China – an economic paradox

CHINA is an economic paradox. Although it is still a developing country and its economy is still significantly smaller than that of the US, three recent events underscore the Middle Kingdom’s capability to roil markets in equities, currencies and commodities worldwide.

First, on Aug 11 this year, the People’s Bank of China (PBoC) began to devalue the renminbi (RMB). Although the PBoC said this decision was intended to move the yuan towards a more market-determined exchange rate, some analysts believed this was an attempt to boost China’s export earnings and rev up its slowing economy.

Second, concern about China’s economy was ignited last Friday with the release of the preliminary Caixin/Markit China Manufacturing Purchasing Managers’ Index (PMI). At 47.1 points this month, the PMI was the lowest since March 2009 amid the Global Financial Crisis and the sixth consecutive month the PMI has remained below the 50point mark. A reading above 50 indicates expansion while a reading below 50 suggests contraction.

Third, on Monday, the benchmark Shanghai Composite Index (SCI) plunged by a further 8.49% to close at 3,210.90, the worst single-day loss in more than eight years, prompting some journalists to label the day “Black Monday.”

Monday’s steep fall followed last Friday’s 4.3% dive to 3,507.74. Suffering a precipitate decline of 38% from the high of 5,166 set on June 12 this year, the SCI has entered a bear market, defined as a 20% fall from a recent high. Because the SCI skyrocketed by more than 140% last year, investors are still in positive territory.

Many commentators believe these events indicate China’s economy is in worst shape than official data suggests and that policymakers in Beijing are fast running out of options to stimulate economic growth.

Shanghai’s swoon was duplicated on Wall Street.

On Friday, the Dow Jones Industrial Average (DJIA) crashed by 531 points to 16,459.75. Together with the DJIA’s 358-point tumble the previous day, last week’s more than 1,000 point plunge was the biggest oneweek loss on Wall Street since Oct 10, 2008.

On Monday, the DJIA shed 1,000 points within the first four minutes of the opening bell but recovered to close lower by 588 points to 15,871.21.

Wall Street’s massive retreat is surprising. For a start, the US economy is much bigger than that for China. Last year, US output of goods and services or gross domestic product (GDP) totalled US$17.4 billion, dwarfing China’s GDP of US$10.4 billion data from CNN Money show.

Furthermore, recent data suggests the US economy is gaining strength. Sales of existing US homes rose last month to their highest level since 2007 while US car sales are on track for their best year in a decade, a Reuters article noted.

However, some analysts argue a correction was long overdue. The US stock market hasn’t experienced a correction in nearly four years – the third-longest streak in the last 50 years, according to JPMorgan Asset Management.

East Asian currencies have also been volatile. Against the US dollar, the ringgit fell to a fresh 17-year low to breach the RM4.25 mark on Monday, making it the worstperforming East Asian currency.

Meanwhile, the Thai baht dropped to a six-year low, the Philippine peso slid to its weakest in almost five years, the South Korean won eased to a four-year low while rupiah weakened beyond the 14,000 level for the first time since 1998.

China’s reduced offtake of industrial metals has convulsed commodity markets. One of the most economically sensitive commodities, copper has sunk to a six-year low, steel this year suffered its first annual contraction in prices since 1995 and coal fell to a five-year low, Eric Dutram wrote in commodities.com.

During the 2002-2012 commodities super cycle, China’s annual growth averaged 10% and became a major importer of commodities, driving prices higher, Dutram added.

Despite the avalanche of bad news, Ian Bremer of Time.com believes this is the opening of the “China decade”.

China’s growth has been rapid. In 2000, Chinese imports and exports accounted for 3% of global trade. By 2014, its share had jumped to more than 10%, Bremer writes.

In 2006, the US was a larger trade partner than China for 127 countries and China was the larger partner for just 70 countries. Today, the position has reversed – 124 countries trade more with China than with the US, Bremer added.

Nicholas Lardy, a senior fellow at the Peterson Institute of International Economics, argues analysts have overlooked China’s new economic growth model – its services sector was 48% of GDP last year compared with 43% for its industrial sector.

Additionally, consumption in China is supported by sustained wage growth. Factories are now paying more than 100,000 RMB in annual wages to skilled workers, Peter Cai wrote in China Spectator.

In short, China’s current travails are a semi-colon – and not a full stop – in its upward economic trajectory.