Opinion: Trump’s America First Won’t Hurt China Much
China’s surprising 6.9% growth in 2017 has made it clear to me that U.S. President Donald Trump’s America First policy won’t hurt China as much as some fear.
An analysis of the data shows that the Chinese economy has uncoupled from the global one, so it is no longer powered by external forces such as exports and incoming foreign direct investment (FDI). Instead, domestic consumption has become the main driving force, pushed along by new technology, a growing services industry and urbanization. It also helps that China has a built-in “3S” advantage of scale, scope and the newest ‘s’ — speed.
Many were surprised — and skeptical — when news of the 6.9% growth in real gross domestic product (GDP) was released on Jan. 18. My concern is that this number may well underestimate the true growth of the economy. A breakdown of the data shows that the producer price index (which drives companies’ incentive to invest more) recovered toward the end of 2016 and was positive for all of last year (up 6.3%). The purchasing managers index (PMI) (a way to measure whether an economy is growing) was similarly impressive for both the manufacturing and services sectors. In addition, there was a 10.8% growth in exports even though the Chinese currency appreciated about 6%.
There are some who believe these impressive results are either because of a global economic recovery or simply a spillover from the Chinese government’s stimulus policies of 2015-2016. I believe both of those theories are incorrect.
The global economic recovery helped, but it was not the main driver of the 6.9% growth in the Chinese economy last year. In fact, the surprisingly good growth in 2017 in the EU (2.6%), Japan (2.1%) and the United States (2.5%) has not had much of an effect on China. In 2007, net external demand was responsible for 10% of China’s economic growth; in recent years, however, net external demand is no longer essential for China’s economic growth. There is supporting data that shows there has been a decrease in China’s overall reliance on global trade. Both export and import values as a percentage of GDP fell by about 50% between 2008 and 2016. At the same time, there has been a rapid drop in China’s processing exports (in which a country uses its own resources to produce goods that will be exported by foreign companies). There has also been a steady downward trend — from a high of 6% in the early 1990s to about 1% in 2017 — in incoming FDI as a percentage of GDP. This means that 99% of China’s new capital is from its own savings, not from foreign capital. These are all clear signs of an uncoupling.
China has been lucky in its timing. In the 1980s and 1990s, as the country began its reform and opening-up, globalization swept across most of the world. Joining the World Trade Organization (WTO) gave Chinese goods access to overseas markets and protection from trade discrimination. China benefitted from this. Today it has become fashionable, globally, for countries to protect themselves and put their own people first. We are no longer in the era of globalization. This trend will still hurt China, but not by much. That is because one feature of China’s so-called “new era” is that the country now depends a lot more on itself and a lot less on other countries.
The stimulus theory
The second theory I want to debunk is that China’s 6.9% growth was a delayed result of the stimulus package that the government unleashed in 2016 to steady the economy after the stock market crash, currency depreciation and a jittery private sector. The Chinese economy was performing poorly in 2015, so from the beginning of 2016 the government increased the amount of its fiscal spending on investment, pulling it up from 10% to 25%. This expansionary fiscal policy (which also included real estate stimulus) lasted for about a year and had a big impact. But this was, more or less, to offset the drop in the private sector’s investment growth rate. According to official government data (which I believe is conservative in this case), overall private sector investment was close to 0% at one point. Private companies, which usually account for 70% of overall investment, stopped investing. So you needed a much bigger injection from the government to offset the drop, but even this did not stop the deceleration in overall growth. The government also relied, to a lesser extent, on expansionary monetary policy (increasing the money supply), but both of these measures have been gradually phased out since late 2016 and early 2017. So we can conclude that the stimulus did not result in an increase in the growth rate, but merely offset the decline in the growth rate due to the drop in investment from the private sector. The lagged growth-promoting effects would not explain the 6.9% GDP growth in 2017.
Real growth sources
I am convinced that services, [private] consumption, urbanization and new technology are behind China’s 6.9% growth in 2017. As other countries before it, China has made a journey from having an economy dominated by its manufacturing/industrial sector to one in which the service sector now dominates, accounting for 52-55% of GDP. Meanwhile, over the past two to three years, consumption (about 65%) has replaced investment (about 40%) as the main contributor of GDP growth. In this new consumption-driven growth model, much of the growth is driven by the new service economy. Four of the world’s 10 top internet companies are Chinese, and technological change has been a major driver of the country’s rapid growth. So too has urbanization: migration to cities means people have access to better education. Information is easier to share, and it is easier for people to learn from one another.
Because of the nature of the new technological era — dependence on big data, artificial intelligence (AI), mobile phones, 4G, 5G — scale, scope and speed have become invaluable. Speed refers to China’s ability to rapidly take a product to market and use the sheer size of its tech-friendly consumer base to quickly make adjustments as needed. This is linked to the country’s knack for incremental innovation, sometimes called the “poor nation’s innovation.” Today the once-admirable German and Japanese approach no longer applies. Gone are the days of perfecting a product before releasing it to the market. Today is all about speed, and China has that segment of the market cornered.
Meanwhile, China has an even bigger advantage in scale than it had during the manufacturing age. One tangible example is how scale helps it leverage the platform economy. A platform such as Tencent Holdings Ltd., for example, can afford to charge low fees to watch sporting events because of its sheer number of subscribers. And when it comes to scope, there are few countries that can compete with China’s ability to host an entire production chain in one location, such as a single village, which minimizes costs.
So I am convinced these new economic forces related to China’s structural transition are mainly what drove last year’s 6.9% growth rate. I also think that, because of these new elements, over the next three to five years China’s annual GDP growth rate may be higher than the current trend suggests it should be. As countries get richer, it is normal for their GDP to become lower as growth slows, but China’s path may not be a linear trend. It may deviate. We may see an upward swing; instead of GDP growth of about 6.2%, it might be closer to 6.6%.
What could go wrong?
Of course it is possible that this upward swing may be derailed by certain risks such as a debt crisis, a bursting housing bubble or large-scale capital flight. There is a very high potential for a debt crisis because China’s shadow banking sector is so large, worth 70 trillion ($11.07 trillion) to 80 trillion yuan. There is clearly a real estate bubble and, as the stock market crash of 2015 showed, there is very little anyone, including the government, can do to intervene if a financial market takes a nosedive. So the risks are there, they are big, but they are contained, and it is less alarming because of the strong economy and powerful government.
China’s President Xi Jinping made it clear, in October 2017, that his focus is no longer on the old growth model. He is now focused on containing financial risk, encouraging innovation and increasing consumer spending. In other words, the focus is on high-quality growth — and China clearly doesn’t need the U.S. to accomplish that.
Xu Bin is a professor of economics and finance, as well as associate dean (Research) at China Europe International Business School (CEIBS). His current research focuses on the global and Chinese economy, multinational enterprises in China, as well as trade and finance issues within emerging markets.
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