¿Pierde China Dinamismo?

Exporters are complaining loudly
By Michael Pettis

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The Shanghai stock market had a good day today – its last trading day before the May holiday and the very long four-day weekend. The SSE Composite is up 4.84% and trading volume was up substantially too. What seemed to propel the market today was a bunch of companies reporting good earnings, especially the banks – three of the Big Four reported very healthy first quarter earnings growth, perhaps a consequence of January’s huge jump in loans. There are also more rumors about things the government might do to keep the market from falling.

Meanwhile it seems the fight over the currency is intensifying. Chinese Academy of Social Sciences economist Li Yang, formerly a member of the PBoC monetary policy committee and currently an advisor to the powerful NDRC, was reported by Market News International to have said in a lecture today that the government should stop allowing the RMB to appreciate because of the pain it is bringing to export companies. He said that the RMB is currently at a “balanced level,” and elaborated: “One important factor to decide whether we're at a balanced level is that our companies are making losses on this appreciation. So we shouldn't move it any more.”

I am not sure I understand his reasoning. I have seen very little in the academic literature that suggests that a currency has reached an equilibrium level when some of its exporters are losing money. I would have thought that any definition of equilibrium would have focused instead of the level of the trade surplus, the amount of central bank intervention, the growth rate of exports, or on any of a number of other factors that suggest that RMB is still not near an equilibrium level, but I suspect that Li’s argument actually has more to do with the terms of the debate within China than with economic reasoning.

There is a very deep, and reasonable I think, concern that a significant slowdown in the exporting sector might not be matched by a sufficiently large increase in domestic consumption in the short term, and so the result may be that China will not grow fast enough to absorb new entrants into the labor market. If we see slower growth in fixed asset investment on top of that, the reduction in Chinese growth may be significant and may have adverse unemployment consequences – something the government does not want to have to deal with, especially right now. I think there is a lot of pressure from exporters, provincial leaders and Ministry of Commerce officials to reduce the appreciation rate as a way of making life easier for Chinese exporters. They are worried about its impact on growth, even though this probably reflects an excessive focus on the dollar – as has been pointed out many times, the RMB is not appreciating in general; it is only appreciating against the dollar.



By the way, and to support the argument that it is not the rising RMB that is hurting Chinese exporters, Gene Ma of ISI-CEBM sent me an interesting piece today. In it his team argues that “he main driver behind China’s narrowing trade deficit is not slowing exports, but the changing terms of trade. In particular, prices of imports are rising much faster than exports.” They also note that China’s export engine is moving northward. “The share of the Pearl River Delta in total exports fell from 47% in 1995 to 30% today. The share of the Yangtze River delta rose from 20% to 40%.”



What this suggests to me, as I have discussed often on this blog, is not so much that China’s exports are getting clobbered. It suggests that China is evolving – very naturally I might add – so that its export performance is shifting as a consequence of development differentials across the country. China itself is not losing out to other countries as much as exporters in the Pearl River Delta think. China’s export competitiveness, instead, is shifting north. If you keep your eyes to firmly focused on the performance of the southern exporters, it would be easy – but of course very mistaken – to conclude that something awful is happening to China’s export capability. It isn’t. Not yet, anyway.



I do think however that we may be seeing a gradual, and very positive, shift in the importance of exports to China. I am currently reading a very interesting April 29, 2008, report by Credit Suisse called “China: the Beginning of the End of an Era.” In the report the authors say:



We think the end of an era in terms of China’s mighty export industry has just begun. Current conditions will likely go beyond the cyclical slowdown caused by the US recession, in our view. After years of currency appreciation, wage increases, and material cost surges, we think the Chinese export sector has started to crack. The introduction of the Labor Contract Law this year is probably the straw that broke the camel’s back.



As part of their argument they note:



China’s private consumption is seemingly on the rise, led by service consumption and rural consumption. The “one-child generation” is emerging as an influential new force that may redefine Chinese consumer behavior. Our projections show China leapfrogging the US as the world’s largest consumer market before 2020.



If they are right, and their argument is certainly plausible, we may be at the beginning of a process of rebalancing the Chinese economy away from the export sector and towards the domestic market. This is obviously a very healthy and necessary part of China’s long-term development, but it is worth noting that there is no reason to expect the process itself to be an easy one. I have mentioned several times before on my blog how it took the very deep and painful crisis of 1798 to turn the US economy away from its dependence on exports towards a healthier domestic focus. China’s refocus may also come with a difficult adjustment period. Part of the reason for the fight over the appreciation of the RMB is, I suspect, the reluctance to pay the cost of this adjustment.



There is one fascinating piece of information that comes from the report that gives a sense of the scale of the demographic adjustment that China is undergoing: “Thirty-five years ago, for every one hundred people, representing new labor worldwide, thirty came from Chinese. Today, the number declines to thirteen and is projected to be only three in thirty-five years.” Wow! This is a huge slowdown in the rate of growth of the working population – one of the inevitable consequences of the one-child policy.



One other thing worth noting that has nothing to do with trade: according to today’s China Daily a senior official from the NDRC, Xu Zhimin, director of the NDRC's economic operations department, said that the government will not increase the price of refined oil or electricity until inflation is brought under control. The NDRC has reportedly wanted for a while to deregulate the price of energy and resources, but they are too worried about inflation to do so now.



Needless to say, if you believe the inflation problem is largely a problem of expectations, they may be right to postpone deregulation. If you believe it is a monetary problem, however, freezing prices of electricity will only cause the momentary pressure to show up in other kinds of inflation.



P.S. For those who read my blog directly, once again the firewall here in China seems to have gotten worse, making it very hard for me to participate in the “Comments” section. Sorry for not responding to comments, although of course I do read them.