Historic EU-Mercosur agreement to have large impact on both trading blocs…if ratified

Event

On 28 June, the EU and Mercosur (an economic trade bloc comprising Argentina, Brazil, Paraguay and Uruguay) announced that they reached a huge trade deal. The agreement aims at cutting or removing trade tariffs as well as giving EU companies access to public tenders in the South American trade bloc. The deal even fully liberalises over 90% of trade between the two trade blocs over a 10-year transition period. Hence, duties on European goods exported to the Mercosur bloc should be cut by EUR 4 billion each year. Indeed, in terms of tariff reduction, it is the largest deal the EU ever struck. Moreover, it is the first trade deal outside the region for Mercosur since its launch in 1991. That being said, the agreement still needs to be ratified by both parties, requiring approval by national legislatures in the EU and South America.

Impact

The trade agreement is expected to have a significant impact. For Mercosur, the deal will help diversify its export markets away from China. Approval of the deal will likely boost real GDP growth in both blocs over the long term. However, the impact is likely to vary between sectors. Some sectors will benefit from the agreement through higher exports, while other sectors are likely to face stronger competition as the removed imports duties will no longer protect them.

The biggest winner of the agreement is expected to be the South American agribusiness sector (notably beef, poultry and sugar). Regarding beef, the agreement is not expected to lead to a significant increase in South American production. Indeed, Mercosur will only be allowed to export an extra 99,000 tons of beef to Europe at a reduced tariff of 7.5%. In comparison, the current regime allows 200,000 tons to be exported to the EU (of which 45,000 at a tariff of 40-45%), while Mercosur produced around 14,100,000 tons in 2018¹ and exported about 3,400,000 tons. The duty-free quota increase under the Mercosur-EU agreement therefore represents an increase of approximately 3% in overall Mercosur bloc exports. However, the impact will be felt by European producers. The increase in imports is equivalent to 27% of the 2018 EU beef imports and 1.2% of the European consumption. Regarding poultry exports to the EU, the additional 180,000 tons of duty-free exports are small when compared to Mercosur's domestic production, but they account for 5% of Mercosur’s exports worldwide. Moreover, from a European point of view, this is equivalent to 25% of imports and 1.5% of domestic poultry consumption. Finally, regarding sugar, the agreement distinguished between countries. Brazil – the biggest sugar producer in the world – will not be given a more generous quota. Paraguay – the 57th largest sugar producer – will be allowed to export 10,000 tonnes of duty-free sugar to Europe (which is 7% of their domestic production and 12% of their exports). In general, the quota on sugar is insignificant for the European market (0.1% of the production and 0.7% of imports).

There are winners but also losers. The Brazilian steel industry is very sceptical with respect to the new agreement due to fears that EU steel products, made with cheap components from outside Europe, flow into the market. Moreover, Brazilian production costs are about 10% higher than foreign-steel production costs, the Brazilian market is almost oversupplied and has a low capacity utilisation. Hence, we can expect the sector to face serious difficulties and to possibly consolidate. The other sector that could be hit hard is the Mercosur's long-protected automotive sector. In the case of the withdrawal of the tariffs on imports of cars (35%) and spare parts (14-18%), cars made in Europe would be much more competitive than locally produced cars. Argentina will be hit the most as its car industry’s lack of productivity is generally known.

The negotiations for the Mercosur-EU deal were one of the world’s longest-running trade negotiations as it took 20 years to conclude them. Nevertheless, the end is not in sight yet. The ratification of the agreement is likely to be a lengthy process, which might take years. Within Mercosur, the biggest potential challenge to the deal's approval is Argentina. President Mauricio Macri will stand for re-election in October. He is facing a competitive challenge from the protectionist party headed by Alberto Fernández and former President Cristina Fernández de Kirchner. If they win the elections it is unlikely that the agreement will be ratified in Argentina. Within Europe, the new EU Parliament as well as opposition from farmers (mainly in France, Poland and Ireland) and environment concerns are also a source of uncertainty.

To conclude, if the free trade agreement gets signed, it will expand the importance of the agribusiness sector in South America through more diversified and stable export markets. The other side of the coin for the Mercosur bloc is the impending confrontation between European and the less competitive South American industrial goods (automotive, machinery and equipment). The key to the survival of these sectors will be improved competitiveness. If not, the sector is likely to gradually consolidate by the end of the 10-year transition period.

Analysts: Jolyn Debuysscher – J.Debuysscher@credendo.com
                Matthieu Depreter – M.Depreter@credendo.com

¹ of which 70% is issuing from Brazil alone