CHINA PERSPECTIVES
by Nicole Loewensohn
This is the first of two Insight articles specifically examining the economy of China. Whilst this week will provide a background to China’s current situation in a global context, next week’s article will focus on China’s future and the potential impacts on and opportunities for Australia.
At roughly 1.3 billion people China accounts for 19.5% of the world’s population. The one-party state is now the second largest economy in the world, behind the United States, with average GDP growth of 10% over the past three decades. These facts are nothing new; they merely serve to reinforce the immense power that China wields on a global stage. The rise of the East has been a well-documented phenomenon and whilst the flow-on benefits to developed economies have arguably sustained global growth, China is not without significant problems. Trade and geopolitical disputes, internal corruption, rising inequality and severe environmental damage are just some of the difficulties this emerging country must address, whilst being regarded as both enemy and saviour of the world’s ‘submerging’ economies.
The primary source of GDP growth in China is fixed asset investment (FAI), which reached $US2.1 trillion in the first eight months of this year. The September figure showed FAI growth of 24.5% year-on-year, with real estate development being the biggest contributor. It is thus surging property prices and the fear of a property market bubble that have led policymakers to raise interest rates and tighten controls on bank lending in an attempt to slow excessive appreciation in asset prices. However the fact that such a significant proportion of China’s GDP comes from FAI demonstrates that a slowdown in America, whilst slowing exports, will not significantly detract from Chinese growth.
Nevertheless current trade relations with the US are a concern for China. There is overwhelming support in the US House of Representatives for imposing levies on Chinese imports in reaction to the subsidy China is providing its exporters through currency manipulation. It is argued that China is undermining employment in developed countries and, as an example, 30% of Japanese firms’ manufacturing output is produced in China. In response to this, countries such as Brazil and Japan have also intervened in their currencies. The dispute has created public tension between US and Chinese officials when they recently met at the IMF in Washington, yet it is clear that America would be unable to win a trade war with China, and thus these disputes tend to highlight America’s economic woes rather than cause significant problems for China.
Trade barriers are not the only resistance emerging in the face of growing Chinese economic power. Some countries are hostile to direct investment from China and Chinese officials impose tough restrictions on outward FDI. It is illegal for an individual to invest more than 350,000 yuan (approximately $50,000) per year overseas and most of FDI coming out of China is from state-owned enterprises. In 2009 the Ministry of Commerce announced that outward FDI by Chinese enterprises grew 6.5% year-on-year to $US43.3 billion, highlighting the country’s economic magnitude, which has been key to sustaining global economic growth. Despite the jokes describing Greece as China’s first European colony, the role of China in helping to create some form of stability following the Greek crisis cannot be overlooked, demonstrating how through direct investment China is continuing to support growth in the developed world.
The trade relationships that China has developed across the globe reflect both confidence in China’s ever-growing economic power and a tendency towards bilateral negotiations. Amidst increasing tensions concerning the South China Sea, China has showed no desire to play the gentle giant, instead taking a hard line. Located north-east of Singapore the South China sea is a major trade route on which several countries are attempting to make territorial claim, especially given the large oil and natural gas reserves that lie beneath the water. Whilst ASEAN has sought to establish Joint Development Authorities to develop areas of the sea, China negotiates bilaterally and many smaller ASEAN nations feel significantly disadvantaged. When US Secretary of State Hilary Clinton called on China to resolve the disputes, China warned America not to interfere in a strictly Asian issue. These added tensions do not throw a positive light on Chinese-US relations; however for Australia the future remains bright.
With both the US and China engaging in naval exercises as a show of force, Australia was chosen by China as the sole Western nation to participate in the war games. Furthermore this is the only time Western media has been allowed onto a Chinese navy ship during live target practice. In contrast to many other countries, Australia has also been a willing participant in bilateral negotiations concerning trade agreements. So where to from now? Australia is clearly in a position to benefit from China’s current demand for resources; however with environmental degradation becoming a severe problem, we must be ready to assist China’s inevitable shift towards cleaner, more efficient energy sources. China will also release its latest 5-Year Plan in February 2011, which is expected to focus heavily on pro-domestic consumption policies.
Finally, over the past 30 years the focus has centred on China’s growth performance in relative and aggregate terms. One should always be aware that the relative population disparity and the post-war economic dominance of America mean that the per-capita distortion is large, but reducing significantly. The trends we are currently witnessing are long-cycle trends, though commentators tend to focus on next week, next month, next year. The challenge for the one-party Chinese government is to keep growth up and social tensions down.
The following excerpt comes from an interview by Barrons.com with Stephen Roach, Chairman of Morgan Stanley Asia and author of the book ‘The Next Asia’, 2/10/2010.
You met with Chinese Premier Wen Jiabao when he was in New York in late September to attend the U.N. How’s he tackling the challenge?
The Chinese premier has said before that the old structure is ‘unstable, unbalanced, uncoordinated and unsustainable.’ I think the Chinese recognize that they need to do three things to provide broad-based support for internal private consumption. They have to build a social safety net that will allow the Chinese to reduce the excesses of fear-driven—or what economists call precautionary—savings. And the safety net has to include far more aggressive funding and social security, private pensions, unemployment and medical insurance. They’ve taken very small steps, but they need to take big steps.
The second thing is to provide much more effective and aggressive support for lagging rural incomes. Some 750 million Chinese still live at impoverished levels in the countryside, and the income disparities have widened dramatically in the last dozen years between urban and rural China. They need to be more aggressive with tax policy, and in providing rebates to rural families. They need to re-think property-ownership rights of rural inhabitants and invest in information technology to boost agricultural activity.
The third thing is jobs. Ironically, while China leads Asia in GDP growth, it lags Asia in job growth. From 2000 to 2008, China’s GDP grew 10% a year, but its net employment growth was just 0.5% a year. That reflected a disproportionate emphasis on manufacturing as the growth engine. When you boost manufacturing productivity, you substitute machines for people—it’s a capital-intensive, labor-saving growth model. So what they need as an antidote is to broaden to labor-intensive services. The services’ share of the Chinese economy is minuscule at 42%, versus 58% for India and 75% in the U.S.
If China succeeds, the consumption share of GDP could go from the current rock-bottom 35% to between 42% and 45% over the next five years. That’s still low by global standards, but a huge improvement and a big shift in the momentum of China’s structural re-balancing.