Corporate Q&A

Not decoupling after all

Latest China trade data suggests ‘re-globalisation’ trend, says top analyst

Jonathan Anderson w

Anderson: export data was “huge”

“Huge” is how Jonathan Anderson describes this week’s balance of payments data from China. Anderson – president of boutique research house Emerging Advisors Group – is one of WiC’s favourite China economists and we caught up with him this week for more on why the trade data was so significant.

In March we spoke to Anderson about China’s push towards what Beijing terms as a ‘dual circulation economy’ (see WiC533). In this follow-up Q&A, he argues that the stellar export gains that the Chinese enjoyed in 2020 can no longer be treated as just a blip brought on by the pandemic. Instead he now thinks the gains look ‘stickier’ and here to stay. And forget the decoupling trend for the American and Chinese economies too. The latest data points to a ‘re-globalisation’ process, he points out.

The persistently high balance of payments numbers also send strong signals on the direction of China’s currency and raise questions as to why the foreign exchange reserves haven’t increased far more.

All told, Anderson thinks China’s huge surpluses will soon start to register more broadly and set a course for more political bickering with Washington and Brussels.

China’s trade surplus widened to a record high of $87 billion in October. Did that surprise you?

Yes, absolutely. Especially compared to where we were six months ago when we were looking for two things to happen. Number one, we expected global export momentum to peter out as commodity prices peaked and the pace of recovery started to fade in both developed and emerging markets. And the second thing we were looking for was for China to give back some of the very significant and unusual gains it made during Covid in terms of global export market share.

By way of quick background: starting a decade ago China had started to “flatten out” on the trade front. It had gained a lot of export competitiveness in the 1990s and early 2000s as it became the factory of the world. That process had ended by around 2011, when China went flat in terms of global export share. Yes, it was still gaining a little in terms of IT and electronics and some higher value-added segments, but by the same token it was losing market share in traditional industries and labour-intensive light manufacturing, where plants were being shut down and moved off to countries like Vietnam. So the halcyon days of the Chinese export boom looked to have ended a decade ago.

That changed with Covid in 2020. Suddenly things went haywire. China goes into lockdown, of course, but it very quickly beats the virus and comes back out of it. It basically reopens for business in April, at the same time as the rest of the world is shutting down. Suddenly in the second and third quarter of 2020 China starts seeing a big influx of orders for exports, and manufacturing order books fill to the brim. A lot of capacity that had left China comes roaring back, as China is the one place that is open for business.

If you look at this in market share terms, the Chinese share of global industrial trade and exports jumps from 25% to close to 30%… which is a big number.

At the time we saw this as an unusual, short-lived, one-off event. As the world economy came back in 2021 and as people went back to work and factories reopened, we assumed that order books would “renormalise” back to where they were in 2019. This was what we spoke about in March.

But that has not happened. Not only have overall global exports continued to grow rapidly over the past six months, but importantly for China its share today is still at that 30% mark. It hasn’t given up a whit. And this is 18 months later. The rest of the world has come back online, demand has rectified and most of the world is back open for business. But those manufacturing export orders have stayed in China.

It’s super-interesting. We talk about a deglobalising world but the reality is the globalisation coefficient has actually increased after Covid, as you have had more outsourcing to the Chinese factory economy.

Why has this happened? Why is demand for Chinese goods so ‘sticky’?

That’s what we are trying to get to grips with now. The underlying economic rationale behind our assumptions last year was that China now has a fairly expensive labour force by global standards. And once that happens, you don’t gain market share anymore. You give up your low-end industries.

So the big surprise is how sticky those gains have been – and how diversified. If you look at where China has regained market share, it’s been across the board. You’ve had low-end factories that were on the verge of shutting down now operating at full capacity. And the same for high-end sectors like smartphones.

The natural economic logic would be that this won’t last and you’ll see the same economic forces pushing diversification and orders back out of China. But it could take a number of years. One of the lessons we’re learning is that once you have got those orders and rerouted supply chains back through Chinese factories, it takes time for them to move away again – production seems to have comfortably settled in China.

To be clear, China’s export market share is not growing anymore. This all happened in a three-month period last year. But it is also not declining. And as a result China’s trade numbers are phenomenal.

So the data suggests that the ‘great decoupling’ that Donald Trump talked about hasn’t happened?

It hasn’t happened at all. And I mean this in two senses.

First off, in 2017 and 2018 you have the onset of the Sino-US trade war, with tariff restrictions and sanctions on Chinese trade. If you look at the US import data, sure, imports from China fell off a lot. However, if you look at Chinese export data, they didn’t. China continues to ship the same volumes to the US as before.

If you then parse the US data, what you see is a big drop in imports coming from China – but also some offsetting increases in trade coming from neighbours like Malaysia, Thailand and Vietnam. There are still big gaps, but there’s also evidence that Chinese goods destined for the US are being relabelled by routing them through other countries. So what was being trumpeted by US policymakers as a trade war “success” is much less clear, and could be more of a fiction than real.

So there wasn’t the deglobalisation trend we thought, even prior to 2020.

Then surprise number two: the pandemic. It was supposed to further the cause of reshoring, but ends up doing the opposite. You’ve had a lot more outsourcing and trade that’s moved back to China – and that’s especially true of goods going into developed markets.

So again China has gained market share – and if you ask who lost share, it’s not neighbouring Asian exporters. Rather, it’s mostly producers in the final markets of Europe and the US, which have had a very weak manufacturing recovery. They are the ones that saw a lot of orders go back to China and stay there. So over the past two years it’s been a ‘re-globalisation’ process!

On the other side of the balance of payments equation what’s been the impact of China’s closed borders, given Beijing has basically blocked overseas travel?

From a China macro perspective, just to set the stage, you had this big boost in export order books, but you didn’t have the same thing on the import side. Chinese demand did recover, of course, but not enough to offset the impact to the same extent as this big export shock. This has really increased the trade balance a lot: China was running a surplus of 2-3% of GDP coming into Covid and now it is running closer to 6% of GDP.

The other component of this is what you are seeing on the services side. Prior to 2020, you had a widening services deficit. Most of that was concentrated in tourism, which comprised of Chinese going out and spending money in Thailand and Europe and so forth and which was equivalent to about 2-3% of GDP. Chinese tourists were suddenly one of the biggest spending components of international tourism. And the numbers were much, much bigger than tourists coming into China, so you had this net outflow, if you will – a services deficit.

So put all that together. In 2018 and 2019 – on the eve of the pandemic – China was barely running a current account surplus at all. They were in surplus on the trade side and had a deficit on the services side, primarily from tourism and travel. That summed up at close to zero.

But the collapse in global travel and the continued lockdown of the Chinese borders means that no one is leaving the country. The population is essentially stuck at home. What that has done is remove the services deficit. You still have a mild deficit there, but a couple of percentage points of GDP have disappeared. Combine that with the big increase on the trade side, and the net effect on the balance of payments is huge. China is now running very large current account surpluses. And these might be understated, by the way. The official numbers have risen to 3-3.5% of GDP, but there is a suspicion that the actual number could be 5%.

In the past politicians in Europe and the US would be jumping up and down about these numbers. Why not this time?

A couple of things. Number one is obviously the whole world has gone into massive shock and everybody’s numbers have gone haywire. And to be honest, it isn’t really till you parse the details of what is going on that you really start to see how big these shocks have been for China on an underlying basis. I don’t think global policymakers have really had time to focus on this, because of everything else we are dealing with in the world economy.

That’s one part of the story. The other, more interesting part is that China is working very hard to soft-pedal the data. Given the magnitude of the shocks – which you can measure from the bottom up – we would have expected a much bigger current account surplus in the balance of payments statistics. That hasn’t materialised. The official figure has been surprisingly moderate. So you suspect that what is happening is a bit of fiddling with other parts of the balance of payments to reduce the overall magnitude.

The official forex reserves haven’t grown much either, hardly budging over the past 18-24 months. They’ve risen at the margin, but by almost nothing.

And for US policymakers, the view is typically that it is a question of currency manipulation. China is running these big mercantilist surpluses, with an interventionist policy, and the accumulating forex reserves are the smoking gun. But in the latest episode the reserves haven’t been growing in the way that you might expect. So there is a big debate among analysts and economists as to what is going on.

So what is going on?

The official explanation would be that outflow pressures have increased on the capital account side: i.e. there’s a lot more pressure from people wanting to take money offshore, despite the closed capital account.

The alternative explanation – and the one more favoured by many observers – is that they are hiding the reserves elsewhere. If you look at the state commercial banks in China, their net dollar position has grown a lot over the last 18 months. They have accumulated about $400-500 billion of forex balances on a net basis. So the idea is exporters are selling dollars back into the banks but banks are holding onto them and not selling them back to the central bank. Essentially they are acting as quasi-reserve agents.

There’s also a lot of stories about exporters being asked to hold their dollars offshore and not bring them back for the time being. So reserves are accumulating but they are being held at the level of banks or exporting companies. They don’t show up in the central bank balance sheet.

No one knows the full reality. But there is a very strong indication that dollar balances are building up, just not at the central bank.

What does the trade data tell you about the direction of the renminbi?

As all of these underlying issues have become more apparent, Chinese policymakers have let the currency appreciate – and a lot more than we would have expected.

Over the past five or six years they have held the renminbi within a fairly tightly managed band. In this situation with these huge trade surpluses, you have a much larger surplus of dollars coming in. As a result, lo and behold the renminbi has essentially broken out of the band and it has appreciated 7-8% against its baskets. That’s a big move for the currency. Against the dollar the yuan has gone from the 7s down to 6.4 or so. And it’s still moving.

Coming into the year, our expectation was the surpluses would be temporary. The Chinese would give up export market share and as a result the renminbi would correct back to its average trade-weighted levels of the past five years. But that hasn’t happened. It’s now very clear that we are not in that world anymore and in all likelihood the renminbi is going to continue to appreciate.


© ChinTell Ltd. All rights reserved.

Sponsored by HSBC.

The Week in China website and the weekly magazine publications are owned and maintained by ChinTell Limited, Hong Kong. Neither HSBC nor any member of the HSBC group of companies ("HSBC") endorses the contents and/or is involved in selecting, creating or editing the contents of the Week in China website or the Week in China magazine. The views expressed in these publications are solely the views of ChinTell Limited and do not necessarily reflect the views or investment ideas of HSBC. No responsibility will therefore be assumed by HSBC for the contents of these publications or for the errors or omissions therein.