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LinkedInAlmost all countries that relied heavily on exports for growth have experienced large downturns. And there economies are still in the doldrums. Except one. China.
Why?
Few questions matter more. Right now, the markets believe that the expansion of Chinese demand will drive the global recovery. Or so it seems.
On the other hand, other countries that relied heavily on exports to drive their growth saw very sharp falls in output. Germany. Japan. A host of smaller economies. Few expect these economies to lead the global recovery.
In general, the crisis has led to large falls in output in countries that relied heavily on capital inflows to finance large currency account deficits (Latvia is the leading example) and in countries that relied heavily on external demand. That stands to reason. The crisis produced a very sharp fall in capital flows, which hurts all those who needed ongoing capital flows (The US is an exception, as US demand for foreign assets fell faster than foreign demand for US assets, so net private flows to the US actually rose during the crisis) And the contraction in trade has been sharper than the contraction in output. That has hurt those who relied more on trade. The fall in Japanese industrial production – -and output – has been incredible steep. And German output has shrunk by more than say French output.
See Wolfgang Munchau.
China doesn’t fit. It is a big exporter. But it hasn’t seen the kind of contraction that other big exporters have experienced.
One possible answer is that demand for Chinese exports has fallen by less than demand for other exports. That clearly is part of the story. US imports from Japan (through March) are down over 40% y/y. US imports from China are only down 11%. But China’s exports still have fallen sharply. They were down 20% y/y in q1 2009 after being up around 20% in q3 2008. So that isn’t the whole story.
Another potential answer is that China never relied all that much on exports for its growth. That is the preferred answer of the Economist. But it doesn’t really stand up to scrutiny. Chinese exports rose from under $300 billion in 2000 (and 2001) to over $1400 billion in 2008. That is a huge increase, one that was only possible with a huge amount of investment in the export sector.
While import growth matched export growth in the early stages of China’s expansion, back in 2004 China got worried that its economy was overheating and slapped on a host of limits on domestic demand growth. From 2005 to 2008, net exports contributed over 2% a year to China’s growth.
To put it a bit differently, the contribution of net exports to China’s growth over the past four years topped the overall growth in Japan’s GDP. That isn’t a small contribution in my book.
So why isn’t China doing worse now?
The answer, I suspect, is that China – unlike many other countries that relied heavily on exports for growth – actually did have an underlying dynamic of domestic demand growth. From 2004 on, Chinese policy sought to limit domestic demand growth by limiting bank lending and running a tight fiscal policy. The loan to deposit ratio in China’s banks was quite low going into 2009, thanks to high reserve requirements and tight lending curbs. That was necessary to keep China’s economy from avoid overheating – and to keep China from experiencing a real appreciation driven by rising inflation — even as exports contributed heavily to growth.
It also gave China an option other export-based economies didn’t have when the global economy turned down – namely to lift existing restrictions on domestic demand growth and see what happened. And that’s what China did.
Banks who previously had been kept from lending as much as they wanted were free to lend. Local governments that had been forced to scale back their investment plans were free to go ahead. State enterprises that hadn’t been able to borrow quite as much as they wanted were able to borrow on a large scale.
I initially underestimated the magnitude of China’s stimulus by focusing on the (fairly modest) change in the government’s fiscal balance. It is now clear that the majority of China’s stimulus has been off-budget: the huge increase in lending by state owned banks mattered far more than the change in the budget of the central government. The expected loss on these loans can be considered a form of fiscal stimulus.
China then was every bit as exposed to the global slump as the other export powerhouses – but it also had more capacity than most other large exporters to stimulate domestic demand.
Did the policy work? Did growth fueled by the rapid rise in domestic lending – and associated rise in investment — offset the export downturn, allowing China to hit its growth targets?
My best guess is that the transition wasn’t quite as smooth as the official data suggests.
That is where the debate over China’s electricity power generation data comes in. Electricity generation is down y/y, even though industrial value added it up
Manufacturing accounts for a large share of China’s economy; so if the manufacturing sector is contracting, it is hard to see how China can achieve its stated growth target.
Stephen Green of Standard Chartered (in his May 25 note) argues that there is no evidence that energy-intensive sectors of the economy have contracted (or grown) more than other sectors, undercutting one explanation for the disconnect between the power generation numbers and China’s growth numbers. He also notes that the data on industrial value-added hasn’t tracked the data on industrial production that well. The industrial production data suggested a sharper fall in activity – and a more choppy recovery than the GDP data.
That seems right to me. China’s trade data (through April) suggests that the stimulus did spur a pickup in imports (and it clearly spurred auto sales). But China’s import data also suggest a quite sharp slowdown last fall, far larger than the slump in the official data.
In other words, China didn’t spur domestic lending quickly enough to avoid the global downturn, especially as China’s real estate sector was clearly slowing even before the Lehman crisis.
Quote Brad: “But China’s exports still have fallen sharply. They were down 20% y/y in q1 2009 after being up around 20% in q3 2008. So that isn’t the whole story.”
Actually, China’s exports have fallen at more or less the same rate as Germany’s exports (both are down roughly 20 % yoy during the first four months of 2009). As they used to grow much faster than Germany’s in the past, the slowdown was even sharper than in Germany’s case.
Germany’s “trend growth” is 1 – 2%. For 2009, current expectation is -5% to -6%. That’s a slowdown of 7 percentage points.
If we assume China’s “trend growth” to be 10-11 % (based on recent years), then a slowdown of 7 percentage points would take it to 3 – 4 % 2009 growth.
As China is probably doing more to stimulate the economy than Germany, it would seem plausible to assume a bit more growth than 3-4 %. Say 5 %.
If we then admit the possibility that China’s GDP statistics may be erring a bit on the optimistic side (considering the various data points that don’t seem to much), we’ve pretty much reconciled German and Chinese growth rates, haven’t we?
Thomas,
Chinese government is very comfortable with 9-10% GDP growth. It is OK with 8% or 11%. From 2004 to 2008, it tried to push down the growth rate as Bred said.
It seems that, the central government has the capacity to push down or push up the GDP by 1-2% on either side of the cycle.
Prior to 2008, without those counter-cycle polices, the GDP would have been top 12%. At that time, people had trouble to reconcile the 11% GDP growth with other statistics (export, investment, consumer spending, etc).
If we assume 2005-2007 actually had 13% growth, with a 7 percentage point slow down, it will be 6% for 2009. Then adding the 1-2% stimulus, you get the government target.
test
I largely agree. Paradoxically the depth of the world recession can be attributed to a coincidence or chance if you like.
China until the summer of 2008 worried about the threat of inflation in large part caused by raw materials price hikes on the back of its fixed asset investment, slowed its domestic economy while the world was growing and exports increasing.
The failure of Lehmans and resulting overnight freeze on credit, trade, output and orders meant it could not adjust its domestic economy fast enough, fast as it was, hence the world recession last autumn/winter.
Without the collapse of Lehmans there would have been a more measured transition as China would reflated its domestic economy as world demand slowed.
What does that mean for future prospects?
China can now undertake for a short period virtually unlimited fixed asset investments, dramatically accelerating the rate of the development of its domestic market, until the rate of that development outstrips the limits of raw material production and prices begin to rise.
And so round we go again.
“China is now the largest of the U.S. creditors and its willingness to absorb U.S. Treasurys could be key to the success of the U.S. fiscal stimulus and banking sector rescues,” wrote analysts for RGE Monitor, the economic research firm run by NYU Stern economics professor Nouriel Roubini, this week. “No wonder Treasury Secretary Geithner faced questions about the U.S. fiscal deficit reduction plan in Beijing.”
http://money.cnn.com/2009/06/03/markets/thebuzz/index.htm?postversion=2009060313
Makes sense from a macro standpoint that growth could be larger than the fiscal stimulus would suggest.
If we assume that China didn’t create a credit bubble, and have the related liquidity trap problems the ROW seems to have, then doing monetary easing(and/or regulatory easing) may actually sort of work.
But then for confirmation we need to grope the elephant to determine which elephant parts are growing.
Would it be consumer spending, state spending, or business investment?
The reasons China slapped on regulatory controls and high bank reserve requirements was because a real estate bubble was forming, at least in the more upscale regions. There was also massive overinvestment by business…it was done without any regard to whether the market would be there, or if the market was saturated with competition already.
So if state banks are making loans to a ball bearing manufacturer to build China’s 301st ball bearing plant next door to three ball bearing plants that just closed, then this is not really a good thing.
Or if Beijing real estate booms and realtor and loan officer income becomes a significant component of GDP growth, then this is not really a good thing.
But there are plenty of worthwhile things to do in China, so maybe they will do it the right way.
Quote Cedric Regula: “So if state banks are making loans to a ball bearing manufacturer to build China’s 301st ball bearing plant next door to three ball bearing plants that just closed, then this is not really a good thing.”
This article sounds like they will pursue exactly this strategy:
http://en.ce.cn/Industries/Basic-industries/200906/05/t20090605_19250481.shtml
(Apparently, the government has just decided to provide financial help to expand China’s total shipbuilding capacity by nearly 80 % over the next 2 years. On the list of things the world doesn’t need, new shipyards are probably quite close to the top…)
Nice article from Brad.
I doubt that China’s growth magic story will go on forever.It’s also misleading to use one single number such as GDP growth rate to evaluate the health of the whole economy. The main bottleneck is the agriculture sector. It’s not sustainable and any natural disaster will have a big impact on its economy. Rapid urbanization and consumption model is suicidal model in the long term. The future is hard to predict.
Regarding the Münchau article quoted in the post above:
I fail to understand the logic of this bit:
“Through what mechanism will this export-sector meltdown come about? My guess is that in Europe it will happen through a violent increase in the euro’s exchange rate against the US dollar, and possibly the pound and other free-floating currencies”
Münchau argues that things will go further downhill for the Eurozone, because the Euro will go through the roof against the dollar and the pound. But why? The Eurozone doesn’t even have a current account surplus right now, and the dollar and the pound are trading way below PPP.
Thomas:
Yes, more ship building does sound like a boo-boo.
I was hoping for a more FDR reminiscent and Al Gore friendly plan like ” A toaster oven in every rural Chinese kitchen.”
I’ve read many rural Chinese still cook and heat their homes with coal burning stoves. This results in a huge amount of particulate pollution. I’ve read pollution studies that mention particulates actually have 300X the global warming effect of CO2. But they are not included as a global warming gas. (It’s not a gas , stupid). Then there is the health impact.
Now that China has licensed Westinghouse nuclear reactor technology, they could have a Tennessee Vally Authority style rural electrification program and build the reactors, power plants, grid, and toaster ovens, thereby creating useful jobs and saving the planet all at the same time. Not to mention the oil they save by not shipping all the toaster ovens to Wal-Mart.
So there is always room for Democratic ideas if you look hard enough around the world.
Sorry my comment was erased, once more, and I can not stand it.
My bet is there s still a long way to go for China and Debt expansion is never the solution, especially in this deflationist era.
I m still expecting close to civil war in China.
Why the Export Slump Won’t Doom China’s Economy
China’s exports contribute far less to GDP growth than many assume, with domestic spending and investment and knowledge gained from exports driving growth
http://www.businessweek.com/globalbiz/content/apr2009/gb20090420_581968.htm?chan=globalbiz_asia+index+page_asia+investing
The role of exports as the driver of China’s economic growth is exaggerated. So is the fear that, as export growth slows, the country’s economy will come to a grinding halt.
China’s exports have indeed grown at a 25% annual rate, over twice the rate of growth in GDP. Since the value added by exports presently contributes about 12% to China’s GDP, this means that, in recent years, export growth has contributed about 3% of the 11%-13% growth rate in GDP. This is an important component. However, these numbers also show that about three-quarters of the growth rate in China’s GDP has come from domestic spending and domestic investment.
I’m still confused; this doesn’t quite add up. For example, I don’t have more than a very fuzzy picture of China’s internal demand and how that relates to the massive layoffs and slowdowns in the export economy. There are too many possibilities:
- if they’re shifting investment over to internal demand, how stable is that demand? Hasn’t real estate already created a bubble, both commercially and residentially?
- which socio-economic classes are now increasing or maintaining their demand currently?
- how much of this is investment in future demand?
I could go on but so many things bother me. We just saw the end of a truly gargantuan stimulus project – the Olympics – and yet there was no obvious displacement in the economy afterward. Now we’re on the verge of another gargantuan stimulus project for Shanghai. Financing aside, how are those resources marshaled and then dispersed without obvious disruption?
It’s one thing to think of a Western country – or even many Asian countries – and imagine how the pieces fit together. China is still the other thing.
DJC —
the world bank/ imf report that exports have contributed between 2-3 percentage points to china’s growth (roughly 1/4 of the total, but also a bigger contribution than net exports have made to other economies). I’ll take their analysis of the analysis in the article you linked to.
Moreover, i have yet to hear a coherent explanation for how china can run a 8-9% of GDP trade surplus if value added in the export sector is only 12% of china’s GDP given the scale of China’s commodity imports for domestic use. it doesn’t add up. a set of credible estimates put value added in the export sector at around 50% of total exports, or 15-20% of China’s GDP. that seems right. remmber electronic component production has shifted to china and china now exports things like auto parts, so the old processing story is a bit out of data.
I have dealth with the made in china (by a taiwanese owned firm), designed in Cali Ipod story in the past. the calculations for value added their are relative to retail prices in the us, and thus includes a lot of design, marketing, etc. the relevant number for value added in china is how much does china pay for the imports that go into an ipod and how much does it get for the export of the completed good — not the chinese share of the total retail price. and while i don’t know the details of the production of ipod components, the Li Cui papers from the IMF make it clear that in aggregate, the more and more components are made in china. that is why chinese imports of electronic parts from the rest of asia lagged china’s total electronics exports from 04 to 08, and why china’s trade deficit with the rest of asia didn’t get bigger when its surplus with europe and the US rose.
I’ll take the careful work the imf and world bank have done on this over anecdotes from the ministry of commerce.
what is true is that even at the peak of china’s export boom, domestic sources of demand (mostly investment, including investment in the export sector) accounted for 8-9 percentage points of growth, while net exports were only 2-3%. that fact can (and has) been spun many many ways.
Brad:”what is true is that even at the peak of china’s export boom, domestic sources of demand (mostly investment, including investment in the export sector) accounted for 8-9 percentage points of growth, while net exports were only 2-3%. that fact can (and has) been spun many many ways.”
That’s what I think happened. They had GDP growth because lots of Chinese were building factories.
That’s sort of the industrial equivalent of our real estate boom. It creates GDP growth for a few years, then we are done. Except we need to work another 10, 20 or 30 years paying for it.
This is also why I haven’t run out and bought a China ETF, tho it would have been a good trade these past months, in retrospect.
My assessment from afar is that China is throwing the kitchen sink–both stimulus of various sorts & fudging reports–into the effort to avoid recession.
This does not change the fact that China has massively misallocated capital to unsustainable export industries. It is hard to imagine them not paying a steep price. My bet is that, like the US, China is benefitting short-term from huge de facto stimulus that will have to be paid for later.
The Economist’s reporting on China is pretty sad. That’s one of the mantras they have kept repeating: sure, exports are 40% of GDP, but NET exports are just 10%! Well, in 1929, when the U.S. was the “big” exporter, exports were 5% of GDP and net exports just 1%. What makes China’s surplus seem reasonable is that other Asian countries have had surpluses just as large. What if the whole system was unsustainable?
Brad,
The bottom line at China’s stage of economic development is an enormous increase in productivity that has driven the Chinese economy forward. By the hundreds of millions, the rural workers migrating to the cities that were once employed in low productivity agriculture are now working in export processing or the services trade. Almost any urban occupation is at a higher productivity level than subsistence farming.
The Chinese government provides educational opportunities for advancement to the entire population. Chinese CCTV offers almost free college courses on television. The Chinese government is rarely given credit by the Western Neo-liberal media for providing economic opportunity for people willing to improve themselves.
Also writes Businessweek, “The large volume of processing trade has taught vast numbers of Chinese managers how to produce high-quality products for the world’s most demanding markets, how to build a responsive supply chain for customers located thousands of miles away, and how to efficiently manage production operations employing tens of thousands of workers at a single location. The spillover of this know-how into the rest of the economy has been one of the major factors in helping boost domestic productivity, the single biggest driver of China’s economic growth. “
There’s an excellent, although long-winded, post on Willem Buiter’s blog from a Brazillian economist discussing global imbalances from a Brazillian and also BRIC/emerging economy perspective:
http://blogs.ft.com/maverecon/2009/06/after-the-crisis-macro-imbalance-credibility-and-reserve-currency/
Some interesting excerpts:
“[emerging markets] understood that in order to benefit from the world’s financial and commercial expansion, it was necessary to adopt a supportive role and to be towed by the dynamism of the first-world economies… The export sector should lead economic growth, even though – as is the case for emerging economies – given all sorts unsatisfied needs, domestic demand had a great potential for dynamism… This explains why Brazil, faced once again with a balance of payments crisis in 1999, when its chronic inflation had already been controlled, has favoured since then a monetary policy that, at first sight, seems excessively conservative. High interest rates in Brazil are an insurance against the stubborn insecurity of investors. ”
China and the BRIC countries have pent-up demand as a result of the need to accumulate excessive USD reserves to protect its economy from first-world originated speculative attacks. The US has excessive demand due to a hyperactive financial and media/advertising sector.
This core imbalance cannot be rectified as long as American vested interests attempt to sustain this system that has enriched them so greatly, and BRIC countries feel that the economic rug can be pulled from them at the push of a button on wall st.
Sorry, I strayed off-topic above. What I was leading to is that China and other EMs can essentially turn on domestic demand at will, provided that they feel secure enough. With the west preoccupied with internal crises, now is as good a time as any.
I think that the influence of China’s domestic GDP growth also needs careful consideration. Recall at the peak of commodity prices China was buying a number of them to be sold below cost.
Economics is like neurology. Yes you can mess around with homeostasis. Do it long enough and you get seizures though.
Quote Jonathan: “We just saw the end of a truly gargantuan stimulus project – the Olympics – and yet there was no obvious displacement in the economy afterward. Now we’re on the verge of another gargantuan stimulus project for Shanghai. Financing aside, how are those resources marshaled and then dispersed without obvious disruption?”
Well, the construction bit is handled by migrant workers. Once construction is over, they either go somewhere else, or head home. So presumably, the same workers that toiled in Beijing last year are now doing some Western China infrastructure projects, and will possibly be dealing with the Shanghai Expo half a year from now.
By the way, China does report regional breakdowns for GDP growth. Beijing was a bit below the nationwide average in Q1 (which is strange – I would have expected it to fare far worse, what with Q1 2008 being boosted by the preparation for the Olympics). The worst performer by far was Shanghai, which reported just 3 % yoy growth.
@ DJC
if China truly has such a strong internal demand then why dont they let there currency appreciate a bit?
Fact is China is and has been manipulating it’s currency for far too long, and the longer China continues to manipulate the currency the more difficult a U.S. recovery will be.
I realize Geithner has been busy with overhaul of the financial system (rules and regulations for Wall Street) however he needs to get into deeper talks about China continuing to manipulate the currency.
Speaking of Geithner, one suggestion is analysts and associates at the i-banks need to be more ‘mum’ about bonuses and earnings. We all live here in Manhattan, great city, and somewhat of a disneyland for anyone in his/her 20′s or 30′s but when i take friends out to the Catskills and we stop at a low key diner it’s embarrassing for the locals to turn around and hear some 25 year old say “well last year my bonus was only 120K”.
In my family, i was always raised with money is something that some people have, not something people talk about it.
If it weren’t for average joe and average mary helping out the financial sector with taxpayer aid, then 2009 this sort of talk would not be going on. I mean, the ways an unskilled worker look at a guy in a PINK shirt and tie, half his age talking about 120K a year bonus is embarrassing to me, especially in times like these…
Even in 2010, China will still rely more on Exports than internal drivers. If we were talking 2020, then maybe it would be a different story.
BTW, in my view it looks like China’s Central Bank has been buying equities again. At least Chinese ADR’s. Perhaps China is diversifying, into equities? Just a note.
FollowTheMoney:”I mean, the ways an unskilled worker look at a guy in a PINK shirt and tie, half his age talking about 120K a year bonus is embarrassing to me, especially in times like these…”
Yeah, and if he mentioned he paid $4000 for his purse, all hell would break out…
Treasury update:
From the Across the Curve blog…
“The Treasury sold $ 35 billion 3 year notes and the auction yield was 2 basis points through where the issue was changing hands in the secondary market prior to the auction.
The foreign central banks bought about 42 percent of the bonds.
”
Me:
So we still have CB buying. But rates at short end of the curve did jump big since last Friday, so this is getting less and less like free money.
Today the long end has been jumping up and down with no clear direction so far. 10s and 30s sales still coming later in the week.
The Dollar Index got clobbered today, giving back nearly 1.5% of the 2% it gained the last two days.
http://quotes.ino.com/chart/?s=NYBOT_DX
I’ve decided on a day to day basis that CB buying and the dollar Index don’t correlate in lockstep, because it doesn’t. A couple reasons could be:
1)The yuan is not in the Dollar index.
2)there is probably a trade settling delay of a couple days for actual funds to show up.
3)CBs are recycling dollars they hold already.
So that question is answered to my satisfaction, but if anyone knows what the real reason is, I’m happy to hear it.
@ cedric your comments not without humor, but here in manhattan Pink is a label, not only a color…
It’s standard for 25 year old Greenshoot Analysts to pop the PINK collar and pray the ladies smile…
we’ll see how long the Smile stays in line…I have feeling it could change in the FALL.
Imagine that a truly giant makeover of Paris were undertaken. Many of the workers would come from Poland and parts beyond. There would be a boom in ancillary construction, services, etc. – from restaurants to apartments, etc. – and the project winds down and all those people suddenly go back? And there is no effect locally? Or where they’re returning to? One of my points is that we measure that kind of thing in the rest of the world and pass off what seems to be massive displacement in China as just another thing that happens there. Yeah, they all moved away and the local economies didn’t notice because it’s China and stuff like that happens there.
I think the points Brad makes in the comments are spot on.
There is a big, big difference between China and the other major exporters and that is that China is still a relatively poor country, and so there are still a lot of places where you can have economic growth. China is still in the growth phase that most other exporters got out of a long time ago.
The other thing is that Chinese economic growth has contracted sharply. We were looking at 13% y/y GDP growth, and now we are looking at 6-7%.
Also, before the crisis, the Chinese economy was on the verge of overheating, and all of the efforts were devoted to cooling the economy down. Once exports collapsed, it was pretty easy to ramp up development, since a lot of the stimulus consisted of the government telling local officials that they could do what they had wanted to do earlier.
I said this years ago at RGE, they have a large customer base right at home. They used exports to build a middle class and now the are traveling and purchasing items for Apt/Homes. May be Jim Rogers is right. this might sound/is simple but it could be true. They will be on top once again in History since higher education is on the way down in the US and on the way up in China and the winner is? Sad but the ones running the show here don’t care.
jo6pac
jonathan: Financing aside, how are those resources marshaled and then dispersed without obvious disruption?
The market for Chinese construction workers is incredibly fluid. You have tens of millions of migrants show up where the money is, they work, they get paid a lump sum, and then they move to where ever the money is next. What happens is that person funding the building contracts to a labor recruiter, and the recruiter finds migrant workers to do the work.
The interesting thing about this is that the system is largely informal, and at the worker level, there are no formal contracts and the money is usually paid at the end of the work. There are a lot of informal constraints on the labor recruiter.
FollowTheMoney: if China truly has such a strong internal demand then why don’t they let there currency appreciate a bit?
Because the US dollar has been strengthening over the last year, and because the Chinese leadership don’t (and shouldn’t be expected to) really care how their policies impact the United States.
FollowTheMoney: It’s embarrassing for the locals to turn around and hear some 25 year old say “well last year my bonus was only 120K”. In my family, i was always raised with money is something that some people have, not something people talk about it.
Curiously, talking about salary is a *BIG* taboo on Wall Street. Also off premises people mention bonuses only to brag about them. If your friend didn’t make a bonus last year, they’d probably be too ashamed to mention it.
FollowTheMoney: I mean, the ways an unskilled worker look at a guy in a PINK shirt and tie, half his age talking about 120K a year bonus is embarrassing to me, especially in times like these…
When someone mentions a bonus like that, they are bragging. They *want* to make people kiss their feet. But it is rather atypical. Most people in investment banks don’t make that sort of money.
bsetser: Moreover, i have yet to hear a coherent explanation for how china can run a 8-9% of GDP trade surplus if value added in the export sector is only 12% of china’s GDP given the scale of China’s commodity imports for domestic use.
I think it’s pretty obvious. Much of the trade surplus is disguised foreign investment. If you assume a good chunk of the trade surplus has nothing to do with trade then lots of things start making sense.
bsetser: I’ll take the careful work the imf and world bank have done on this over anecdotes from the ministry of commerce.
I don’t. One of the problem with the IMF and World Bank is that they are often holed up in some office somewhere thousands of miles away from the action. They also put too much emphasis on statistics and not enough emphasis on stories that help you put the statistics in context.
Cedric: That’s what I think happened. They had GDP growth because lots of Chinese were building factories. That’s sort of the industrial equivalent of our real estate boom. It creates GDP growth for a few years, then we are done.
In China’s case you can to some rough figures for how long you can drive growth through investment. I come up with about 30-40 years. China is still about one-third urbanized, and if you assume 100 million people moving to the cities each decade, that gives you about 30-40 years of growth.
The big difference between building a factory and flipping real estate is that a factory presumably generates wealth. Even a badly run inefficient factory creates more wealth than there was in China’s current situation.
bsetser: Thus includes a lot of design, marketing, etc. the relevant number for value added in china is how much does china pay for the imports that go into an ipod and how much does it get for the export of the completed good — not the chinese share of the total retail price.
Which gives you lots of bogus numbers because it doesn’t take into account how the trade is structured. Typically you have an American company work through a Chinese subsidiary controlled by the parent company, which then subcontracts to local Chinese vendors.
The price that gets reported in the trade figures is the amount that the subsidiary charges the American company. However since these are basically two parts of the same company, that number is likely to be bogus, since if the subsidiary charges the American company a large amount, you then have an excuse to convert massive amounts of dollars to RMB. So when importing Jpods, Orange Computers can make up any number that it wants for import value, since what gets reported is Orange China selling to Orange.
Since the the American company owns the subsidiary, this gets added to the bottom line of the American company. The US company can also very easily convert the RMB back to dollars if it needs to pay American workers. Also, the US company can use the foreign exchange to do investment in China.
Now the actual number that you are interested in is how much the US controlled subsidiary pays its local subcontractors, and that number is much, much lower. If you look at value added numbers, then the profit that Orange China makes gets counted with the US. If you look at the trade numbers, then you are are looking at how much Orange China charges Orange, which is going to be a high number so that Orange can convert dollars to RMB.
This also explains why things blew up in October. The money that Orange is sending over is provided by investment banks and credit markets. When the credit market collapse, Orange Computers couldn’t pump money into China, and had to pull money out very, very quickly.
This is all speculation and guesswork, and it may be wrong, but all of this is looking at anecdotes and putting together the pieces, and even if it is wrong, it’s a lot further than the World Bank or IMF is able to get.
Twofish: I think it’s pretty obvious. Much of the trade surplus is disguised foreign investment. If you assume a good chunk of the trade surplus has nothing to do with trade then lots of things start making sense.
That’s an interesting observation. Any data to support this?
This system also nicely explains things like why Chinese seem to be more annoyed now than Americans about the trade surplus. Most of the value of the trade surplus ends up in American hands. The big winner from that system that I just mentioned is Orange China which will transfer most of its profits back to the Orange parent company.
observer says: That’s an interesting observation. Any data to support this?
Nothing statistical, and the non-statistical bits involve stories that I can’t publicly share. It’s mostly conjecture and guesswork.
I might be totally off base with this, but if anyone has a better explanation, I’d like to hear it. The reason that I think this is happening is to start with the question, how do you move US$10 billion into China? You aren’t going to do it by suitcases.
Also, if this is what is going on, it should be rather simple to figure it out by looking at statistical data, but I don’t have time to do that sort of digging, but if anyone does (or if they look at the data and figure out that I’m wrong), they can write a paper on it and get the glory.
Instead of looking at aggregate numbers the place to start would be the annual reports of the major companies that do business with China, and look at the transfers between the parent company and the subsidiaries. If you can get a hold of some invoices for China exported goods, then you can figure out pretty quickly if this is what is going on.
One final thing. The value added numbers comes from tax statistics, whereas trade numbers come from customs and foreign exchange. In our picture
contractor -> Orange China -> Orange computers
Orange China is for the most part exempt from value added taxes, which means that the marked up it makes, never shows up on the value added statistics.
2fish — if the surplus is disguised inward investment, why did it surge in q4, when no one globally was investing? i believe that western mncs were holding profits in china (an rmb appreciation game) and were forced to move them home in q4 (leading to capital outflows) as they were desperate for cash. but i am not convinced that the majority of china’s trade surplus is overinvoiced exports/ disguised capital inflows …
i certainly would like to hear your explanation for the q4 data.
My recollection of US contract circuit board stuffers is they work on a 70-75% Bill of Materials. Razor thin considering the remainder covers labor, finance cost, management, sales and profit.
Don’t know why it would be different in China, or why anyone would create a zombie subsidiary whose sole purpose is to sub contract out the company work to others, and increase the parent company costs. Maybe that’s how financial companies work, but in manufacturing we always thought that was a bad idea.
cedric — i hope to comment the auctions when i have the time. 3y auction was solid. strong CB demand isn’t a surprise. question is whether or not CBs buy the 10y at current yield (really whether safe and a few others buy the 10y, as many CBs stick to shorter duration notes/ cannot go out past the 5y mark)
You might be interesting in reading the article I wrote four months ago on how *****Hyperinflation will begin in China and destroy the dollar*****.
It seems to be coming true.
Brad:
Ya, I know. When the 7 year was auctioned two weeks ago, the “large institutional buyer” category only took 35% of the offering.
That’s why the market is very curious to see who steps up to the plate and takes the 10s and 30s the next two days. And at what price.
30yrs treasury still dripping blood, still not oversold, still room to drop, and blood letting event will put it below $100, yikes
@yoda-
each stage of the crisis fuels the next.
subprime crisis, credit crisis, financial market & consumer crisis, bond crisis, currency crisis and finally central bank crisis.
“tis crisis shall not be wasted” Wall Street will look very different in 2010.
next crisis just about to start. may be this will break and tank equity and bond market.
http://news.yahoo.com/s/nm/20090610/pl_nm/us_usa_healthcare_congress_8
@twofish loved your comments – those make a near coherent picture
Walmart sales increased when other retailers went bankrupt because Walmart was lower cost than most. Same logic, I believe, explains partly why Chinese exports did not slowdown as much as others.
China’s monetary expansion will have two components – domestic stimulus and US treasury demand. It will be interesting to understand which will be bigger and will there be any crowding out effects.
If you push large liquidity through the system fast – high value, long-term assets (houses, stocks, etc) tend to inflate. This keeps overall inflation low (since these do not form part of consumption basket) giving an impression that everything is fine. This corners the excess liquidity to one end of the pool. Eventually the system breaks but till that time we have fantastic illusions.
Problems of Europe
Europe is about 13 billion giant (excluding Russia). Problems of Europe will impact world recovery to the same / slightly more than problems of US. We have somehow left Europe out of discussion.
Domestic demand / Market
Creating domestic markets is not easy and does not simply happen by throwing capital. Domestic tastes and preferences, as we see in India, are lot different than we anticipated. Same logic should hold for China.
It is easier to customize goods (like restaurant services) are easy to manage – but inflexible goods (capital goods e.g.) take long time. The changes cascade from consumer side till they reach the top end.
E.g. large part of textile industry may be geared to service cotton clothes – whereas Chinese might prefer silk. (OK I simplified it a bit too much)
E.g. 2 You take milk, some producers added some hormones to aid milk production. Resulting milk was not safe for children. Now we need institutions, legal, regulatory etc that create a feedback system to discover and curb such practices. These complex frameworks anchors in democratic setup – leading us to political minefield.
If someone clarified the entrepreneurial scene – we may actually get better clues about domestic demand. Large entrepreneurial pool backed by venture funds experimenting with products and distribution is the best way to create domestic market.
The easiest part of domestic demand stimulus is to allow top brands to enter the domestic market and give them some price leeway through currency appreciation. Louis vitton bags, Chanel perfumes etc will kick start domestic consumption faster.
Psychology of excess
This is one of the problems facing China. In its quest to stimulate – it might create excesses that can haunt it later. Large ammunition is mega problem if it explodes in you own backyard.
China is our hope
Our global recovery hopes are pinning on China. The question is does China know and will it take the responsibility?
bsetser: if the surplus is disguised inward investment, why did it surge in q4, when no one globally was investing?
The surplus is the difference between exports from which has a huge inward investment component and imports to China which do not. In Q4, when the money stopped moving into China, exports from China plummet, which froze demand (think of it as a massive interest rate increase), which cased imports to China to plummet even more.
@Twofish
the argument of “investments disguised as trade surplus” is an intriguing one. But I would argue that it cannot possibly explain a major part of the trade surplus:
Let’s assume for the sake of argument that this factor accounts for roughly half of China’s trade surplus, i.e. 4 % of GDP.
This would mean that the total value-added of China’s exports is only in the 10-15 % of GDP range, as opposed to Brad’s estimate of 15-20 %.
When looking at the stuff that China exports, we can safely say that most of it does not belong to the “MNC-internal” category:
- What about China-sourcing by foreign retailers: Surely you aren’t saying that Walmart secretely owns a huge chunk of China’s manufacturing industry financed by artificial profit transfers?
- I know some people in Germany’s china-sourcing trade. The way their business works is that they look for the best deal from various Chinese suppliers. There is no equity connection whatsoever with the suppliers.
- What about products such as steel or ships or solar cells made by Chinese companies and exported directly to the end customer?
- And what about Chinese MNCs such as Huawei and Lenovo: Why would they engage in such activities?
In short, if total export value-added is 10-15 %, I think it’s safe to say that only 5 % or less potentially belongs to the category that you use for your argument.
But if so, then what you are implicitly saying is:
Companies that achieve at best 5 % of China’s GDP as export value-added invest at least the same amount (4 % articifial profits + official FDI + legitimate onshore profits) into expanding their Chinese factories every year.
That sort of amount makes no sense, especially not during the last 9 months when export volumes plummeted. Or are you implying that they channelled the money into the Chinese stock market or real estate?
So my take is: Possibly this effect explains 1/10 or so of the trade surplus. But it cannot possibly explain 1/2 or more of it.
Attention Eric deCarbonnel,
Thank you for the great post. Yes Brad’s blog is the place to post for those enlightening posts. Do not forget to post in Roubini’s comment zone as well. Your post deserve a bigger audience.
As always with posts of this size on subjects that I tend to grasp, I have read the comments in details and skipped part of the argumentation.
Will do it for sure. Yes, as a matter of principles – for those who have read Rueff and likes – the current peg-and-associated-yuan-flow is definitely a 100%-garantee way to trigger massive inflation. That has happened in a relatively mild way with Euro-dollars in the 50-60, with Asia later. Could alas certainly be the trigger to next big thing.
Calling it hyperinflation is mostly a political or journalistic issue. Difficult not to buy at least partly into the conclusion. The West will foot the bill as well in the end via its own kind of inflation. Via monetization when the “poors” stop buying the debts of the “richs”.
I’d be glad if Brad could take the time to enter this monetary-à-la-Autrichienne debate as well. As most autrian-based economists, I’m only sure of one thing, a system with systemic debt problems – aka more debts than can service – will not go the right way. Inflation or deflation. Certainly not peaceful way-out. That should have been considered ahead of time. Not now. Nobody wanted to.
Cedric: Don’t know why it would be different in China, or why anyone would create a zombie subsidiary whose sole purpose is to sub contract out the company work to others, and increase the parent company costs.
Because the Chinese government requires it. A large Western company that wants to do business in China can for the most part only do it through a Chinese subsidiary, and the Chinese want it that way so that they can keep control of the currency.
Also it doesn’t increase the costs of the parent company at all. It’s either a joint venture or a wholely owned foreign enterprise, which is for all intends and purposes part of the parent company. Any profits that the sub make is booked to the parent company.
There are also huge tax reasons for doing it this way. Money that the Chinese subsidiary makes is basically tax free. Money that the parent company makes is subject to US corporate income tax.
@ Eric de C.
Would you care to explain why China’s hyperinflation is inevitable?
Your blog post dated January 2009 said that hyperinflation is “imminent”, so shouldn’t we be seeing it by now?
Also, I fail to understand why you think that China’s “shrinking economy” (you claim it is shrinking, if I read you correctly) is supposed to be one of the main causes.
Thomas: When looking at the stuff that China exports, we can safely say that most of it does not belong to the “MNC-internal” category.
I think it does. When Walmart buys plastic cups, it has to do it via a Chinese subsidiary. You either set up a wholely owned foreign enterprise, a joint venture, or a representative office.
Thomas: What about China-sourcing by foreign retailers: Surely you aren’t saying that Walmart secretly owns a huge chunk of China’s manufacturing industry financed by artificial profit transfers?
Walmart doesn’t own a huge chunk of China’s manufacturing industry, but I’m arguing that it is financing a huge chunk of China’s manufacturing industry by these sorts of transfers. A Chinese subsidiary of a Western company can’t easily own a local firm, but it certainly can advance them credit, and I’m arguing that Walmart and Apple have became Chinese banks, without probably realizing it.
The reason I think this is happening is that there is nothing about this that is remotely illegal. In fact, if you are a Western company doing any sort of business in China, you have to create subsidiary.
Thomas: – I know some people in Germany’s china-sourcing trade. The way their business works is that they look for the best deal from various Chinese suppliers.
And the supplier is often just a middleman, which is owned by some Hong Kong or Taiwan corporation that plays this game.
Thomas: There is no equity connection whatsoever with the suppliers.
I didn’t imply that there was.
Thomas: What about products such as steel or ships or solar cells made by Chinese companies and exported directly to the end customer?
Makes up a small fraction of the trade balance.
Thomas: And what about Chinese MNCs such as Huawei and Lenovo: Why would they engage in such activities.
Because they have to. It’s a result of the currency firewall that the Chinese government uses to separate internal and external economies. Lenovo’s US operations are subject to the same restrictions as far as currency transfer as Apple’s are.
Thomas: Companies that achieve at best 5 % of China’s GDP as export value-added invest at least the same amount (4 % articifial profits + official FDI + legitimate onshore profits) into expanding their Chinese factories every year.
Yes. I’m saying that the numbers are huge. Once the money gets into China, they don’t have to use it to expand factories. They can just keep it in a bank account or lend it to a joint venture partner or supplier, at which point it enters the southern Chinese financial system. In fact, one could argue that this sort of financing by MNC’s is the southern Chinese financial system.
Also it’s not a matter of legitimate/illegitimate profits. What I’m saying is that the way that MNC’s are required to operate in China causes them to declare high values for exports.
Thomas: That sort of amount makes no sense, especially not during the last 9 months when export volumes plummeted. Or are you implying that they channelled the money into the Chinese stock market or real estate?
Exactly. I’m sure that the people in the companies don’t realize that they are doing this, but they are.
Once the money gets into China, then it gets channeled into the local economy. A WFOE or joint venture can use the money they have locally to provide credit to its contractors. Once that money disappears, then the whole southern Chinese economy contracts which is what basically happened in Q4.
This explains why the Chinese banks are in good shape. The system evolved because Chinese banks just don’t lend to export industries, and so export industries need to get credit from their customers.
It also explains why the Chinese economy seems to be recovering so quickly. The primary purpose of the export industry in China is to provide credit not demand, and it’s easier to boost credit than it is to boost demand.
Again, the important thing that I want to emphasis is that nothing I’m describing is illegal or even legally grey. It’s how the system evolved. This might be incorrect in its details, but it is designed to solve a mystery. There was obviously tens of billions of dollars in “hot money” going into China, and you can’t have flows that big through illegal or quasi-legal means, so how does the elephant manage to cross the river?
@Twofish
Interesting.
So you are arguing that (e.g.) Walmart has Chinese trading subsidiaries which record billions of US$ of local Chinese profits by selling the stuff they bought cheaply from Chinese subsidiaries to the US mother company at highly inflated prices? And that Walmart keeps those many billions of US$ in China to effectively run a huge shadow-banking operation?
Sorry, typo: not “bought cheaply from Chinese subsidiaries”, but “from Chinese suppliers”, obviously.
Cedric: So if state banks are making loans to a ball bearing manufacturer to build China’s 301st ball bearing plant next door to three ball bearing plants that just closed, then this is not really a good thing.
As far as I can tell the commercial banks aren’t. China does have a set of policy banks to do non-commercial lending. It’s not that you don’t want to do non-commercial lending. It’s that if you have the same person trying to be both a bank and an employment agency bad things happens, so what the Chinese government has done is to split up those functions.
The result of this is that you end up with hard budget constraints for social lending. The government can basically say we are going to spend $X to lend on things that we aren’t going to make immediate money on.
Thomas: So you are arguing that (e.g.) Walmart has Chinese trading subsidiaries which record billions of US$ of local Chinese profits by selling the stuff they bought cheaply from Chinese subsidiaries to the US mother company at highly inflated prices?
Inflated prices makes it sound as if something illegal or unethical is going on, when my point is that it isn’t. If Apple sells Ipod’s at $250, declares the import value at $200, and pays its subcontractors $50, all of that is perfectly legitimate. If Apple valued the imports at $60, then it could only convert $10 to RMB, but by valuing the imports at $200, it can convert $150 to RMB.
Thomas: And that Walmart keeps those many billions of US$ in China to effectively run a huge shadow-banking operation?
Apple is a better example. Things may be more complex with Walmart since they are sourcing through Hong Kong, Taiwanese, local middlemen. But yes, I claim that Western multinationals are part of a massive shadow-banking operation. Again, it’s not illegal or unethical what they are doing, and that is important because anything that is the slightest bit illegal or unethical simply couldn’t transfer the massive scale of money that is being transfered.
And Chinese export suppliers get financing from Western buyers because none of the local banks will finance them.
And I’d guess that practically none of them realize that they are doing it. The thing about shadow banking systems is that they tend to grow to massive scales before anyone really notices them.
@Twofish
my point is not that it is “illegal or unethical”. It simply seems hard for me to understand why all these companies would want to transfer so much money into China every year and leave it there forever.
That’s why I picked Walmart as an example, because they spend huge amounts of money in China, and if you want to argue that most of China’s trade surplus is in effect artificial, then Walmart and other retailers need to be part of it in one way or another.
Walmart would need to have many billions of dollars somehow “parked” or “invested” in China. And can only makes sense for Walmart to do so if it is the ultimate owner of those investments, because otherwise, it is giving profits away to what you call “middlemen”, and there’s nothing in it for Walmart in that case.
In other words: The way I understand it, your argument only works within one MNC. It breaks down once you transfer money to outsiders, because then it isn’t transfer pricing anymore, and the outsiders make real profits out of it.
And let’s also look at Apple: Why would Apple want to permanently transfer most of the revenues from an Ipod to China? What’s the point of doing so, if Apple’s on-the-spot operations are comparatively tiny as far as local value-added is concerned, and most components are also sourced from other countries, not from PRC?
And in any case, assuming that Apple still reports profits in the US as well, it cannot possibly transfer anything close to 150 $ out of a 250 $ retail price into China, because its overall profit margin (based on full costing) is far lower than that. If Apple makes – say – 20 $ of profits on an Ipod on a full-cost basis, then it would need to show massive losses in the US (or other countries) if it transfered more then those 20 $ to its Chinese subsidiary.
@Twofish
If I understand you correctly, you are saying that one of the main attractions of showing profits in China is to pay little or no taxes on those profits.
If so, then Apple does not appear to be doing so to any major extent, because Apple’s financials show an average tax-rate of 30 % of pre-tax profits.
So either the profits accruing at its PRC subsidiaries are comparatively minor, or they are also paying significant amounts of PRC tax.
Another interesting snippet from Apple’s financials:
Most of their assets are “cash and marketable securities” (more than 20 bn US$ in fact), and most of those are “US agency securities”.
It doesn’t look like they have lots of PRC onshore assets. “Property, plant and equipment” is comparatively minor (2.5 bn $ worldwide, including software) and not growing much. “Inventory prepayments” are downright minuscule (only 306 m US$).
Walmart are good example of what Twofish is talking about. How is a firm which makes nothing the biggest company in the world?
Thanks to a phenomena know as an unequal exchange. They buy output, mainly from China, way below its real value and then sell it back home at its real value, pocketing the difference.
That difference is a super profit way above what is recieved by China’s manufacturers, the actual producers of that output. How can they do that? By their monopoly control of retail distribution in the main market for Chinese output – the USA.
The extent of this unequal exchange explains why the collapse of foreign demand has had such a relatively small albeit impoortant effect on the Chinese economy.
At an annualised rate and in dollar terms in the three months to January exports were falling at around -57%, yet GDP fell by -3% quarterly from the summer.
Chinas manufacturers do indeed add far more value than traditional estimates – the point is they are not paid for it. Rather it is appropriated via the mechanism of unequal exchange by the purchaser, who gain a bumper profit as a result.
There are three temporary effects:
1. Net exports are up in Q109 only because the oil prices dropped. Net exports are up 18 bn dollars from Q108, oil imports down 30 bn from Q108.
This means that in Q3 and Q4, when 200 bn dollars net exports come into the 2008 base, there will be a sharp fall in net exports 2009 H2 on 2008 H2.
2. investent is up 30% in Q109 (in nominal terms), that is because of the 4.9 trn total lending growth in Q1, which is more than 08 year total lending growth(4.8 trn)
3. FAI (17.2 trn yuan in 2008 ) is only fractionally financed from net corporate lending (only 3 trn yuan in 2008), majority of FAI is from company’s and government’s own sources. As exports and manufacturing goes down, FAI financed from own source is supposed to go down, because profits are shrinking.
In the time domain, FAI is concentrated in Q2 and Q3. In 2008, only 15% of yearly FAI was delivered in Q1.
Thus it was easy to prop up Q1 FAI by a huge stimulus, because the 2008 basis was low.
So in Q109 we saw that government spending in FAI was taking over private FAI spending.
If private FAI is really shrinking, we will start to see it in Q2 and Q3 because there is no way government spending can replace all FAI (which was 57% of GDP in 2008!!).
I expect to see FAI stagnating/mildly falling in Q2 and Q3. Next exports sharply falling in Q3 and Q4 (compared to same period last year). Private consumption to hold mild growth.
I speculate the response of Chinese government will be to start to prop up net consumption somewhere in H2 2009 or H1 2010.
Needless to say that might mark the end of BW 2.1
Fall in electricity consumption is explained by the above numbers.
Net exports grew only because oil prices dropped, total exports dropped, investments grew by record because government stimulus.
Thomas: It simply seems hard for me to understand why all these companies would want to transfer so much money into China every year and leave it there forever.
The whole point of the exercise is to move money into the PRC in a way that the money isn’t locked there. PRC currency restrictions close the capital account. If you move money into the PRC directly to build a factory, you have to have SAFE’s permission to move the money out again.
If you convert USD->RMB through trade exchange, you have authority to convert RMB->USD. All you have to do is to show a bank a receipt saying that you converted $100 million USD->RMB through trade, and you can convert that RMB back to USD and move it out whenever you want.
Thomas: Why would Apple want to permanently transfer most of the revenues from an Ipod to China?
They wouldn’t, that’s why they may be doing these sorts of tricks.
Thomas: It doesn’t look like they have lots of PRC onshore assets. “Property, plant and equipment” is comparatively minor (2.5 bn $ worldwide, including software)
First of all, property, plant, and equipment figures uses numbers depreciated from cost, so that often underestimates the amount value of these items.
Second what’s interesting is the change from 2008-2007. You have an increase of $600 million. Accounts receivable increased by $800 million.
What’s already interesting is this statement…. In 2008, Apple had $11 billion cash equivalents in foreign subsidaries. In 2007, Apple had $6 billion.
Hmmmmmm….
Looking at the balance sheet, there are all sorts of places that you can see that Apple could move maybe $2-$3 billion into China. Now multiply by all of the businesses that are doing business in China, and you get some huge numbers.
bill j: Walmart are good example of what Twofish is talking about. How is a firm which makes nothing the biggest company in the world?
Because creating a product doesn’t create much wealth. If I have a car in San Francisco, and I’m in Chicago, that car is worthless to me.
bill j: Thanks to a phenomena know as an unequal exchange. They buy output, mainly from China, way below its real value and then sell it back home at its real value, pocketing the difference.
There is no such thing as real value. A thing is worth what people are willing to pay for it. If I’m on a desert island surrounded by gold bars, those are worthless to me if I need a tooth brush.
bill j: By their monopoly control of retail distribution in the main market for Chinese output – the USA.
WalMart has nothing near monopoly control. WalMart is extremely efficient with hyper-low margins. That is why it is such a huge company. It needs to generate large amounts of volume to deal make money.
One thing that you will find interesting is that Made in China products that you get at WalMart actually cost more in China, because WalMart is super-efficient at moving things from China to the US.
The reason I used Apple as an example rather than WalMart is that Apple *does* have a monopoly. Only Apple makes Ipods and Itouch, and as a result Apple is a surprisingly small company.
bill j: Chinas manufacturers do indeed add far more value than traditional estimates
Personally, I don’t think that they do. The value in a 21st century product is a nice logo that says that you will enjoy using this product. China hasn’t gotten to that stage yet. It will.
bill j: Rather it is appropriated via the mechanism of unequal exchange by the purchaser, who gain a bumper profit as a result.
There’s nothing unequal about this. China could kick WalMart out if there is a belief that WalMart isn’t acting in China’s national interest. China will kick WalMart out. WalMart learned a nasty lesson when it tried to prevent a union from forming in its Chinese stores.
The value of WalMart is that it has a finely tuned system of logistics that can figure out when a product is about to sold out at store A, and then deliver the exact amount.
There are countries that are ruthlessly exploited by Western multinationals because they have governments that are too weak or too distant from the populus, and Western multi-nationals *will* ruthlessly exploit a country if you let them.
But none of this applies to China…… If you do business in China, you have to play by Chinese rules, which is why companies do these bizarre things to get USD into the country.
Quote Twofish:
“Accounts receivable increased by $800 million. In 2008, Apple had $11 billion cash equivalents in foreign subsidaries. In 2007, Apple had $6 billion.”
I agree that the accounts are not very transparent in terms of where the money is.
Accounts receivable shouldn’t be relevant for the topic we’re discussing, because those refer to claims that Apple has against its customers.
As for cash equivalents in foreign subsidiaries: I didn’t manage to locate those in the financial statement. That is indeed a large increase. Though the statements also say that 3/4 of Apple’s foreign operations (in terms of owned floor space) are in Ireland. They tell us nothing about the location of the rest.
To me, it mainly boils down to this question: Why would Apple want to channel all this money to China? What’s in it for them? Their customers aren’t there, and most of their suppliers aren’t there either (at least that’s what the various IPod sourcing studies claim). And considering their overall tax-rate, it doesn’t seem that they are minimizing tax exposure.
Brad, the debate in China about this has become more schizophrenic than ever. I think there are two things that might have influenced China’s relatively good growth. First, even though they did not devalue the currency (which the MoC wants but which would almost certainly led to even more trade friction) they did a lot of other things that had the same effect and increased China’s relative competitiveness, effectively forcing more than 100% of the adjustment in the contraction of the US trade deficit onto their trade competitors. You can see that in the relative trade numbers, as well as in the furious reactions towards China of several Asian exporters. This can’t go on forever and at some point more of the adjustment must be borne by China, if for no other reason than the increase in trade tensions.
Second, the investment-led fiscal stimulus, although inefficient and structured in a way likely to make the overall adjustment over the next few years much more difficult, nonetheless was huge, and has involved a massive expansion in debt, both through the banking system and through indirect borrowings at the provincial and municipal level. Andy Batson has a good, and very worrying, piece on the sharp and sudden rise in provincial debt in the WSJ (http://online.wsj.com/article/SB124457041123298695.html).
The stimulus program is almost certainly not sustainable but the PBoC and others have said that as risky as it is, it is less risky than to stop. I am not sure I agree, but as Lu Lei writes in a very thoughtful article in this week’s Caijing: “We’re stuck with a painful choice between two losing scenarios: a more moderate monetary policy that would cripple fiscal policy, leading to an outright ‘hard-landing;’ or continuing a loose monetary policy backed by fiscal spending, which risks future loan losses and a weaker market.” A number of economists at the universities and think tanks are saying, usually privately but increasingly publicly too, very similar things. One CASS researcher I know compared it to the continued bank-lending-led 3-year surge in Japan after the 1987 crisis in the US, which should have forced an adjustment in Japanese growth. He is worried that we may be seeing a smaller version of a similar process. He may be right.
If I understand correctly, the China-based assembly of Ipods and other Apple-stuff is outsourced to Taiwanese suppliers that do not have an equity relationship with Apple.
If so, then how can the transfer pricing argument work at all? To do profit transfers from US to China, Apple needs to “claim” massive value-added within its own China subsidiaries. They can’t just “artificially” inflate the amount they are paying to the subcontractor, because that would imply a massive profit for the external subcontractor, not for Apple.
So what they would presumably need to do: Apple’s Chinese subsidiary would have to buy the finished Ipod from the subcontractor at a low price, do something very notional itself, and then reexport it to the US at a much higher price. Can’t rule it out, but to me it sounds a bit farfetched as long as there is no further evidence to back it up.
Or do I misunderstand your argument in some way?
In a rapidly deflating world more Chinese capacity is all we need. It will all end in tears at bedtime.
January-May FAI figures came out today.
FAI growth holding strong at 30% on same period last year. Still no sign of the stagnation in FAI I expect later this year.
This is what I’ve been figuring. Their economy was running with a serious governor on the gas pedal: it was working at maybe 1/4 of throttle. Everybody else was leveraged to the hilt – running with the pedal all the way down, top gear, with leverage like a nitro boost. If a tire came off, we were all in the ditch, burning.
But the Chinese have so much unmet domestic demand, they can pretty much always turn production inward. Those enormous savings rates reflect the inability to purchase what the Chinese people wanted at home, be it for investment or consumption. And depending on whether China FINALLY opens its borders a little to trade, we will see whether they fuel global growth or whether they just leave the rest of us in the dust, trading with each other for charred remains.
Mr. Setser states that the Chinese government did not act quickly enough to stem the effects of the global economic crisis. In some industries, however, it was not just insufficient speed but also insufficient action that left them vulnerable to the recession. A ChinaStakes.com article on the automobile industry explains that “insiders blame the decline in sales on the ending of the government’s previously favorable auto industry policies.” The government, now aware of the depth and severity of the economic crisis, is now scrambling to re-enact its stimulative auto policies.
http://www.chinastakes.com/2009/6/Chinas-World-Beating-Car-Market-Showing-Signs-of-Weakness.html
China is just a bit player; the world economic super power is really India. I am Chinese and an under-deserved Anglophile as well. To us Chinese, we prefer not to exaggerate our role in world affairs and we think you should just look to India instead and please spare us a little bit of attention. India is already the world’s No.1 Superpower, transending the best traditions of the British Empire every day. No dispute here, and much admired. In PPP terms, India is already the world’s No.1 economy, not even the US comes close. India has a super high-tech economy with InfoSys, Wipro, Nano, Slumdog, and much more that the average Chinese never even heard about, in whose unfit minds, they only know about BYD, Hauwei, ZTE, and Lenovo; never mind, how limited horizons. In the democratic guidance of Gandhi, Nehru, Indira, Rajeev, and Singh super human politicians,India shines while the world declines. India has a huge population dividend, and as time advances and the multiplier labours forth the advantage will become much more pronounced, just imagine millions more Singhs all equalled by only the Oxford Sheldonian debate chamber forged speakers. With her close to 1.1 Billion Software Engineers, they are making this profession obselete; literacy is not even worthy of men’s will as these boys and gals can all express themselves in the languages of their laptops. In the next 100 years, India with her super effective democracy will prevail mightily; as we Chinese just pray that India will also have mercy to leave a bit of room for us to earn a modest living in our corner of the planet. India just needs to sleep walk through the next 30 years, or better yet with their superior intellectual powers they can make an galactical contribution to human scientific endeavours like whether the black cats are superior to white cats, or white ones to black ones, or what the hell, maybe even both, whereas us poor Chinese will have to continue to slave under the Sun, rain, and snow just to keep us fed and our kids in school. Oh, I take it back, I may have to skip my meals so my kids can stay for one more lesson. With the current economic crisis, my salary here in Beijing is shrinking by 8% each year, together with the overall economy; oh maybe I am confused with the sign of this figure as you see I am not that educated with numbers. All I know is that all that necessity is becoming harder day-by-day, yet these crazy people, like my wife, are clamouring for those fake Gucci bags. In 30 years, I suspect my salary would march on to zero, with how many … I really do not know now, but then I would also be dead and need not to care. Oh, by the way whatever you hear from our government and the foreign press, if it is good news, just ignore it, it is not quite right, shall we just say. Cheers to India! Cheers to India!