Global: Stop Bashing China
morganstanley.com
Stephen Roach (New York)
The world economy is in tough shape. Unfortunately, that’s when the blame-game usually starts – a search for scapegoats who can be held accountable for the problems of others. China has emerged as the scapegoat du jour, blamed for a wide range of troubles that now ail the world. Whether cast in the role as the source of global deflation or as the magnet of job creation, China is increasingly viewed as a negative force in the world economy. Yet nothing could be further from the truth. The transition and development of the Chinese economy, in my view, continues to represent a huge plus for the world at large.
Japan has led the way in the recent outbreak of China-bashing. In my travels to Japan over the past year, I have heard increasingly vocal concern expressed over the "hollowing out" of Corporate Japan as Japanese businesses increasingly relocate production to low-cost Chinese facilities. Japanese foreign direct investment into China has accelerated dramatically in recent years as a result – some $4.3 billion was utilized in 2001 versus $2.9 billion in 2000. This is hardly a devastating blow to Japan. Instead, it represents a conscious decision by Japanese companies to reduce the cost of production via outsourcing, thereby improving their competitiveness. Given the huge labor cost differential, that makes a great deal of sense for many Japanese companies. According to the US Bureau of Labor Statistics, dollar-based estimates of hourly compensation costs in the Japanese manufacturing industry were $19.59 in 2001, more than three times the $5.96 hourly compensation rate in Hong Kong. With average Hong Kong wages probably ten times those in Mainland China, it’s hard to see why such Japanese outsourcing into China won’t continue to grow at a relatively vigorous clip.
The Japanese have recently taken their China complaint to a different level, using it as a scapegoat for their deflationary conundrum. That was the unmistakable message from Haruhiko Kuroda, the Japanese MOF vice minister for international affairs, in a recent opinion piece in the Financial Times (see "Time for a Switch to Global Reflation," published on 1 December 2002). Kuroda-san pointed the finger at Japan’s Asian neighbors in general – and China, in particular -- as a major source of deflation. Yet inasmuch as Chinese imports account for less that 2% of Japanese GDP, it’s hard to be too aggressive and blame China for sparking Japan’s own self-created deflation.
A similar mindset is starting to emerge in the United States – that America’s deflationary perils are increasingly made in China. Here, as well, that seems like a real stretch. Sure, China’s exports to the US are growing rapidly, with average annual increases of 16% over the past five years. That sustained surge gives the impression of magnifying deflationary pressures from the world’s low-cost producer. However, Chinese imports are currently only about 10% of America’s total merchandise imports, a little more than 1% of US GDP. Like Japan, that’s hardly a big enough slice of the US economy to impact the aggregate price level.
Nor is China to blame for America’s growing import propensity. That’s an unfortunate by-product of one of the greatest flaws of today’s US economy – it’s pathetically low saving rate. America’s net national saving rate – businesses, households, and the government combined (adjusted for depreciation) – stood at a record low of 2% of GDP in 3Q02. That compares with a 5% average in the 1990s and 11% in the 1960s. Since saving must always equal investment, that means the US must import surplus saving from abroad in order to finance the investment underpinnings of economic growth. And it must, therefore, run the current-account and trade deficits that are needed to attract such capital. That’s what drives Chinese imports as much as anything. In that critical context, it’s hard to blame China for America’s penchant to live beyond its means.
In other words, trade deficits are a given for rapidly growing, saving-short economies like the United States. If China weren’t in the picture, there would have to be another country(ies) that would fill the void. In that context, the cost and price differential of Chinese imports need not be viewed as a threat but as more of a windfall. The impact of low-cost foreign-produced products from China expands domestic purchasing power at precisely the time when the American consumer is increasingly hard-pressed. In this important respect, the China factor may well be key in cushioning the downside of the US business cycle. The same can be said of US multinationals that benefit from Chinese outsourcing; they lower their cost structures and boost their earnings by bringing in components (imports) from China. That’s a plus for US competitiveness, for Corporate America, and for the investing public.
Finally, China is also being criticized these days for its currency policy. This is especially puzzling. After all, just a few years ago, the world was convinced that the Chinese needed to devalue the Renminbi, lest it lose competitiveness with its Asian neighbors. Now, there’s fear that China is so competitive that the RMB effort must be revalued higher. Yet as our currency economist, Stephen Li Jen, argues, there is a compelling case for Chinese officials to stay out of this debate and essentially do nothing – thereby keeping the RMB peg fixed (see his dispatch in today's Forum, ‘The Case for a Stable RMB"). To the extent that a stable currency doesn’t get in the way of China’s growth imperatives, the argument seems perfectly reasonable to me. If, on the other hand, the US dollar were to fall sharply, then a fixed RMB peg would be tantamount to a huge competitive assist for Chinese exporters. There would be a interesting case, in that instance, for a one-off upward resetting of the peg.
Today, China’s major impact is on the supply side of the global economic equation. As such, the ever-powerful Chinese export machine is playing a disproportionate role in shaping trade, pricing, and market share. In the future, however, I believe that China’s major impacts will shift to the demand side of its macro equation. In particular, I look for the Chinese to begin drawing down on their outsize 40% national saving rate and become more and more enamored with Western-style consumption propensities, as well as with Western-made goods. It is this second stage of Chinese development – a sustainable spurt of domestic demand growth – that ultimately has enormous benefits for Chinese purchasing power. It’s not showing up in the Chinese data flow just yet, but there are signs on the fringes. China-bashing runs the risk of interrupting this critical process at precisely the point when the world needs a stable China more than ever. In my view, it must be resisted at all costs.
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