavy machinery available. Thus military capabilities are significantly constrained during March-April and August-September months each year.

South Korea/Japan land reform model

Without a doubt the North Korean agriculture sector stands at a crucial juncture where major reforms are needed if the country is to maintain social stability. There has been some economic policy tinkering but a thorough reform package is yet to be unveiled. A Post US nuclear deal will give impetus to new economic reforms within the country.

The most likely pathway is to follow in the footsteps of South Korea and Japan on land reform. Following the end of WW2, South Korea introduced the first land reform, which involved putting a cap on rent charged to farm tenants to 1/3 of annual yield. In 1948 the government transferred farmland expropriated from the Japanese government and Japanese private owners to tenants where a cap was put on the land per tenant. The acquired land was sold to the farm tenants on generous terms. In 1950 a new Land Reform Act meant that government and government-vested lands (such as owned by absent landlords) were redistributed at similar generous terms.

The land reform led to former owners transformed into entrepreneurs who would start businesses in the manufacturing sectors the government had earmarked as having the best potential. The government also offered low-interest loans for them getting into business.

The land was distributed to recipients under strict conditions, such as they would actively farm the land. And recipients of land could only sell or donate the land after they paid it off, and the government could take the land back if the owners failed to meet regular payments. A similar reform scheme was enacted in Japan during the same period. Farmers used their land as collateral for bad loans, selected the crops cultivated, mechanized and applied fertilizers, which pushed up the yields/profitability that helped them free up family members/children to join other industries/study which oiled the fast-paced economic growth of North Asia through 1950-80s.

September 24 Harvest Festival will signal whether a famine is afoot or not

To better gauge internal North Korean sentiment around food security ahead of the winter, two major upcoming events will signal whether the food insecurity situation within the country is nearing a critical point or not. The National Day on September 9, (which also marks 70-years anniversary of the nation), and the Harvest Festival on September 24, (one of the country’s most cherished festivals) will see the regime signal the level of concern within North Korea over social stability. The regime may well push to sign a final denuclearization deal with the US by then. A sustained famine could severely challenge the stability of the Kim Jong-un led regime.

DaMina Advisors is an Africa-Asia focused independent frontier markets political risk research, due diligence, M&A transactions consulting and strategic geopolitical risks advisory firm. DaMina Advisors is legally registered and has offices in the US, Canada, The UK and Ghana. DaMina is headquartered in Toronto.

New Regulations For Shipping In Russia Arctic: The Case of Novatek

In early August Novatek, Russia’s largest independent natural gas producer, launched the second train of Yamal LNG even earlier than planned. Although gas production is ahead of schedule, Novatek’s shipping capacities are lagging behind – and there are regulatory factors to contend with as well.

New rules in the Arctic

Since last year, new regulations have been developed for Russia’s Arctic. The Northern Sea Route Directorate, a new overarching authority, was created to take care of the development of regional infrastructure, and manage a nuclear icebreaker fleet. In June 2018, Rosatom won a power battle between different governmental agencies as to who will be in charge of the Northern Sea Route. Vyacheslav Ruksha, a former Director General of Atomflot, Rosatom’s entity, was appointed the new head of the Directorate. The Ministry of Transport upheld the right to grant Russian and foreign vessels permission to sail via the Northern Sea Route. Had the right remained with Rosatom, it could have threatened Novatek’s shipping independence.

Earlier, in December 2017, the federal shipping code was amended stating that the shipping of oil, natural gas, gas condensate and coal which is extracted on the Russian territory along the Northern Sea Route must be loaded to vessels registered under the Russian flag. In light of the ongoing import substitution policy, the amendment aimed to bolster the position of the Russian shipping industry and to limit the involvement of foreign shipping companies.

The new bill would be a major headache for Novatek as it heavily relies on foreign-registered vessels to transport its LNG from the Arctic. Even Sovcomflot’s Christophe de Margerie is registered in Limassol, Cyprus. However, after Novatek’s lobbying, an exception was made to the bill stating that agreements for foreign-registered vessels signed before 1 February 2018 will be allowed to proceed. In addition, the new law defined the Northern Sea Route as the stretch of the Russian Arctic coast between the Novaya Zemlya and the Bering Strait but excluded Murmansk and Arkhangelsk, two major Arctic ports.

These loopholes are of key importance for Russia’s largest independent natural gas producer, Novatek. While the first exception will allow the company to use its fleet of 15 LNG carriers for Yamal LNG, the second exception will help the company to come up with a new strategy for its Arctic LNG-2.

Need for more ice tankers is growing

In early August Novatek launched the second train of Yamal LNG even earlier than planned. By January 2019, Novatek is planning to commence the last third train. The three train LNG terminal is expected to produce 16,5 million tonnes per year (mtpa). In 2022-2025, Novatek plans to start its second LNG terminal – Arctic LNG-2, adding another 20 mtpa. Together, both Arctic terminals will produce more than 55 mtpa of LNG by 2030.

Although gas production is ahead of schedule, Novatek’s shipping capacities are lagging behind. For Yamal LNG, Novatek ordered 15 icebreaking LNG carriers ice-class Arc7 from South Korea’s Daewoo Shipbuilding Marine Engineering. For Arctic LNG-2, approximately the same number of LNG carriers will be needed. Currently, only 3 LNG carriers are in operation, while the rest are set to be delivered by 2020. However, the company will not own any of the 15 carriers.

Novatek’s fleet ownership is divided between Russian Sovcomflot, Canadian Teekay, Japanese Mitsui O.S.K. Lines, Greek Dynagas and Chinese COSCO and LNG Shipping. Sovcomflot, a Russian maritime shipping company, owns only one LNG carrier –Christophe de Margerie. Hit by Western sanctions, Novatek struggled to fund construction of the terminal, let alone its transportation expenses. The costs of Arc7 class carriers are high – $320 million per carrier, resulting in a shipbuilding deal worth $5 billion.

Novatek’s short- and long-term strategies

As the fleet for Arctic LNG-2 should be domestically built, Novatek developed different strategies. In the short term, Novatek is planning to use 5 nuclear-powered icebreakers (60 MW capacity) owned by Rosatomflot. To cope with the production output, two reloading terminals will be built in Murmansk and in Kamchatka where LNG will be reloaded onto conventional tankers. Alternatively, Norway can be used as another reloading terminal. This will allow the optimisation of the logistics: by cutting the distance of expensive-in-usage icebreakers, the transportation costs will be reduced. The first ship-to-ship operation could already start mid-November 2018.

In June 2018, Novatek signed a strategic cooperation agreement with Sovcomflot to develop an effective logistics model on the Northern Sea Route. “Combining our efforts with Sovcomflot, one of the global leaders in navigation in harsh ice conditions, will allow us to achieve maximum efficiency in managing our transportation costs,” said Leonid Mikhelson, Novatek’s chairman.

In the long term, Novatek considers to order LNG carriers with Zvezda, a Rosneft-led shipyard in the Far East. However, experts say that at Zvezda the costs will be 60-80% higher than those made in South Korea and there is no guarantee of the quality or the delivery date. Zvezda still lacks expertise and experience in building ice-class tankers. A cooperation agreement signed with South Korea’s Hyundai Heavy Industries might compensate it though.

In May 2018, Novatek announced that the company decided to build its own shipping company “Maritime Arctic Transport”. In doing so, Novatek’s long-term strategy is to “optimize transport cost and ensure a well-balanced, centralized management structure to improve the competitiveness of NOVATEK’s Arctic projects,” said Mikhelson.

Both Yamal LNG and Arctic LNG-2 are planned to be in operation all year around, but the non-stop shipping via the Northern Sea Route is complicated by climate factors. As the eastern route is free of ice for only 2-4 months in summer, special ice tankers are needed. To face this challenge, a special icebreaking LNG carrier is to be designed. The contract to build a super-powerful nuclear-powered ice tanker “Lider” was obtained by Rosneft’s Zvezda. Designed to break 4-meter-thick ice, its completion is planned for 2027. The contract was assigned for political reasons rather than based on technical expertise.

Unfair competition between shipbuilding companies, together with the lack of expertise in building ice-class tankers, could jeopardize Novatek’s long-term strategy. It is unclear whether the company will resolve its mismatch between production capacity and export capacity in the near future.

Dr. Maria Shagina holds a double PhD degree from the University of Lucerne and University of Zurich and a M.A. from the University of Dusseldorf.