Indian Tiger Chinese Dragon
The Chinese economy is far more insulated from its equity market plunge than many commentators would have us believe. However while equity market fears are overblown, we discuss the implications for the Global Economy, and discuss whether India can now position itself as the premier emerging market economy over the next decade.
During the past two decades, the rest of the world has gauped on with envy as to the Chinese Government’s ability to sustain an economic expansion unprecedented in history. The recent plunge in the stock market, has chipped away at the veneer of Chinese economic success. However that said the West is still acutely aware of the importance of Chinese consumers, so much so, that data released a couple of weeks ago illustrating they were still in the mood for luxury goods assuaged fears in Washington and Brussels. Indeed Apple shares reclaimed the $66 billion they had lost; the Dow Jones blue-chip index, having opened down a calamitous 1,000 points, rebounded.
The slowdown in Chinese growth has of course been felt beyond stock markets. A broad basket of commodities has fallen to a 20 year low, oil is at six-and-a-half year lows, emerging-market currencies have been in free fall , while The VIX index, sis at its highest level since 2011.
Of course, the market is keen to gauge where China’s economy—and so the world’s—stands. In terms of global impact, a “hard landing” in China would now rival an American depression. Commodity exporting nations such as Australia and Azerbaijan have grown fat on the back of Chinese growth and insatiable demand for raw materials and energy.
Certainly, there are reasons to think it is in trouble. Exports are stumbling, bad loans rising and the industrial sector at its weakest since the depths of the global financial crisis. Government claims that the economy is growing at 7% should be taken with a pinch of salt.
Is this the start of a Chinese led global downturn? There are a few signs of concern, the Industrial Sector is at its weakest since 2008, bad loans are rising and exports have slowed, and of course the stock market has taken a huge hit. However such a myopic view is misleading. The Chinese stock market is relatively unsophisticated, and is firmed in the ‘Emerging Market’ sector, with volatility, swings being par for the course. Furthermore the bourse is small, with a tradeable valuable of 33% to GDP, compared to more than 100% in developed markets. Around 15% of China’s household wealth is invested in shares and some investors did borrow capital to buy stocks during the Bull Run and some of that debt will default. However it accounts for 1% of total banking assets, a potential hit that would barely cause a ripple.
The real estate market is far more important, as housing and land account for the vast majority of collateral in the financial system and play a much bigger role in spurring on growth. After a difficult start to the year, the property market has rebounded. House prices have risen nationwide for three straight months, two months after the stock market plummeted, the real estate growth continues.
Heavy industry is, struggling, in fact the north-eastern rust belt is on the brink of recession. But China is a large diversified economy, and the service sector – which accounts for a bigger share of national output than industry – is growing rapidly. Retail sales remain strong.
Further turbulence should be manageable. On August 25th the central bank cut interest rates and reduced the portion of deposits that banks must lock up as reserves. The central bank looks set to continue cutting both, reducing funding costs for borrowers and freeing up more money for banks to lend. These are the sorts of tools that Western economies do not have.
Long term drags on growth
Even if China holds up well enough now, there is still the worry that a sharper slowdown lies ahead. Debt, by some counts, has reached more than 250% of GDP, almost doubling over the past seven years. Increases of that magnitude have presaged crises in other countries, from Japan to Spain. At the same time structural trends are turning against China. Its working-age population is now shrinking.
If China does press on with its reform agenda, it could yet open up and modernise its economy without suffering a serious crisis. But even if it succeeds, there will be negative consequences for others.
A slow shift to a service driven economy, has probably meant that demand for commodities has probably peaked. As eluded to entities that have succeeded on the basis of exporting to meet China’s insatiable demand – aluminum to oil – will suffer in the short term. Furthermore the prospect of a resurgent USA and UK coupled with a Chinese slow down, will disproportionately hit Emerging markets, some more than others. Brazil suffers on both accounts, as it is a large commodity exporter, and runs a current account deficit funded by foreign capital. Currencies of similar countries such as Argentina and Mexica have also suffered, as has Malaysia and Indonesia.
Turkey’s issues revolve primarily around an over reliance on capital inflows, which are being reallocated due to political turbulence and a strong performance of the G4 economies.
Step Forward India
Amidst the downturn in Emerging Market economies, perhaps India can stand out and position itself as China has done over the past decade, and become the driver of global growth, but to do so it must shed the legacy political wrangling and bureacractic inefficicnies.Indeed, Last year Modi comprehensively won the elections on the mandate of replicating his economic success – if controversial tenure – as Chief Minister of Gujarat onto a national level.
Contradictions a Plenty
India has always promised. It has an entrepreneurial spirit which pre-dates independence, and approximately and roughly half of the 1.25 billion population is under 25 years old. It is a nation of extremes, with more people living on less than $1.25 a day than on the entire African continent, yet it boast almost twice as many billionaires as the UK. Its tax system is navigate with a variety of national and state taxes, rendering it in the bottom quartile of country’s in the ease of business index.
While its GDP grew by 7.5% in the last quarter of 2014, and remains impressive this year, it has also managed to wrest inflation into single digits. The rupee remains stable, has an impressive stock market, while a slump in commodity prices is a boon rather than a hindrance.
Bold reforms are needed if this is to be India’s decade. China’s rise was built on export led manufacturing, the scope for India to replicate this is limited. Onlookers comment, that India must employ a mixed approach, expanding its participation in both Global Industry and Services.
Stifling bureaucracy, bloated infrastructure projects, land ownership disputes, a myopic tax system and a fractured parliament are a few long term issues the country faces. And while Modi has been in power for just over a year, the electorate is getting restless that promises haven’t been kept, and some issues – such as land reform – seem to be deteriorating. Furthermore India’s infrastructure is still notoriously poor, and pales in comparison to not only China, but its Westerly neighbor Pakistan.
Some issues are structural, for example, land purchases have proven to be a major drag on the speed of infrastructure developments. While China’s political system allows for swift land acquisition and development by the state, India’s archaic land laws mean that infrastructure developments are often delayed due to land squabbles.
Inefficiency in the power network is endemic, with manufacturers often losing 5 hours of power a week. The privatisation of coal mining licenses, was a step in the right direction, though more is holistic reforms are needed.
India and China have a long intertwined history. Historically China has had a far greater sense of nationhood and national identity, with India often divided amongst several centers of power. However, even on the rare occasions that the sub-continent was unified Sino-Indian relationships had always been amicable and fruitful with not only economic trade but the constant exchange of ideas (lest we forget Buddhism originated in India).
This was in part also due to the inaccessibility and the fact that the Tibetan kingdoms had always formed. The last 60 years are complicated to say the least, and beyond the scope of this article to narrative thehumiliations that China has heaped upon its Southerly neighbour (that’s not to say India has been a passive recipient, as Indian support of Tibetan independence, and new evidence to suggest they have been arming Uighurs). Relations have warmed over the past decade as economic priorities have overlapped, however there is still a great deal of acrimony and competition over regional leadership, with both countries exercising soft power levers in Sri Lanka, Burma, Bangladesh and Afghanistan. Thus Indian policy makers would greatly love to take advantage of China’s latest economic hiccup.
Indo-Pak relations have been a festering sore on the landscape of sub continental politics since independence seven decades ago. While India’s worldview naturally looks beyond Pakistan, the non-existence of relations is surely a huge drag on economic growth and dominance.
While trade between Pakistan and India has grown by a factor of seven, over the past decade, it still stands at a measly 2.3 billion dollars in 2013 (double if you include the black market and third party channels such as Dubai). Indian exports to Pakistan, account for 80% of this figure. Though to put these figures into perspective Indian exports totaled $463bil last year, (so exports to Pakistan represented a mere 0.4% of all exports). In comparison Chinese exports to Japan – a pair who have never been the best of neighbours to say the least – account for 7% of all Chinese exports.
The benefits of more integrated trade links would be mutually beneficial. If Pakistan were to allow transit facilities overland to India, it would substantially reduce export costs for those exporting to India. Furthermore it would allow Pakistan to act as an energy corridor to meet India’s energy needs. Finally Pakistan would be able to enhance its agro and manufacturing exports to India.
For India the benefits are far more numerous. Direct access to the markets of Central Asia and Iran, as well as access to Pakistani ports would significantly reduce export costs. Furthermore Pakistan would act as a de facto Indian state, a huge market for India’s global health, tech, information, tourism and entertainment industry. Border towns would also benefit, for example smaller towns in Indian Punjab could replicate pre 1947 trading patterns if given access to Lahore, giving the region a second wind.
While this remains optimistic, and is dependent on a substantial détente between both nations, now is as good a time as ever for that moment to come, with both countries being ruled by right-governments, both of whom have the credibility within their voter bases to sell a tough peace.
The new Chinese ‘normal’ will no doubt be single digit as opposed to double digit growth. Amidst the gloating and scare mongering, while there are concerns, the Chinese economy is resilient enough to avoid a prolonged implosion. Perhaps the biggest impact the crash in Shanghai has had is to chip away at the veneer of Chinese ecnomic invicibility.
The US economy is insulated from a Chinese slump – just 8% of exports go to China, worth around 0.8% of GDP – another reason payrolls number (though lower than expected) has priced in a likelier probability of US rates rising. However the combined impact of the US looking to traise interest rates, and a Chinese slowdown has adversly impacted a number of Emerging Market economies from Brazil to Indonesia.
Step forward India. Will it take over the baton from China, a leading driver of Global growth? Unlikely at the moment due to a number of structural issues, however with strong leadership and decisive decision making, India should transform itself from a regional bully to a global superpower. What can be said with surety is that we are in for an interesting few years.
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