Global Agenda: The China enigma

The increasing importance of the domestic Chinese economy will offer greater opportunities to foreign firms to sell in China.

Most people are convinced that China is inexorably set to become the leading economic power in the world over the next couple of decades. That implies that the Chinese economic “miracle,” which began in the late 1970s, will continue until – and beyond – the point where the Chinese economy surpasses that of the United States in absolute size. When exactly this will happen depends on two variables: the rate of growth of the US economy on the one hand and that of China on the other. The more the latter exceeds the former, the sooner, the “crossover” will occur.
There is a minority view that believes the Chinese economy is suffering from a massive bubble and will blow up in the next few years, well before it approaches that of the US – thereby delaying, or even permanently deferring, the emergence of China as the global number one. This highlights the extreme diversity of views that exist toward China today.
In any discussion of the Chinese economy and its future, a key topic is whether the Chinese model for rapid economic development is overly centered on exports – as were the Japanese and South Korean models before it. For many people, especially politicians, that China is reliant on low-cost manufacturing and an undervalued currency to flood the world with cheap exports is not open to discussion – it is a given. It is the starting point for attacks on China, as the primary stealer of jobs from developed Western economies, and a long catalogue of economic “crimes” that are laid at its doorstep.
But what if the underlying assumption – that China’s growth is overwhelmingly export-led and is dependent on rapid growth in exports – was incorrect, or at least much less the case than is widely assumed? In other words, what if the Chinese economy was actually in a process of rebalancing, away from exports as the dominant driver of growth and toward a greater role for domestic consumption? That is what everyone – including the American and Chinese governments – say is the desirable way out of the global mess. If it was actually happening, that would be very good news, at least from a long-term perspective.
The “export-dominance” argument rests primarily on the measurement of exports within overall GDP and the share of export growth within overall GDP growth. By this measure, export growth has comprised an average 40 percent of total growth in the period since 1990 and almost 60% in the last decade.
But an alternative calculation is to say that much of Chinese exports are merely imports (of parts and components) reassembled and re-exported. What really matters, in this view, is net exports; i.e., exports minus imports.
Using that data, it turns out that net exports have been a pretty minor component of overall growth; in other words, Chinese growth has not really been export-driven at all.
A third and novel approach is presented in a fascinating article in the latest McKinsey Quarterly, published by the McKinsey Global Institute, the research arm of the global consultancy firm. In “A truer picture of China’s export machine,” three McKinsey analysts from the US and China develop a new measurement that they call DVAE (domestic value-added exports). As its name indicates, this seeks to measure not total exports and not net exports, but how much of total exports represent value added domestically, meaning in China.
The methodology is interesting, but the result much more so: DVAE shows that Chinese growth has historically been driven more by exports than anything else, but not as much as the simple use of GDP statistics suggests – nor as little as the “net export” measurement implied. Furthermore, the contribution of exports, measured by DVAE, fell sharply in the crash of 2008-09 – as the rest of the world went into recession, while China continued to grow strongly.
Finally, the DVAE data point to a steady increase in domestic added-value within China – meaning that Chinese industry is moving toward more sophisticated and hence highercost and higher-added-value products. These will compete with Western producers of these kinds of products.
But the flip side is that the increasing importance of the domestic Chinese economy will offer greater opportunities to foreign firms to sell in China. Meanwhile, low-cost operations in China will start to migrate to cheaper locales, whether in Asia or elsewhere.