The warning shots were fired in late-January when the International Monetary Fund (IMF) warned that a faster-than-expected slowdown in China could damage “systemic financial stability, as it lowered its 2019 projection for economic growth globally.
The IMF forecasts that the global economy will grow by 3.5 per cent in 2019, it said in its latest World Economic Outlook (WEO) report, down from its October forecast of 3.7 per cent, which was itself lowered from a 3.9 per cent forecast set earlier that year.
The latest statistics point to the fact that China’s economy grew 6.6 per cent in 2018 –the lowest level since the 1990s – seemed to bolster critics’ skepticism that Chinese central government moves to address its ailing economy were nothing more than a ‘too little, too late’ remedy. Worse, the Chinese government’s ‘easing up’ policy combined with stimulus could lead to another debt-disinflation cycle, some suggest.
The Chinese government’s move was clearly provoked by the prospects of weaker industrial activity and trade growth, and worse still for Beijing, impending job losses.
Amongst the many problems in the Chinese economy is the fact the central government continues to support its so-called state-owned enterprises. Inefficient and uncompetitive, these businesses rely on government subsidies to keep the lights on and people employed in what some analysts describe as ‘make-work jobs’.
According to a Bloomberg report, borrowing by state-owned enterprises accounts for a whopping 75 per cent of new loan activity in China. Even private enterprises have fallen into deep trouble from previously easy borrowing, as the HNA Group debacle clearly highlights.
Some believe the weakened – as a result of multifarious reasons – Chinese economy will force the government into concessions in trade talks with the US. Certainly the US appears in a dominant position at the moment with a buoyant economy. Quite likely not as a direct result of Trumps erratic policy moves, but none-the-less, one that looks like its playing into the hands of the irascible US president quite nicely.
US and Chinese negotiators are now racing against a 1 March deadline to form some kind of an agreement that, among other things, addresses Washington’s concerns over the alleged theft of US intellectual property by the Chinese. On 1 December President Trump delayed for 90 days a threatened 1 January increase in US tariffs on USD 200 billion of Chinese imports from 10 to 25 per cent.
Trump has also warned that, should a deal not be reached, additional tariffs on USD 267 billion of additional Chinese imports currently exempt from the levy would be imposed. Should he follow through on the threats, virtually all of China’s imports to the US would face some form of tariffs.
It would of course come at a significant cost to US consumers, but that’s clearly not on the forefront of Trump’s concerns. For the air cargo sector, the pain could be very real.
‘Plan B’ for Made in China
Various companies have already been working on their ‘Plan B’s’, which range from very small companies all the way up to the likes of Apple suppliers. The tech giant’s China-based production companies have begun making plans and in some cases implemented those plans, for diversifying their production facilities.
These companies are now putting their, likely long studied, plans into action to shift production to neighbouring and cheaper, Southeast Asia and also India.
Hon Hai Precision Industry, also more widely known as Foxconn, said recently it’s investing more than USD 200 million in India and Vietnam. Smaller rival Pegatron Corp. also says it’s moved some manufacturing of networking gear hit by rising US tariffs on Chinese imports, to Indonesia and is now also exploring bases in Vietnam and India as well.
“We have begun shipping from Batam island, Indonesia, in January,” Pegatron chief executive officer Liao Syh-jang told reporters recently according to Caixin. “Whether the US will decide to go ahead with new tariffs on 1 March will be a key impact on the speed of the company’s further diversification.”
Neither says outright that they are shifting Apple production, but it doesn’t take much reading between the lines to understand what is happening.
There’s also a strange facet of globalisation revealed in this. That a country – or renegade province, as China refers to Taiwan – would be the largest global manufacturer of electronics within China itself, is indeed a unique element of global production.
As Caixin notes: “Taiwan’s largest corporations form a crucial link in the global tech supply chain, assembling devices from sprawling Chinese mainland production bases that the likes of HP Inc. and Dell then slap their labels on.”
Down but not out
But not all are in agreement with the demise of Chinese manufacturing. An important consideration is the fact that the Chinese economy is not so dependent on the outside world as it was even half-a-dozen years ago. It very nearly is the world’s largest economy and will be, very soon.
Domestic consumption is a key component in keeping the economy growing and certainly will be the mainstay in the coming years. This supports a whole raft of Chinese companies engaged in home appliance and electronics manufacturing for instance.
The optimism that the Chinese economy is more resilient than many think, is exemplified by Morgan Stanley Research whose economists argue that China’s actions could bear fruit sooner than investors expect.
The investment bank highlights that for the past two years, China has been focused on supporting financial stability and that should not be dismissed lightly, although the ‘easing efforts’ have only been in the works since about June 2018. Among these so-called easing efforts has been the encouragement to the private sector to increase its spending.
This is part of the Chinese government’s move in the stimulus arena. The government has embarked on a plan to stimulate growth, which includes measures aimed at enabling banks to lend more, consumers to save on taxes, and companies, banks and provincial governments to issue more bonds. And we cannot ignore the fact that it’s also highly likely that trade tensions will ease, at some point, hopefuly sooner than later.
“Policy makers are now encouraging the public sector to do the heavy lifting on spending,” says Chetan Ahya, global head of Economics at Morgan Stanley Research. This includes the acceleration of local government bond issuance. At the same time, China continues to support other key reforms, such as reducing poverty and minimising pollution levels, all important facets of sustainable, long-term growth.
“To be sure, we expect first-quarter growth to be relatively weak, at 6.1 per cent,” says Ahya. “But that should mark the bottom of the growth cycle, with annualised growth trend improving in the second quarter, and eventually reaching 6.4 per cent by year end,” as Robin Xing, Morgan Stanley Reserch’s chief China economist expects.
These efforts took on new impetus in December 2018, as the teeth of US tariffs bit deeper. Analysts, not just Morgan Stanley, say additional stimulus will likely see continuing bond issuance to support provincial and municipal spending, continued cuts to value-added taxes to help manufacturers and exporters, and further easing on the banking front.
Other efforts include pro-consumption measures, such as subsidies for the purchase of automobiles and household appliances and, potentially, interest-rate cut, analysts add.
Supply chains and ‘bystanders’
It may well turn out that both global economic and air cargo supply chain concerns are somewhat misplaced. The vast array of products made in China will still to a large extent be produced there. While some will undoubtably shift to cheaper Southeast Asian and Indian markets, this will also be a windfall for these lower-tier developing markets like Southeast Asia.
This surely must be seen in the light of a development that is not only much desired, much beneficial to the huge developing population in this region, but perhaps much deserved after years of being a low-key, low-value, sub-component manufacturing region.
Indeed the impact is already clear, according to a report from the United Nations Conference on Trade and Development (UNCTAD). The report notes that the trade dispute is not benefitting either the US or China, but rather, what it calls the “bystander nations”, which are profiting by capturing some of the diverted exports of the trade giants.
The European Union is one beneficiary of the trade war, according to UNCTAD. The EU is likely to capture about USD 70 billion of US-China trade, with USD 50 billion of Chinese exports to the US, and USD 20 billion of US exports to China.
Mexico would be able to capture USD 27 billion of new business with the US, which represents about 6.0 per cent of the country’s total exports while Australia, Brazil, India, Philippines, Pakistan and Vietnam are also expected to see substantial increases in their exports.
For the air cargo supply chain, it will mean a reconfiguration, but certainly not catastrophe. In fact, it may even be a good thing.
The huge reliance on the China market has put precipitous pressure on yields depending on time of the year and new product releases and in the old days, severe imbalances, that all-in-all might benefit from a wider dispersion of this manufacturing.
As to where this trade war will lead and for how long it will rage, no one can be sure. For now, its a wait and see game.