Could Mexico Hold the Key to Hedging the Global Economy’s Dependence on the Panama Canal?

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At the time of its construction, the Panama Canal was (and to a great extent still is) a marvel of modern engineering. But it is also a single point of failure in a global mesh of tightly coupled supply chains.

In a normal year, Panama is one of the wettest countries on the planet. But this is no normal year; it is an El Niño year. As a result, Panama has experienced a longer than usual dry season and a dryer than usual wet season, making this the driest year for the country in five or six decades, according to Ángel Muñoz, the head of the climate services team at the Barcelona Supercomputing Centre.

The drought is already having a major impact on the Panama Canal, one of the world’s most important waterways and a huge source of revenues for both the local economy and the government. The 109-year old canal draws on millions of gallons of fresh water from nearby reservoirs to move ships up and and down as they pass between the Pacific Ocean and the Caribbean sea. A slowdown in this process could have significant knock-on effects for global supply chains, adding yet more inflationary pressures into the mix.

Roughly six percent of the world’s maritime commerce passes through the 50-mile (82-km) long canal, according to the Organisation for Economic Cooperation and Development (OECD). Annually, around 14,000 ships make the journey across the Isthmus of Panama. But the figure is down by close to 20% in recent weeks after the Panamanian government reduced the daily limit of the number of vessels from 38 to 32, in response to near-record low levels of water in the two reservoits that feed the canal.

The result has been a long logjam of container ships. On September 2, there were 125 ships waiting in line. That’s down from just over 200 a couple of weeks ago, an unusually high level, but it’s still well above the long-term average of around 90. According to an article on Bloomberg, some ships are paying as much as $2.4 million to skip the queue. Last week, the government extended the restrictions, which began at the beginning of this year, for at least another 10 months.

Plan B Options?

The idea of ​​building a mega infrastructure project somewhere in the Americas to connect the Atlantic and Pacific oceans, and thereby avoid having to circumnavigate the entire American continent to transport merchandise from Europe to the Far East or vice versa, has been around for centuries. But it wasn’t until the end of the 19th century, following the successful construction of the Suez Canal in Egypt, that work began on the Panama Canal, which was finally inaugurated in 1914.

At the time, it was (and to a great extent, still is) considered a marvel of modern engineering. But like the Suez Canal, it is also a single point of failure in a global mesh of tightly coupled supply chains. It lets ships move from one side of the Americas to another in a matter of hours, reducing the sailing distance from the Atlantic to the Pacific and vice versa by a whopping 8,000 nautical miles.

Trade between the West and the East would not be the same without it. But if the problems with water scarcity continue and the queues keep building, what alternatives are there, aside from rounding the southern tip of Chile, with all the risks, added time and costs that entails?

The answer, for the moment, is not many, but that could be set to change. The US does, of course, have a land bridge, where freight trains ferry containers between the Atlantic Coast and the Pacific Coast. But it is costly and time-consuming. Meanwhile, at least three governments in Latin America are dusting off old infrastructure projects that may, one day, yield cheaper and quicker transit options.

They include Colombia, whose President Gustavo Petro this week called for a thorough reexamination of the feasibility of constructing a rail link between Santa Marta, on Colombia’s Caribbean coast, and Buenaventura, Colombia’s biggest Pacific port.

The project has been gathering dust for over a decade. In 2011, the FT reported on China’s growing interest in creating alternative routes to the Panama Canal. The goal was to build a 220-kilometre railway line linking up Colombia’s Caribbean and Pacific coastlines capable of transporting more than 40 million tons of cargo annually. However, the mega-project, which would have involved significant destruction of fauna and flora, never got off the ground. But now Petro wants to get it on back on track (apologies).

Nicaragua’s government is also talking about reactivating a stalled rival project to the Panama Canal. In 2012, Nicaragua’s long-standing President Daniel Ortega signed an agreement with Chinese company HKND to build a canal linking the Caribbean coast with the Pacific Ocean. However, shortly after the announcement, the project was halted due to non-compliance with environmental requirements, the bankruptcy of the project’s main Chinese backer, Wang Jing, and the Panama Canal Authority’s announcement in 2014 that it was expanding the canal. Construction on the Nicaraguan canal remains stalled to this day and is likely to stay that way unless Ortega is able to rekindle Chinese interest.

There is one other alternative: Mexico’s Interoceanic Corridor of the Isthmus of Tehuantepec (CIIT). And the good news is that it is already half-complete, since much of it was built over a century ago. In fact, before the inauguration of the Panama Canal, in 1914, the “Tehuantepec Route” already existed and was a major overland transport route stretching 200 kilometres across the narrowest part of Mexico. The route hooked up the port of Salina Cruz, on Oaxaca’s Pacific coast, with Coatzacoalcos, on the Gulf of Mexico, with railway lines that plied as many as 60 trains a day.

But it gradually fell into decline and disrepair following the inauguration of the Panama Canal and the bloody decade of the Mexico Revolution (1910-20). Between 1924 and 1938 the port of Salina Cruz was completely closed. It wasn’t until the 1990’s that talk of resurrecting the route began doing the rounds. But as in Colombia and Nicaragua, that talk came to nothing — until 2020, when Mexico’s President Andrés Manuel Lopéz Obrador (aka AMLO) took up the baton.

Perfect Timing

AMLO’s timing could not have been better, coming as doubts grow about the wisdom of having just one express trade route connecting the Atlantic and Pacific oceans, especially one so vulnerable to water scarcity. AMLO envisions the project as a catalyst for international trade, delivering increased efficiency, shorter shipping times and reduced dependence on a single transit point.

The current Panama Canal crisis has been a long time coming — five years ago, Johnny Cuevas, then-manager of the Canal’s Watershed Management Section, warned about a 20% fall in the flow levels of the Rio Chagres, which provides 40% of the water for the canal’s operations and 80% of the water used domestically by the country’s 4.3 million inhabitants. The crisis is also part of a broader trend of vital waterways for trade becoming harder, and in some cases temporarily impossible, to navigate due to falling water levels. Other recent examples include the Rhine, Mississippi and Yangtze rivers.

Mexico’s $12.9 billion CIIT project could be an ideal hedge for this apparently growing risk, and it could be more or less operational by next year. The project will link up Mexico’s two coasts with both freight and passenger rail travel as well as modernise the two maritime ports’ facilities and expand their capacity. It is meant to help boost economic opportunities in Mexico’s poorer, long-neglected southern states through the construction of ten industrial parks, or so-called “free zones”, along the route, and will also include four new highways, three airports, a gas pipeline and a fibre-optic network.

It is a huge undertaking. If completed, it will probably represent the most important infrastructure project of Lopéz Obrador’s presidency. And that is saying quite a lot, given the number and scale of infrastructure projects undertaken under his tenure. In fact, the US government has even complained (behind closed doors) about the AMLO government’s proclivity for spending money on social programs and signature infrastructure projects, according to a leaked document from the US Office of the Director of National Intelligence

If completed and done well, the CIIT could transform Mexico into a global logistics powerhouse. Investment is already pouring in from global companies, including Chinese ones, seeking to take advantage of the US nearshoring trend.

With the current infrastructure, it can take up to around 72 hours to move a container from Coatzacoalcos to Salina Cruz, compared to 8 to 10 hours using the Panama Canal (in normal times). The advantage is that you do not have to go all the way down to Panama, navigate the canal and then go all the way back up again. Another possible advantage is that the CIIT, once all of its multimodal transportation infrastructure is fully complete, will probably be able to handle a larger volume of containers than the canal.

The long-term goal, of course, is to bring the journey time down to low double or even single-digit figures. But as Mexican journalist Agustín García Villa notes, the success of a project of this scale and grandeur will require many things, including a trained workforce, technology, super-rapid processing of containers at the ports (which is good for all businesses, including, of course, drug trafficking ones), and the development of properly urbanised mid-sized cities that guarantee an adequate supply of housing, schools, hospitals, health centres and markets.

All of that, in turn, will require a steady flow of significant investment as well as long-term political commitment. The former is, for the moment, amply covered, with money coming in from all sides, including up to $2.8 billion from the Inter-American Investment Bank. Put simply, big business, not just from the US, wants this project to happen. The latter will largely depend on the outcome of next year’s presidential election, when AMLO will have to, at least to some extent, hand over the keys to power, almost certainly to someone from his MORENA party.