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13 y 16 March 2011
• China is probably growing faster than the administration would like. The
goal is GDP growth of 8% this year and 7% over the entire five-year period.
Our forecast is for GDP growth of nearly 9% in 2011 and 8.5% in 2012. This
is an upward revision compared with our January forecast due to stronger
growth outside the country. Compared with other analysts, we remain
cautious, not least because the need for austerity is growing due to
persistent inflation problems and imbalances in the real estate sector. It is
also difficult to assess the effects of the catastrophe in Japan, China's most
important trading partner.
• China can pass the US within a few years to become the world's largest
economy in terms of purchasing power parity. This is the result of more
comprehensive pricing data, according to World Penn Tables. In dollar
terms it will take longer, but if China can avoid major setbacks it could
happen in the next decade.
• This analysis argues that the EU and Sweden need a more forward-looking,
holistic China strategy. There is every reason to more closely analyse the
effects of China’s new development strategy and our approach to China in
the years ahead.
Cecilia Hermansson
Contents Page
China’s global importance is growing quickly 2
China means more to Sweden and Europe 3
China has already impacted the world in various ways 4
What does China’s new development strategy mean? 5
Will the development strategy be realised? 7
How will China affect the world going forward? 8
Economic outlook in the short term 9
US- and EU-Sino relations differ 10
Europe and Sweden lack a China strategy 11
What should a China strategy contain? 11
GDP growth between 1978 and 2009 and average for the period (%)
2750 16
2500 A n n u a l G D P g ro w th (% ) 15
2250 14
2000 13
1750 12
M e a n g ro w th
1500 1 9 7 9 -2 0 0 9 (% ) 11
Percent
1250 10
Index
1000 9
750 8
500 7
250 6
0 5
G D P le v e l
-2 5 0 4
-5 0 0 3
80 85 90 95 00 05
S o u r c e : R e u t e r s E c o W in
Within a few years China will become the world's largest economy,
according to the Conference Board. In terms of purchasing power
parity, the US share of global production is expected to fall from
about 18% last year to 15% by 2020, while China's share is rising
from 16% to 24%. This compares with 2% of the global economy
when the country opened up.
The Conference Board, which used the World Penn Tables and
carefully studied pricing data in a larger number of Chinese cities,
predicts that China will pass the US in purchasing power parity
within a couple of years.
Obviously there are risks along the way: overheating and various Growth never follows a
asset bubbles that could burst, political turbulence, etc. But in our smooth curve
main scenario China will continue to grow quickly regardless of the
administration's desire to slow the growth rate.
Source: The Conference Board with data based on the World Penn Tables (6.3)
In dollar terms it will take longer for China to become the world's In dollar terms it will
largest economy. Today it is about 40% of the size of the US in take longer for China
dollar terms, according to the IMF. This figure is expected to rise to to pass the US
55% in 2015. This means that it wouldn't be until next decade that
China surpasses the US.
If you study GDP per capita, it will take even longer, i.e., several
decades, to pass other richer nations. But it could happen faster
than we think. Since 1990 alone, GDP per capita increased fivefold.
China is Sweden’s tenth largest export market and its ninth largest
import market.
Exports accounted for 3.1% of Sweden’s total exports last year, After the US, China
while imports accounted for 4.1% of total imports. This means that is Sweden’s most
China is now a more important market for Sweden than Japan, important non-
Russia and Poland, for example, and other than the US is the only European export
non-European country among its top ten export markets. While market
imports from China have grown eightfold in value since 1998,
exports to China have tripled.
800
Im p o rts fro m
C h in a
700
600
Index 1998 = 100
500
400
E x p o rts
300 t ill C h in a
200
100 T o ta l
im p o r t s
T o ta l e x p o rts
0
98 99 00 01 02 03 04 05 06 07 08 09 10
S o u r c e : R e u t e r s E c o W in
Relations between the EU/Sweden and China shouldn’t be Relations with China
measured strictly based on trade flows. You also have to consider involve more than just
other factors such as direct investments, which are now going in trade
both directions, as exemplified by Geely’s purchase of Volvo. In
education, students are studying in each other's regions and
research alliances are increasing. Moreover, tourism has grown in
recent years.
At the same time commodity prices have risen substantially as China’s impact on
China has pursued its goal to transition from a low income country commodity markets is
to a middle income country. Infrastructure is in need of huge
improvement, and China has responded by spending at an
accelerating pace. Export industry, for its part, needs raw
materials, including energy and various types of metals. China’s
development has had a significant impact on a number of
commodity prices in recent decades.
China’s growth has also created greater savings imbalances in the Savings imbalances
global economy. Because of its large savings and trade surpluses, between China and the
China's currency reserves have grown substantially at the same US remain a problem
time that the US current account deficit has risen as savings there
have failed to keep pace with consumption and investments. The
3 .5 0
3 .0 -1 0 0
2 .5 -2 0 0
USD (thousand billions)
2 .0 -3 0 0
USD (billions)
1 .5 -4 0 0
U S c u rre n t a c c o u n t
1 .0 (rh s ) -5 0 0
0 .5 -6 0 0
0 .0 -7 0 0
-0 .5 C h i n a 's c u r r e n c y -8 0 0
r e s e r v e s ( lh s )
-1 .0 -9 0 0
90 92 94 96 98 00 02 04 06 08 10
S o u r c e : R e u t e r s E c o W in
Global stock markets have also risen as new business Every foreign company
opportunities in China have helped many companies to improve isn't making money in
their profits. At the same time not every company that has invested China
in China has seen its earnings improve, due to strong competition
from other foreign companies as well as new Chinese businesses
that have been quick to copy their production methods.
China’s sovereign wealth funds have focused on funding strategic China has gradually
investments in companies, commodities and unique know-how. moved up the value
Through investments at home and abroad, China's export sector chain
has shifted from low to higher value production, which has meant
that competition for Western countries has increased.
0 .7
0 .6
P riv a te C o n s u m p tio n
0 .5
0 .4
Share
In v e s tm e n ts
0 .3
0 .2 P u b lic C o n s u m p tio n
0 .1
0 .0
E x p o rts
- 0 .1
60 65 70 75 80 85 90 95 00 05
S o u rc e : R e u te rs E c o W in
The key is to achieve more balanced growth by levelling the The goal is to achieve
income gap, stimulating domestic consumption, giving poor more balanced growth
households greater financial stability and improving the social with more quality
welfare system. This means that the growth strategy has to shift
from investments and exports to household consumption. Wages
have to rise and opportunities in rural areas have to improve.
0.45
Mid 1980's
0.40
Mid 2000's
0.35
0.30
0.25
0.20
0.15
0.10
0.05
0.00
China USA India UK Japan Germany Sweden
There has been criticism that the development strategy until now Not easy to transition
has prioritised quantity over quality. The question is how quickly from quantity to quality
the opposite can gain traction, so that China puts more emphasis
on quality in its manufacturing. Raising value-added takes time. A
research budget at 2.2% of GDP until 2015 is one way to achieve
this goal.
Similarly, many are worried about the lack of a common set of Without democracy,
values worthy of the name that isn't based simply on economic what values is Chinese
progress. A big challenge will be to permit greater pluralisation and society being built on?
democratisation at a local level within the current political system.
One goal is to reduce corruption, but this too was set earlier and
won’t be easy to meet. Expropriation of land by local governments
is the main reason for people’s demonstrations and uprisings.
The rapid increase in real estate prices is also a reason for the
increasing gap in wealth and income. The winners are those in the
upper middle class and the rich who were fortunate to build their
wealth early on, while students and recent urban immigrants are
the losers who are having a hard time affording housing.
Change in real estate prices in China’s major cities since year-and 2005 (%)
0 10 20 30 40 50
Beijing
Tianjin
Shenzhen
Hangzhou
Shenyang
Chongqing
Wuhan
Guangzhou
Nanjing
When wages and prices rise faster in China than the rest of the The yuan will
world, the Chinese currency, the yuan, appreciates in real terms. It appreciate, but mainly
is likely that China to some extent will accept a faster nominal in real terms
appreciation, which would ease inflation pressures, although real
appreciation will be the main focus.
Nominal and real exchange rates and spot prices vs. US dollar
130 8 .7 5
R e a l e f f e c t iv e e x c h a n g e r a t e
125 8 .5 0
U S D /C N Y
120 8 .2 5
115 8 .0 0
110 7 .7 5
USD/CNY
Index
105 7 .5 0
100 7 .2 5
95 7 .0 0
90 6 .7 5
85 N o m in a l e f f e c t iv e e x c h a n g e r a t e 6 .5 0
80 6 .2 5
96 98 00 02 04 06 08 10
S o u r c e : R e u t e r s E c o W in
To date China’s consumer and service markets have not been the The consumer and
main reason for trade and investment, but this will change as service markets will
millions of Chinese see their incomes grow in the years ahead. At increase in importance
the same time competition is increasing from domestic companies
that in many cases better understand their customers’ needs.
Adapting products – both goods and services – to customers and
being innovative enough to create new products will be important
to players in the market. Foreign companies could benefit
competitively from their better understanding of environmental
thinking, sustainability and corporate social responsibility (CSR),
all of which are having an increasing impact on demand.
Moreover, China continues to increase its investments abroad, The Chinese business
especially in Africa, where the emphasis is on commodities. The model is difficult to
question is still China’s business model. Often there are factors understand
involved that go beyond the purely economic, whether it is
maximising production, obtaining access to raw materials and land,
obtaining technological and commercial expertise, or securing
access to foreign markets. There is a more even exchange when
China invests abroad, but outsiders can still expect a lack of
openness in the future, which will continue to complicate
relationships between the decentralised, multifaceted private
business sector in the West and more centralised state-run China.
In January we predicted that China’s GDP growth would slow to Lower growth in the
8.5% in 2011 and 8.1% in 2012. The main reasons for this were rest of the world and
slower growth in the rest of the world and economic austerity austerity measures will
policies in China to reduce the risk of overheating. slow growth compared
with 2010
These arguments still hold, but slightly faster growth in the US is
boosting activity in China as well, which increases the need for
austerity at home but doesn't always have the desired effect on
growth. Faster Chinese growth at the end of last year is pushing
growth higher in 2011, so there is good reason to expect slightly
stronger growth than in the January forecast.
On the other hand, Japan's catastrophic situation will reduce Japan is an important
growth globally for a while, until the recovery eventually leads to trading partner for
higher growth again. Japan is China’s most important trading China
partner, accounting for 13 percent of China's imports last year.
Chinese manufacturers could suffer a setback when input goods
produced in Japan are not available. It could also mean less
Investments have driven growth in recent years, but as the impact The rate of investment
of stimulus measures fades and refinancing costs rise, the rate of is beginning to slow …
investment will decline. The appreciation of the yuan, especially in
real terms, is also making conditions tougher for exporters. In
February a trade deficit was reported. Imports increased by 19.4%
at an annual rate, while exports rose only 2.4%.
The rate of consumption instead increases as wages rise, but at … while the rate of
the same time is held back by higher inflation, which exceeds 4% consumption is rising
according to official statistics but is even higher for ordinary
people, since energy and food have risen even more and account
for larger share of their spending. We expect the real estate sector
to gradually contribute less to growth as authorities try to lessen
the risk of overheating
There is a risk that authorities will not succeed in tightening The risk is that
economic policy, which would raise the prospects of both growth austerity will have
and inflation. For one thing, higher cash requirements and little impact
benchmark interest rates rarely stop state companies from
investing. Secondly, consumption can rise faster when wages
improve. In a scenario where lending rates remain high, bad loans
will increase as well, which would create the need to recapitalise
the banking system in the medium term. The lending rate has
slowed lately, however, but with negative real interest rates there
is risk of another upswing.
After all is said and done the EU is China’s most important export The EU is seen as
market. The region takes a backseat, however, when the rest of a lightweight and
Asia, America and Africa are more important to China's interests. fractured when it
China regards the EU as an economic rather than a political union, comes to foreign policy
which makes it hard to find right spokespeople and access to the
organisation. The EU is split based on national interests and
therefore carries little weight when it comes to foreign policy. It is
easy for China to play EU member states against each other and
There is also the question of how China will be integrated into the
global economy. Will it be with the current world order, with the US
in the driver’s seat, or with a world order more suited to China’s
growing importance? This is also an area where the EU should
have a say.
The EU seems to have its hands full with its own agenda, i.e., the The EU is busy with its
debt crisis in the euro zone, including the competitive disparity internal agenda
between countries, expansion and the Lisbon Strategy. It was only
recently that the EU appointed a foreign policy spokesman in the
person of Catherine Ashton, but it doesn’t seem that she has a
mandate yet to more aggressively address the relationship with
China.
What is happening with China’s activities in Eastern Europe, a What is driving China
market it has shown great interest in? It has also shown increasing to invest in Europe
interest in financing the budget deficits in the PIIGS countries, and Africa?
A more fundamental question is whether the current world order Should the world order
with the US in the driver’s seat has to change as China (as well as be adapted more to
India and other emerging countries) gain ground, and what role China and other
Europe wants to play in its development? emerging countries?
How will the new leadership (probably Xi and Li) that takes over
within a few years change China? When it is the world's largest
economy, not only in purchasing power but also in dollar terms,
which will happen within two decades, will power shift to where the
monetary resources are.
Cecilia Hermansson
Ekonomiska sekretariatet
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