The Panama Canal Could Become the Center of the U.S.-China Trade War

PANAMA CITY—In Panama’s presidential election, it’s what was left unsaid that resonates most.

The winner of the May 5 vote, Laurentino “Nito” Cortizo is a 66-year-old former cattle rancher. With swept-back hair, a gravelly voice, and a sharp black suit, he has the air of a late-era Johnny Cash. On TV, he walked the line: unleashing a few jabs at his relatively more corruption-tainted opponents and saying little that could jeopardize his lead. But there’s one topic that Cortizo and his opponents barely touched throughout the campaign: their country’s growing ties with China.

Following outgoing president Juan Carlos Varela’s unexpected decision to end diplomatic relations with Taiwan in order to establish formal ties with Beijing in June 2017, a tidal wave of Chinese investment is in the works. Major infrastructure projects and an imminent free trade agreement will allow Panama, a country of 4 million people, to maximize its potential as a hub for regional trade, manufacturing, and logistics and ease the strain on a financial services industry damaged by the Panama Papers. In return, for a relatively modest outlay, China is poised to become the most important commercial partner in a country that controls a key chokepoint of world trade.

It’s a win-win, both sides like to stress. But if tensions between the United States and China continue to escalate, Panama could become a key theater in their trade war.

For the seven presidential candidates in the recent election—all but one of whom were center-right, pro-business free-traders—Chinese cash is required to reinvigorate a stalled economy. The geopolitical effects and the long-term effect on sovereignty? Those are problems for future presidents. Cortizo, speaking to Reuters on Election Day, said the United States needed to pay more attention to Central America, saying, “While they’re not paying attention, another one is making advances.”

And that, said Carlos Guevara Mann, an associate professor in political science at Florida State University’s Panama campus, has “put Panama in the midst of the world’s biggest geopolitical rivalry: the trade war between the U.S. and China. No one has a plan.”

But Panama, given the United States’ history in the country and the unique importance of the interoceanic canal, could be where the two powers collide.

Recently, China has deepened ties with governments across Latin America and the Caribbean, 19 of which have officially signed up for Chinese President Xi Jinping’s signature $1 trillion Belt and Road infrastructure plan. It has encountered little pushback or competition from the United States. But Panama, given the United States’ history in the country and the unique importance of the interoceanic canal, could be where the two powers collide.

“The Panama Canal was the great work of the industrial age, as symbolic to the U.S. as the Great Wall is to China,” said Richard Koster, a novelist and historian who has been an analyst of Panamanian politics since he first set foot on the isthmus as a Marine in 1957. “The Chinese plan to develop a permanent presence in Panama.”

Xi’s designs on Panama are clear. In the nearly two years since the establishment of relations, China and Panama have signed over 30 bilateral agreements. In December 2018, Xi Jinping became the first Chinese premier to visit Panama, accompanied by an entourage of executives from dozens of companies in the country’s construction, telecommunications, and financial sectors. At the accompanying trade show in Panama City’s Atlapa Convention Center, outgoing president Varela was shown around stands representing firms including Huawei and China Railway Design Corporation—hawking a new $4 billion high-speed railway project for the country. At the event, copies of the Diario Chino Latinoamericano, a local paper serving the Chinese community, were handed out. On the cover, a giant photo of Xi was superimposed on an aerial shot of the Panama Canal.

Outgoing Panamanian President Juan Carlos Varela visits an exhibition for Chinese companies at Panama City’s Atlapa Convention Center following Chinese President Xi Jinping’s visit in December 2018.Mat Youkee

A century ago, U.S. President Theodore Roosevelt had his own Panama Canal photo-op: He was snapped at the controls of one of the colossal 95-ton shovels used to dig the passage. His two-week trip in 1906 was the first time a sitting U.S. president made a diplomatic trip abroad, and, in the words of the historian David McCullough, it was “one of those small, luminous events that light up an era.” That era could be coming to a close.

From 1903 to 1979, the canal’s surrounding region was an unincorporated territory of the United States, home to thousands of U.S. residents and dozens of military installations. U.S. battleships were designed to fit the dimensions of the canal. But after World War II and the creation of the Atlantic and Pacific fleets, the canal’s military importance subsided. In 1977, the U.S. and Panamanian governments signed a treaty to hand full control of the waterway to Panama by 1999.

Many Panamanians benefited from their country’s new role as a center for low-regulation shipping, offshore company formation, and international banking—all of which was made possible by the country’s use of the U.S. dollar and its correspondent relationships with U.S. banks. Untraceable money flooded into the country. Then, the Panama Papers scandal broke.

The April 2016 publication of more than 10 million documents belonging to the Panamanian law firm Mossack Fonseca shed light on the shady practices of the world’s businesses, politicians, and celebrities, but thanks to the alliterative naming, it was Panama rather than the perpetrators that took the brunt of the reputational hit. Offshore company formation dwindled, and U.S. banks, faced with higher compliance costs, cut 70 correspondent bank relationships.

The country only narrowly avoided a full financial meltdown. The European Union, the OECD, and the Financial Action Task Force, an anti-money-laundering watchdog, consigned Panama to various blacklists. Those wary of being under the microscope shipped out. On Avenida Balboa, home to some of Latin America’s tallest buildings, many luxury flats are unoccupied. In the cavernous basement casinos, dealers man empty tables.

For a decade, China had eyed opportunities to develop its own interoceanic trade routes in Latin America. But after the Panama Papers were released, the time was right to strike.

In a 2017 telephone conversation with then-U.S. Ambassador John Feeley, Varela warned that he would be announcing the opening of relations with China in a matter of hours. Feeley was surprised, but Varela saw an unprecedented opportunity.

The Panama Canal had been expanded in 2016, but Panama still needed a new national logistics strategy aimed to capture greater value-added production. So Varela designed a plan that envisages vast assembly facilities in free trade zones, upgraded port facilities, and new road and rail links into Central America. The possibility of building a road to Colombia, connecting the only break on the Pan-American Highway from Alaska to Patagonia, was once again under discussion, having lain dormant as an issue for decades. But for all that, Panama needs Chinese investment.

That comes with significant risks, according to Rodrigo Noriega, a political analyst and editorial adviser to newspaper La Prensa. “In the long-term, Panama could become overdependent on China as a lender of last resort. In the immediate term, the country’s weak institutions make it vulnerable to bribes.”

So far, Cortizo appears to have stayed clear of any major scandal. He has promised to restructure the way public contracts are awarded to improve transparency. But the mismatch between China’s spending power and Panama’s weak institutions represents an “explosive and toxic combination,” according to Noriega.

“The new locks are too short that there’s a risk that a sudden movement could squash the tug,” a local tugboat captain told me in an earlier interview. “In addition, the tugboat captains are being asked to do twice the work with the same resources as before. This is the worst labor climate since the canal was built.”

When U.S. officials talk about their worst-case scenario for Panama, it revolves around the possible loss of commercial neutrality of the services and infrastructure that surround the canal. Since the handover of the canal to Panama in 1999, the Panama Canal Authority, the government agency tasked with the canal’s management, has largely remained above national politics and provided steady revenue for the nation. In 2018, the canal brought in nearly $1.7 billion for the treasury. “The Panama Canal Authority is one of the world’s great technocratic institutions,” Feeley told Global Americans. “To their enormous credit they have kept Panamanian politics out of the canal.”

The Panama Canal Authority’s image has suffered in recent years, however. In 2009, the contract for expanding the canal was awarded to a consortium that was headed by the Spanish firm Sacyr—which was 14.5 billion euros in debt at the time due to the Spanish construction crisis—and included a Panamanian firm owned by the family of Alberto Alemán Zubieta, then head of the authority. Sacyr bid just over $3 billion for the project, but overspending and delays meant the project ended up costing nearly $11 billion.

The neutrality and public ownership of the canal is enshrined in the Panamanian Constitution, but Koster said he fears the current conflict between the tugboat union and the Panama Canal Authority could result in the latter bringing in outside contractors, setting a precedent for further privatizations of other services. Noriega said that Chinese development of port, bridge, and energy infrastructure in the canal region would enhance Beijing’s influence over the workings of the canal.

So too would the construction of a further set of locks by Chinese firms. In early 2015, representatives of China Harbour Engineering Company met with Panama Canal Authority officials to discuss a potential feasibility study for new locks to permit the world’s very largest vessels to travel through the canal. However, given that there is insufficient water to operate the current canal optimally all year, such expansion seems to be some way off.

Feeley said his real concern, however, is not privatization but industrial espionage. A detailed schedule of future ship passages, confidential information stored in the canal authority’s offline infrastructure, would be particularly useful to Chinese shipping conglomerates. “What happens if the Chinese drop a million bucks on an IT administrator and say, ‘Just walk out a USB every six months’?” Feeley said in the interview with Global Americans. “That could easily be accomplished. … I don’t trust the Chinese in that regard.”

Following that visit, under U.S. pressure, a Chinese plan to build a new embassy close to the entrance of the canal was canceled. In February of this year, the United States flexed its muscles, demanding that Panama revoke the registrations of 59 Iranian vessels operating under Panamanian colors, which will hamper their efforts to use ports and terminals. It then denied a U.S. visa to Varela’s choice to head Senafront, the border patrol that is the closest thing Panama has to an army, effectively excluding him from the position.

In February, Varela’s vice president, Isabel de Saint Malo de Alvarado, made an unscheduled visit to the United States to meet with Pompeo to “strengthen ties” and “promote opportunities for trade,” according to an official communique. To others it looked more like a dressing down after Varela’s friendliness to Beijing. The rapid pace of free trade negotiations between Panama and China has since slowed. “The United States can deny visas, cut banking ties, and threaten to put firms and individuals on blacklists,” Noriega said. “Above all, they will be monitoring for any evidence of graft, and they’ll come down hard.”

In the short term, however, Chinese money will continue to roll in. Chinese firms are finalists to build major metro and power projects, and in the past, dubious changes to the contracting process have worked in their favor. Panama could soon become the Latin American nation with the highest levels of Chinese investment on a per capita basis. China Railways has already established their regional headquarters in Panama City, while the telecoms giant Huawei has made the Colón free trade zone, on the Caribbean coast, a distribution hub for its electronic systems. With access to two oceans and one of the continent’s best-connected airports, it’s easy to imagine Panama as the center of a wheel, with spokes reaching out around the region.

Despite radio silence on the topic during the campaign, the overriding theme of Cortizo’s presidential mandate, and those of future candidates, has already been decided. In the coming decades, the country’s politicians will have to balance its negotiations with the United States and China.

“There’s no doubt that, economically, establishing relations with China made perfect sense for the country, but there were obviously important factors in play,” an employee of the Ministry of Foreign Affairs told me. “Panama has always surfed the waves created by the world’s major powers, but from now on we’ll have to walk a tightrope between the U.S. and China. Until when? Forever?”