The detrimental, global impact of China’s slowdown
Over the past decade, China’s annual GDP
growth has averaged at just under 10pc, but recent figures show that this trend
has been broken. In the last quarter, China’s reported growth has been 7pc and Western
Economists suspect that growth has been much lower and set to decrease further.
China’s demand for commodities has decreased as she shifts her economy to
consumption, away from investment, thus depressing global prices. Earlier this year,
the Yuan devalued, resulting in further decrease in global demand and so repercussions
in the global economy.
Why is there a slowdown?
China’s growth rate is expected to continue
to decrease in the coming years, with Economists such as Charles Bean, from the
LSE, suggesting that the annual rate of growth is likely to fall to, and remain
below, 6pc. The cause of this reduction in the growth rate is many. Due to
China’s One Child Policy, the fertility rate is 1.6, meaning that China has an
ageing population with few adults to support these pensioners. Therefore, as
the number of adults will decrease, and these adults are expected to have a
lower disposable income, due to a greater contribution to support the
pensioners, this is expected to decrease the aggregate demand for goods both
domestically and globally. Furthermore, it is thought that rural-urban
migration will decrease as cities have become heavily congested, thus leading
to a reduction in the output of factories, decreasing exports.
Emerging Markets
Importing 1 in 13 barrels of crude oil
globally, China is the world’s largest importer and consumer of oil. Moreover,
she consumes 50 pc of the world’s nickel and 50pc of the world’s aluminium.
However, as China’s demand for these commodities has decreased in the past few
months, with global aggregate demand has decreasing substantially. This has
resulted in a reduction in the price of Brent Crude from $75 a barrel in
October 2014 to under $50 a barrel today. This has been compounded by the fact
that China devalued the Yuan in August by 2pc.
Devaluation has resulted in imports becoming
more expensive for China, and so the quantity demanded of cooper ore, oil and
soya beans globally has decreased dramatically, as China is the main importer
of such commodities. However, we should note that in July the price of Brent
Crude fell by $10 when it was revealed that Iran’s oil production capacity had
increase; although, this has not had as large an impact on world oil prices as
China’s slowdown has.
As Emerging Markets rely heavily on
commodities as their main export, the decrease in prices of commodities has
reduced the GDP for these nations. Oil dominates 90pc of Saudi Arabia’s exports
and so a fall in the global price of Brent Oil is expected to result in a substantial
reduction in their revenues. Indeed, Australia has also seen a reduction in
revenues in the past year due to China’s fall in demand. Australia is the world’s
largest exporter of iron ore. In recent years, miners expanded production,
believing that high demand from China would continue for many years. However,
these new mines are now not proving profitable, as the price of iron has
decreased by almost 2/3 over the past 2 years, reducing revenue for Australia’s
economy.
As China is a major trading partner for most Emerging
Markets, this drastic decrease in demand has directly resulted in a reduction
in their revenues and so a slow-down of their economies also. South Sudan
exports a large proportion of its oil to China, and so a slowdown in China’s
economy has thus decreased the demand for Sudan’s oil, decreasing its price and
so resulting in a fall in Sudan’s GDP. Moreover, this reduction in demand has
resulted in commodity extracting industries to operate below their productive
capacity.
China’s population is estimated to decrease
substantially in the coming decade, due to the fact that her fertility rate is
only 1.6, and a fertility rate of 2.1 is needed in order to maintain her
present level of citizens. Thus, it seems highly unlikely that demand from
China will increase in the future, and, indeed, for this reason, it is expected
to decrease. However, due to Africa’s recent diversification of trading
partners, China may not have as drastic an impact as it first appears. It is
hoped that South Africa and Kenya will continue to increase their GDP and thus
place a greater demand on commodities within five years, in order to increase
the prices of these commodities and so revert the slow down in other emerging
markets. In addition, as only 3pc of China’s population has a passport, and
this figure is set to increase, it is hoped that Chinese citizens will help to
increase aggregate demand in Emerging Markets and developed countries through
tourism.
FDI
A further repercussion of a decrease in
China’s investment in emerging markets may be an increase in bankruptcies. Over
the past decade corporate firms in China expanded their global presence by
borrowing heavily and investing in emerging markets through initiating railway
projects and oil extraction ventures. China has invested money into Zambia by
improving infrastructure such as roads, and increasing human capital by
building schools and setting up modern hospitals. However, with a slowdown in
growth in China, these firms’ domestic revenues are declining, making it more
difficult to service their debt. Thus, this is likely to result in a reduction
in funding for these foreign firms and a decrease in overall investment.
Due to the fact that China was the greatest
investor in Africa, a decrease in investment could be detrimental to Africa’s
productive potential. China’s favourable trade agreement with Angola is thought
to be threatened due to the slowdown. China negotiated a price for Angola’s oil
below the initial market value, with Angola’s oil companies, in turn, receiving
loans to expand the industry. However,
without such a contract, Angola would not have protection against rapid
declines in oil prices, such as those seen in recent months, meaning that her
GDP is likely to fall drastically by the end of the year.
In addition, due to a withdrawal of Chinese
investors in Emerging Markets, there has been a reduction in demand for
government bonds in most of Africa’s countries, thus decreasing the price of
the bonds but increasing their yields. Indeed, the Institute of International
Finance has highlighted that investors have sold more than $40 bn of Emerging
Market assets in the last quarter. This action was compounded by the
anticipation of the Federal Reserve’s increase in interest rates later this
year. An increase in interest rates would provide a better investment than
Emerging Market bonds, due to a more secure guarantee by the US and a higher
yield. However, the increase in Emerging Markets’ bond yields will mean that
their debt will be harder to service.
In another light, a decrease in price of oil
has resulted in a dampening in global investors’ ‘Animal Spirits’, as they feel
that the low price of oil will last for several years and therefore investment
in exploration projects will no longer prove profitable. This was the main
reason why Shell abandoned its Arctic exploration for oil, despite having
already invested more than $4 billion into the venture.
Developed Nations
On the other hand, the decreased price of oil
has resulted in cheaper inputs for manufacturing firms in the UK and US.
Manufacturing firms have passed on these lower costs to consumers, thus
contributing to a reduction in the rate of inflation. However, this has
resulted in the inflation rate in the UK falling to -0.1 pc in October and with the interest
rates at 0.5pc, has caused the Bank of England to reconsider increasing the
interest rate. (For more effects that oil has had on the economies of
developing nations click here)
However, it should also be noted that China's slowdown will also lead to a decreased demand or UK exports, thus decreasing aggregate demand and reducing the UK's GDP. As this will reduce the UK's exports it would also result in a large trade deficit, exacerbated by the weak growth in Europe, thus causing the current account deficit to increase.
Moreover, a decrease in demand for UK exports from China may also lead to a decrease in demand for the UK's exports from Emerging Markets, who are seeing their incomes reduced due to China's reduction in demand for their commodities, as explained above. This could damage business confidence in the UK, as entrepreneurs decide not to invest in new machinery/ expand their businesses. Thus, this could lead to potential productivity gains being postponed, contributing to the continuation of the stagnation of the UK's economic growth.
China’s Impact
It is evident that China’s slowdown will have
a detrimental impact on the world economy, especially on Emerging Markets who
have already seen a sharp decline in the price of their commodities. As these
countries are dependent on oil, coal, copper and the like, they will see their
revenues fall. Moreover, due to a decrease in Chinese investment in these
Markets, it is likely that firms will become bankrupt due to a lack of funding.
The West needs to follow in China’s footsteps and engage in FDI in order to
continue to provide these developing nations with the infrastructure to
encourage businesses to invest. This would have a more direct and beneficial
effect in the battle against poverty than donating aid to corrupt governments.
However, it should be noted that the current
slowdown should not be as drastic as the East Asian Crisis of 1997, as these
developing countries, although heavily dependent on China, are not solely
dependent on her; other Emerging Markets such as Kenya and South Africa should
help to ensure that demand does not decrease to extremely low levels. Foreign
reserves should also help countries to devalue their exchange rate in order to increase
revenue from exports
Image: http://i.telegraph.co.uk/multimedia/archive/03280/china-watch-1-1_3280773b.jpg
