Key Trends in the World Economy

China is winning the new global industrial contest

The international financial crisis brought about a radical change in the structure of international industrial competition, and China is winning this new contest. That is the only conclusion that can be drawn from the pattern of industrial expansion and contraction in the major industrial centres in the five years since the beginning of the international financial crisis in 2008.

As taking comparisons only for single years can obscure this fundamental trend, Figure 1 shows the changes in industrial output during the entire last five year period in the world’s four major industrial centres – China, the U.S., the European Union (EU) and Japan. The pattern is clear and striking.

• U.S. industrial production on the latest data, for February 2013, remained 1.3% below its level five years previously – essentially stagnating over the five year period taken as a whole.
• Industrial output in the EU remains at 12.2%, i.e., significantly below its level five years ago. EU industrial production has fallen since February 2011.
• Japan’s industrial production remains at 19.2%, i.e., substantially below its levelof five years ago and has also fallen since February 2011.
• China’s industrial output is 76.1% above the level five years previously.

Figure 1

 

China’s industrial production therefore increased by over three quarters during a period when U.S. industrial production stagnated and EU and Japanese industrial production significantly declined. That is a conclusive victory by China in this competitive struggle.

Extending the comparison to other developing economies, there is no individual industrial centre matching the four major global ones. Figure 2 therefore shows aggregated data for developing economic regions. As statistics for all developing economies are not available for February 2013, the period January 2008 to January 2013 is considered. Data for China is also shown. As no separate China data was published for January, due to the Spring Festival holiday, China’s January data is taken as the mid-point between December and the combined January-February statistics.

Again the pattern is clear over the five year period.

• China’s industrial production grew by 77.9%.
• Total developing Asian industrial production expanded by 53.9% – China accounting for the largest part of this.
• Latin American industrial production increased by 3.0%.
• Eastern Europe and the former USSR’s industrial production increased by 2.0%.
• Industrial output in Africa and Middle East fell by -0.2%.

Figure 2

 

China was therefore successful in industrial competition not only with developed but with developing economies. As the increase in China’s industrial production was over 75%, and it was already one of the world’s main industrial centres, this constitutes a major shift in the balance of world industrial production in China’s favour.

What conclusions follow from these developments?

First, the claim of some Chinese commentators that there is a great revival of U.S. industry and China is lagging behind is factual nonsense. Not only has China’s industrial growth far outperformed that of the U.S., but U.S. industrial production has not even yet recovered to pre-financial crisis levels. Their arguments, based on citing purely individual examples such as that Apple will manufacture a few Macs in the U.S., are based on one of the most elementary and worst forms of statistical distortion – citing individual anecdotes and not overall trends.

Second, these differences in development have long-term consequences spreading to outside industries. Productivity increases in the industrial sector are much greater than in non-industrial sectors. Therefore China’s success in industrial competition raises its overall rate of productivity growth relative to less successful competitors.

These factual trends do not mean China will not face major future challenges within the industrial sector. China has already successfully shifted the centre of gravity of industrial production from low technology products (textiles, toys etc.) into medium technology (construction equipment, smartphones, personal computers, ships etc.). But China’s transition to very high technology industrial production still lies ahead – outside non-market sectors such as military and space production.

But it is not abnormal that China’s industry is currently dominated by medium, not yet high, technology production. China’s GDP per capita is approximately that of Japan in 1966 or South Korea in 1988. At those times Japan and South Korea had successfully made the transition from agricultural and low value added industrial economies to dominance through medium technology sectors – ship building, steel etc. Today China globally dominates the same industries. But at that time the period of domination of Japan and South Korea by high technology product innovation – Sony’s PlayStation and Walkman, Samsung’s high-end televisions and mobile phones – lay 10-15 years ahead.

As Lin Yifu, former chief economist and senior vice president of the World Bank rightly stresses, it is impossible for an economy to develop market sectors greatly out of line with its overall level of development. The full transition of China’s industry to dominance by high technology production lies a decade ahead. The key fact at present is that comparison of trends in the major industrial centers shows that in the intensified global competition created by the international financial crisis China is clearly winning.

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This article was originally published in Chinese at Sina Finance and in English at China.org.cn. 

The shape of the new EU downturn

The data released by the OECD for 2nd quarter GDP for the EU shows clearly the shape of Europe's new economic downturn. The situation is dominated by the decline in fixed investment – see charts below.

In the US$ Parity Purchasing Power (PPP) terms in which the OECD now releases such data EU GDP, in inflation adjusted terms, is still $307 billion below its peak in the 1st quarter of 2008. However EU fixed investment is down by $485 billion – that is the decline in fixed investment more than accounts for the entire fall in EU GDP. EU consumer expenditure is also down, by $122 billion, but this is only one quarter of the decline in fixed investment. Net trade and government consumption are positives.

In short the EU’s economic situation, as in the developed economies as a whole, is dominated by the fixed investment decline.

Figure 1

Figure 2

Misanalysis in China of Europe’s economic crisis

The following article originally appeared in Beijing Times.

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This week Greece’s Prime Minister Samaras met, and publicly argued, with German Chancellor Merkel over the EU’s latest attempt to solve the Greek economic crisis. Given that earlier misunderstandings in China of the dynamics of Europe’s crisis have damaged its own economy it is therefore important that a correct assessment is made of this new stage in Europe.

The reason China was previously damaged by a wrong analysis was that the seriousness of Europe’s economic crisis was considerably underestimated. By July 2012 China’s exports to the EU had declined by 16% in a year – easily the most serious blow to China’s exporters. Yet a year previously few analysts in China were predicting such negative European trends.

The reason for this widespread underestimation of the seriousness of the situation was that many analysts in China supported austerity policies being pursued in Europe and rejected the alternative proposal for European governments to launch economic stimulus programs. As most European governments were following austerity, and austerity was considered the correct policy, such Chinese analysts concluded Europe’s crisis would be overcome.

However the results clearly show that Europe’s austerity policies have worsened the situation and analysts who supported Europe’s austerity policies were dangerously mistaken.

To assess accurately Europe’s real economic dynamics, and their consequences for China, first the overall results of the different policies pursued internationally to deal with the financial crisis can be summarized and then the situation in individual European countries analyzed.

Internationally three types of policies were adopted in response to the financial crisis:

· The EU combined loose monetary policy with no stimulus to the productive economy – the ‘austerity’ approach. The outcome is that EU GDP is 2.1% below its peak of four years ago and Europe is in ‘double dip’ recession.

· The US combined loose monetary policy with a stimulus to consumer spending via a large budget deficit. The outcome is that average annual US GDP growth in the last four and a half years is only 0.4%

· China combined loose monetary policy with an investment focused stimulus to the productive economy. China’s GDP grew by more than 40% in four years.

The EU’s ‘austerity’ policy was therefore easily the least successful approach to dealing with the financial crisis. This is further confirmed by analyzing the individual EU countries committed to austerity. In the UK, where Cameron’s government voluntarily implemented the policy, GDP is 4.5% below its peak output and the UK is in a new recession. Considering countries which adopted austerity as a condition for bailouts, Ireland’s economy is 8.8% below its peak, Portugal’s GDP is 5.2% below its peak and has been declining for two years; Spain’s economy is 4.7% below its peak and is in a new recession, while in Greece the economy has contracted by 13.0%.

Given these dreadful economic results analysts in China should realize support for Europe’s austerity policies was mistaken. Instead they should hope European leaders will initiate an EU wide economic stimulus. As Greece is clearly too small to launch this, a stimulus must be started by the main European economies. International experience confirms such a stimulus will be more effective if concentrated on investment, as in China, rather than on consumption as in the US. If neither stimulus is launched then China must prepare for a long drawn out European crisis with negative consequences for China’s economy.

To get out of its economic crisis Europe needs to learn from China

Four years into the international financial crisis, it is clear that the economic policies followed in Europe to deal with it have failed to do so. For a long time, there was a refusal to examine the real facts of Europe's economic situation and take the appropriate policy measures. Once Europe does start to analyse its economic problems correctly, however, it will see that it has a lot to learn from China. Naturally this does not mean that Europe can mechanically copy China's approach, but there are important trends which Europe can study.

The fundamental trends in Europe's economy are illustrated in Figure 1. This shows the changes in different components of the European Union (EU)'s GDP since the first quarter of 2008 – the peak of the last business cycle and immediately before the onset of the financial crisis. It may be seen that the negative trend in the EU economy is entirely dominated by its fall in investment. The EU's trade balance has improved during the financial crisis, government consumption has risen, and the fall in personal consumption is relatively small. But the fall in fixed investment is huge, amounting to 150 percent of the total decline in GDP. This fall far more than offsets the performance in other economic sectors. The economic situation in Europe is therefore entirely dominated by this investment fall.

Figure 1

 

After four years of failing to look at the real situation, an identification of this actual core problem in Europe's economy is beginning to emerge. European Parliament President Martin Shulz recently wrote on Europe's crisis: "…what is to be done? First, targeted investment should be given priority." José Manuel Barroso, the European Commission president, and Olli Rehn, the European commissioner charged with dealing with the euro crisis, have now said it is likely that EU leaders will agree next month to increase the capital of the European Investment Bank by €10bn ($13 billion), which could be used as collateral to start large infrastructure "pilot projects" on a pan-European scale.

These policy changes, while a step in the right direction, are too small to turn the situation around. The EU is a US$16 trillion economy. The idea that a $13 billion program, only 0.06 per cent of the EU GDP, can offset the US$343 billion decline in EU investment since the first quarter of 2008 is clearly unrealistic.

The European Commission admits that there is €82 billion (US$106 billion) in unused structural funds in the EU's medium-term budget. This could theoretically be used to tackle the investment decline. But firstly, even the use of this entire sum is less than one third of the decline in investment which has taken place in Europe. Secondly, national governments have not yet agreed that these funds can be used for a European investment program.

Therefore four years after the beginning of the crisis, EU governments are beginning to discuss the right issues, but the practical measures they are proposing are still much too small to deal with the scale of problems that Europe faces.

The difference with China can be seen clearly in Figure 2, which shows the results of the stimulus program launched by China in 2008 to counter the international financial crisis. This stimulus program directly targeted raising investment – in particular infrastructure and now housing. The results are evident. Far from falling sharply, as in Europe and the US, China's investment rose. Consequently, compared to the situation on the eve of the financial crisis, China's economy expanded by over 40 per cent in four years compared to growth of 1 per cent in the US and a contraction of 2 per cent in Europe. China's stimulus program was $586 billion, or about 13 per cent of China's 2008 GDP – the majority part directly targeted investment.

Figure 2

 

China's stimulus, in terms of proportion of GDP, is equivalent to a program of US$2 trillion in the EU today. An investment program on that scale would be substantially too large in the EU at present – the situation is not as critical as in 2008. Nevertheless it is only necessary to compare this number to the $13 billion discussed by EU commissioners today, to see how inadequate is the scale of the proposed EU response to the present situation.

Jens Weidman, president of Germany's Bundesbank, has complained about the lack of policy tools available in Europe: "Now that fiscal stimulus has reached the bounds of feasibility in many countries, monetary policy is often seen as the 'last man standing'…However…contrary to widespread belief, monetary policy is not a panacea and central banks' firepower is not unlimited." But Weidman's conclusion exists only because Europe, somewhat arrogantly, refuses to study the country which passed most successfully through the international financial crisis – China.

Two years ago I wrote: "The dispute… between the US and Europe over'economic stimulus' versus 'deficit reduction' convincingly demonstrates the superiority of China's system of macro-economic regulation. China has faced no similar dilemma. It has simultaneously carried out the world's biggest economic stimulus package while running a budget deficit which is entirely sustainable – under 3 percent of GDP. China has therefore not had to face the choice between continuing fiscal economic stimulus measures and placing the priority on budget consolidation."

This remains the key problem. Unless Europe is prepared to grasp the nettle of a large "China style" program, one based on state-led investment, Europe is likely to face, at best, years of economic stagnation.

China's authorities have always rightly clarified that it is not arguing for its economy to be a model for others. It rightly insists every country is specific and therefore no country can or should mechanically copy another. But nevertheless China learned many things from other countries. For its own sake, Europe should start to learn from China

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This is an edited version of an article which originally appeared at China.org.cn.

Changing perceptions of China in Europe

Chinese Vice-President Xi Jinping's visit to Ireland last month highlighted the way in which the impact of the international financial crisis is bringing about a change in the perception of China in Europe.

It is useful to go back four years, in the run-up to the Beijing Olympics, to see the difference. At that time, according to a poll in the Irish Times, a campaign for an Olympic boycott, promoted by figures from most Irish political parties, had the support of 43 per cent of Ireland’s population – compared to 57 per cent favouring participation. In comparison, during Xi Jinping’s visit, every major party and newspaper spoke in favour of closer links with China.

Taking another example, in early 2008, French President Sarkozy threatened to boycott the opening ceremony of the Beijing Olympics, the 11th meeting of the EU-China summit was postponed because of Sarkozy’s attacks on China, and the mayor of Paris was saying he would hang a banner outside his office denouncing China. In contrast, when President Hu Jintao visited France in November 2010, President Sarkozy did him the unusual honour of meeting him personally at the airport.

Trade between key European countries and China has advanced in the intervening period - Germany now exports more to China than the US. China’s investments in Europe have moved beyond bond purchases to Chinese companies signing significant deals – particularly in infrastructure. China’s Three Gorges Corp bought a 21 per cent stake in EDP-Energias de Portugal SA for $3.5 billion, and China Investment Corp, China’s sovereign wealth fund, bought a 9 per cent stake in the holding company of the UK’s Thames Water. In finance, in January the UK signed an agreement with the Chinese government for London to act as an offshore centre for RMB transactions.

What in most European countries has essentially become an all-party welcome for closer economic ties with China contrasts with the political atmosphere in the US. Vice-President Xi was treated respectfully by President Obama’s administration during his US visit - although no major agreements were arrived at. But leading Republican presidential candidate Mitt Romney declared he would designate China as a currency manipulator on his first day if elected president.

In contrast to Europe, the US has adopted a position blocking Chinese inward investment. The most famous case was China’s National Offshore Oil Corp being prevented from purchasing Californian oil company Unocal. But China’s Huawei, the world’s second-largest telecommunications equipment manufacturer, has effectively been blocked from bidding for US contracts.

There are are of course those in Europe opposing better relations with China. Britain’s Daily Telegraph, for example, carried a headline regarding Vice-President Xi’s visit to the US that ‘China’s upcoming leader Xi Jinping has been wined, dined... and warned.’ But in contrast, the UK’s Guardian newspaper carried an editorial headlined, ‘Chinese economy: headaches to die for,’ arguing: ‘Any appraisal of China's prospects must begin by admitting that the Middle Kingdom is the most astonishing development success story in the world today.’ Even a tabloid newspaper, such as the UK’s Daily Mirror, carried a major story emphasizing the positive role of UK trade relations with China.

It is clear that the political atmosphere for China’s trade and investment in Europe is currently more favourable, and enjoys far wider support, than in US politics.

This situation is significant not only for China but for Europe and the US themselves. Trade growth between both the US and China and between the EU and China is larger than between the US and EU.

Comparing the latest available data, for the 4^th quarter of 2011, with the 4^th quarter of 2007, before the financial crisis, U.S. exports to the EU increased by an annualized $21 billion and EU exports to the US by an annualized $8 billion. US exports to China, however, increased by an annualized $47 billion, while EU exports to China grew by an annualized $83 billion. Growth of US exports to China, therefore was more than twice those to the EU, and EU exports to China grew by more than 10-fold those to the US. This data also shows the EU gained more from increased exports to China than the US.

A parallel investment pattern exists. Europe is now the largest destination for Chinese companies’ foreign investment. It also accounted for 34 per cent of China’s outward investment in mergers and acquisitions in 2011. In contrast, China’s investment in the US fell from $4.2 billion in 2010 to $3.2 billion last year.

Naturally there are downs as well as ups in Europe’s economic relations with China – a current down is the row over the EU’s airline tax. But overall the current types of deals being done are well founded because they are mutually beneficial. The Economist magazine noted: ‘In welcoming China, Europe is swimming with the tide of history; America is struggling against it.’

The reason that at present the EU is gaining more from trade and investment with China than the US is certainly not due to China’s political bias – China’s government must consider its relations with the US as the world’s most important bilateral one. But, in addition to the different scale of openings being offered them, China’s companies have to evaluate ‘political risk’ just as much as Western ones do. ‘Political risk’ is clearly now lower in Europe.

Good relations between Europe and China are evidently capable of generating what China characterises as 'win-win' outcomes. China is a huge market for technologically advanced and high-value exports from the EU, as Germany’s export success shows, which improves China’s industry, while the EU also gains from China’s continued support for the euro.

The change in the perception of China in Europe is not merely a success for China’s diplomacy but has economic foundations.

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An earlier version of this article appeared in China Daily.

Europe's largest economic failure is not in Greece - but in the UK, Italy and Spain

With the European Union (EU) heading into a double dip recession, even before the peak level of GDP of the previous business cycle has been regained (Figure 1), it is evident that the solutions adopted to deal with Europe's economic crisis have failed. But the focus of financial markets on Greece's debt crisis should not obscure the fact that the largest scale economic failures in Europe, with the most direct impact on world growth, are not in Greece, the GDP of which accounts for only 1.8 per cent of the EU’s, but in the UK, Italy and Spain. The latter economies collectively account for over one third, 34.7 per cent, of EU GDP. Furthermore these large EU economies, having failed by significant margins to regain their previous peak levels of GDP, are again turning down.

To give some idea of the relative scale of these problems it may be noted that the combined GDP of the UK, Italy and Spain is equivalent to 40.9 per cent of US GDP, whereas Greece’s GDP is equivalent to a mere 2.0 per cent of US GDP. Even the combined GDP of the three economies under EU bailout measures (Portugal, Ireland and Greece) is only 5.1 per cent of US GDP. In short, while they pose significant problems for financial markets the recessions in the peripheral Eurozone economies are simply to small to make a direct significant difference to global growth prospects.

In contrast the failures in the UK, Italy and Spain - respectively Europe’s 3rd, 4th and 5th largest economies - are on quite large enough scale to create a serious negative impact on global growth – economies approaching half the size of the US are, at best, essentially stagnant and now facing new downturns.

The aim of this article, therefore, is to place the financial difficulties in Greece against the background of these larger growth failures in Europe.

Overall trends in the EU

The overall trends in the EU’s GDP are compared to the US and Japan in Figure 1. They are shown in detail in Table 1 below.

GDP data for the EU for the 4th quarter of 2011 is not yet available – on the basis of partial statistics it is highly likely to show downturn. But on the most up to date data available, for the 3rd quarter of 2011, EU GDP was still 1.7 per cent below its peak in the previous business cycle and Eurozone GDP 1.9 per cent below, In contrast by the 4th quarter of 2011 US GDP was 0.7 per cent above its last business cycle peak. With EU GDP likely to have turned down in the 4th quarter of 2011, Europe is suffering a strictly defined ‘double dip’ recession - i.e. a fall in output before the previous peak level of GDP has been regained .

Figure 1

 

Considering the detailed data for the EU economies, plus those in Eastern Europe, in Table 1 below, the overwhelming majority of European economies have not regained the peak levels of GDP recorded in the previous business cycle. All three economies which have published official Eurostat data for the 4th quarter of 2012 (Spain, Lithuania and the UK) showed a renewed fall in output - a more detailed analysis of the groupings within the European economies is given below.

Failure of recovery in the UK, Italy and Spain

The focus of attention in the European crisis has been on small peripheral Eurozone economies – Portugal, Ireland and Greece – or on a 'Germany v the periphery' divide. But from the point of view of EU GDP by far the most serious situation is the failure of recovery in three large EU economies – the UK, Italy and Spain. These are respectively the 3rd, 4th and 5th largest EU economies. The GDP trends in the five largest EU economies are shown in Figure 2.

Figure 2

 

By themselves the peripheral Eurozone economies are far too small to pull the Eurozone economy into recession - for comparison the combined economies of Portugal, Ireland and Greece are only one eighth of the size of combined economies of the UK, Italy and Spain. The key problem in European output is that while Germany’s economy has recovered - up to the 3rd quarter of 2011 its GDP performance since the peak of the last business cycle was marginally better than the US, and France’s recovery was significant, reaching only 0.6 per cent below the pre-financial crisis peak, the EU’s other large economies had not recovered and were heading into a new downturn. On the latest available data the UK’s GDP was still 3.8 per cent below its peak in the previous business cycle, Spain’s GDP was 3.9 per cent below and Italy’s was 4.7 per cent below. Furthermore in all three economies the latest available data shows a further downturn in GDP.

Failure in the European bail-out economies

In addition to the failure of recovery in the EU as a whole, primarily due to this situation in the UK, Italy and Spain, a further striking feature is that none of the economies subject to special EU bail out programmes – Portugal, Ireland, Greece – shows any sign of recovery (Figure 3). The latest data for both Ireland and Portugal shows renewed economic downturn, while no Eurostat certified Greek GDP data has been published since the 1st quarter of 2011 – it would be highly likely to show further economic decline. This failure of recovery is despite the fact that Ireland, for example, has undergone almost four years of economic downturn and Portugal is well into the third year of downturn.

The EU bailout programmes may therefore be correctly characterised as having failed.

Figure 3

 

Widespread downturn in Eastern Europe

An equallly severe, although less reported, decline in European production than in the bail-out countries has taken place in the Baltic republics – Estonia, Latvia and Lithuania (Figure 4). The downturn in Latvia (16.6 per cent) is the worst for any European country while those in Estonia (8.6 per cent) and Lithuania (9.0 per cent) are only slightly better than Greece (9.9 per cent) and Ireland (11.6 per cent)

This crisis in the Baltic Republics, incidentally, as with the different case of the UK, shows that the European crisis spreads to far more than Eurozone – only Estonia of the Baltic republics is a Eurozone member.

Figure 4

 

In addition to the Baltic Republics economic downturn has continued in most of Eastern Europe (Figure 5) – with only Poland and Slovakia having recovered to pre-crisis levels of output (Figure 6).

Figure 5

 

Recovery economies

The trends above leave only two large European economies, Germany and France, together with a number of medium sized ones (Netherlands, Switzerland, Belgium, and Poland) having undergone serious economic recovery (Figure 6). However, although Germany and France are the 1st and 2nd largest economies in the EU their combined GDP, at 36.2 per cent of the EU total, is only slightly greater than the 34.7 per cent of the UK, Italy and Spain combined.

In short the stagnant and declining situation in the UK, Italy and Spain is enough to essentiallly entirely offset recovery in Germany and France.

Figure 6

 

Large stagnant economies

Finally the position of the UK, Italy and Spain as large economies which have failed to significantly recover, together with smaller economies in the same situation, is clear in Figure 7.

Figure 7

 

Conclusions

A number of clear conclusions follow from these factual trends in Europe.

• Financial crisis may be focussed at present in Greece, but the most serious drags in output are not the peripheral Eurozone economies but the UK, Italy and Spain.
• Remaining outside the Eurozone is unlikely by itself to be sufficient to ensure economic recovery. Economic downturn in the UK, which is outside the Eurozone and has undergone substantial devaluation during the international financial crisis, is as severe as in the other large sluggish economies of Italy and Spain within the Eurozone. The non-Eurozone Baltic Republics of Latvia and Lithuania have undergone as serious declines in GDP as Eurozone member Estonia. Poland, which is outside the Eurozone, has largely escaped recession but due to large scale public investment. 
• Given these trends, overcoming the financial crisis in Greece is unlikely to relaunch economic growth as the largest problems in Europe's economic recovery are located in the UK, Italy and Spain. Of these UK is not even a number of the Eurozone, while the lack of growth in Italy's economy has been prolonged - annual average GDP growth in Italy in the last decade has been only 0.2 per cent.

The overall conclusion is clear. The Eurozone crisis was predictable - the present author noted 15 years ago in 'Fundamental Economic Implications of a Single European Currency' that: '‘The process that would unfold with the creation of a single currency by this method [the Treaty of Maastricht] may be predicted with certainty. Substantial parts of the EU… will be pushed into severe recession if they join. There will be sharply deepening regional imbalances and inequalities. The malignant expressions of economic depression — unemployment, poverty, collapse of the welfare system, weakening of trade unions, racism, chauvinism, crime — will multiply. The end will be either an economic tragedy, or the deepest crisis in the history of the EU, or more probably both.’

This analysis has clearly been vindicated. But it would, nevertheless, as seen above, be wrong to conclude that the exclusive core of the problems in Europe's economy is the Euro - or to see the situation exclusively in terms of a 'Germany and periphery' situation.

The greatest drag on economic growth in Europe is its 'stagnant middle' of the UK, Italy and Spain. These three economies together are equivalent in size to Germany and France. If Germany and France are supposed to provide the 'growth engine' of Europe these three economies may be conceived of as currently providing its 'drag factor'.

Unless the situation within the UK, Italy and Spain can  be resolved it is most unlikely that overcoming the economic problems in Greece will relaunch substantial European growth. For this reason, whatever occurs in Greece, the European crisis is going to be prolonged and other parts of the world economy must both take this into account and understand the more powerful factors in European economic stagnation.

Table 1

The incredible shrinking UK economy

The magnitude of the blow suffered by the UK economy since the beginning of the financial crisis is very considerably minimized by not presenting it in terms of a common international yardstick. Gauged by decline in GDP, using a common international purchasing measure, dollars, no other economy in the world has shrunk even remotely as much as the UK (Figure 1 and Table 1).

As most countries produce only annualized GDP data it will be necessary to wait before a comprehensive global comparison can be made for 2011. However it is clear no substantial growth in dollar terms took place in the UK economy during that year – GDP at national current prices rose only 1.4 per cent between the 1^st and 3^rd quarters and the change in the pound’s exchange rate against the dollar during the year was a marginal 0.3 per cent. Therefore there will have been no significant recovery from the UK data set out in Table 1 below, and the gap between the UK and other European economies, which form the next worst performing major group, is too great to have been qualitatively affected by changes in the Euro’s exchange rate – the Euro declined against the pound by only 3.3 per cent in 2011.

Table 1 shows that the fall in UK GDP in 2007-2010 was $562 billion compared to the next worst performing national economy, Italy, with a decline of $65 billion – i.e. the decline in UK GDP in the common measuring yardstick of dollars was more than eight times that of the next worst performing national economy. Table 1 shows the 10 national economies suffering the greatest declines in dollar GDP.

It is also extremely striking that the UK’s decline was more than two and a half times that of the entire Eurozone. The UK accounted for a somewhat astonishing 77 per cent of the EU's decline.

Table 1

Figure 1

 

Expressed in percentage terms the situation is no better. of all economies for which World Bank data is available only Iceland, with a decline in dollar GDP of 38.4 per cent, suffered a worst percentage fall than the UK - even bail out economy Ireland, with a fall of 18.4 per cent, outperformed the UK economy.

Two trends intersected for the UK's performance to be so much worse than that of any other economy. First, contrary to the government's anti-European rhetoric, UK economic performance in constant price national currency terms has been significantly worse than the Eurozone during the financial crisis (Figure 2). Up to the latest available data, for the 3rd quarter of 2011, UK GDP was still 3.6 per cent below its pre-financial crisis peak compared to the Eurozone's 1.7 per cent below. Second, between the beginning of 2008 and the beginning of 2012, the pound's exchange rate has fallen by 21.0 per cent against the dollar compared to the Euro's 11.4 per cent drop in the same period. The multiplicative effect of the severity of the relative drop in constant price GDP and the fall in the pound's exchange rate accounts for the unequalled decline in UK GDP in dollars.

Figure 2

 

As at present the UK economy shows no substantial sign of recovery, the present UK government, which maintains a steadfastly ostrich like attitude towards Europe in particular, and most other countries in general, may argue that a measure in terms of dollars at current exchange rates is irrelevant – the UK currency is the pound and what counts is constant price shifts. Such an argument is false and an attempt to disguise the true scale of the decline of the UK economy.

The internationally unmatched decline in UK dollar GDP is a huge fall in real international purchasing ability. The far higher than targeted inflation in the UK during the last two years, which has substantially eroded the population's living standards, is itself in part a reflecton of the decline in the UK's exchange rate and consequent raising of import prices. In short, the decline in the international purchasing power of the UK's economy translates into a direct fall in real incomes. The decline in the UKs ranking among world economies in terms of GDP, being recently overtaken by Brazil, statistically reflects the same process  .

It may also be seen that the government's claim that the UK is outperforming Europe and the Eurozone is entirely without foundation even in constant price national currency terms. But when measured in terms of real international comparisons, i.e. in dollars, the UK's performance is incomparably worse than Europe's.

It appears extremely unlikely that the UK's economy will escape from this circle of decline in the next period. The austerity policies pursued by the present UK government have substantially slowed the economic recovery that was taking place in 2009 and the first part of 2010 - between the 3rd quarter of 2010 and the 3rd quarter of 2011 the UK economy grew by only 0.5 per cent. The opposition Labour Party has recently also endorsed essentially the same austerity policies which have failed not only in the UK but in other European economies, such as Greece and Ireland, where they have been pursued.

Even if any partial recovery takes place, for example by some increase in the exchange rate of the pound against the Euro, the sheer magnitude of the decline in the UK economy makes it implausible that this could be on a scale sufficient to reverse the fall in its relative international position.

 

China and developing economies will determine the chances for world growth in 2012

China’s economic growth has become a key factor not only for itself but for world markets. As the scale of China's impact is still too frequently underestimated it should be noted that, measured in current dollars and at market exchange rates, i.e. in terms of actual effective demand, in the three years following the start of the international financial crisis China contributed 33.4 per cent of global market growth – more than four times as much as the US 8.1 per cent (Table 1). While final data for 2011 is not yet available, it is already clear from the first three quarters figures that China’s market last year expanded by over $1 trillion – approximately twice as much in dollars as the US, despite US growth having resumed. Table 1 makes clear no other economy has approached China in terms of market/global aggregate demand expansion.

It is therefore a key question whether China will continue essentially the same scale of market growth in 2012. The answer is ‘yes’  - but because of the issue’s importance the reasons should be clearly outlined. Interlinked with this is the decisive role played by developing economies in recovery from the financial crisis – the interlinking being that China is by far the largest developing economy, while the developing economies have become China’s largest trade partners.

In the three years covering the period from the beginning of the international financial crisis to the latest available annual data, i.e. in 2007-2010, developing economies accounted for 78.6 per cent of world market growth and developed economies for only 21.4 per cent. Considered from another angle, simply taking different classifications, either the BRIC economies (Brazil, Russia, India and China), or China plus Latin America, contributed the majority of world market/effective demand expansion – either of these groupings accounting for more than twice as much market expansion as the developed economies.

Table 1

 

Turning to more detailed trends, the first feature determining China’s continued dominant position in world market expansion, one the consequences of which are insufficiently frequently noted, is that as China’s economy becomes larger a similar percentage yearly growth necessarily turns into an increasingly large annual absolute market increase - in inflation adjusted terms, China’s economy expanded by 2.3 trillion RMB in 2008, 2.4 trillion RMB in 2009, and 3.1 trillion RMB in 2010.

But even frequently cited constant price growth figures underestimate the expansion of China’s position in the world market. Actual sales, and therefore changes in aggregate demand, use real money which is affected by exchange rate shifts and inflation – further figures in this article are therefore at current market exchange rates and prices unless otherwise stated. In 2009, when China froze the RMB’s exchange rate due to the international financial crisis, China’s economy grew by $469 billion – compared to a US contraction of $353 billion. In 2010, when China allowed the RMB exchange rate to rise, its annual economic expansion rose to $935 billion and the figure will be over $1 trillion in 2011 – roughly twice US market expansion.

Table 1 also makes clear the second reason China’s market will continue  its expansion. World growth is now dominated by developing economies and China is their most rapidly expanding trading partner.

Considering trends among developing economies, China accounting for 33.4 per cent of global market expansion. Latin America was second – constituting 17.3 per cent of world growth, with Brazil accounting for 58 per cent of this. China and Latin America together accounted for 50.7 per cent of world market growth..

Among other developing economic regions, South Asia contributed 8.0 per cent to world market growth, with India accounting for 84 per cent of this. Developing East Asian economies, excluding China, accounted for 7.0 per cent of world growth – Indonesia constituting 54 per cent of this. The Middle East and North Africa accounted for 6.1 per cent of world growth with no single dominant regional economy – the largest contributor, Egypt, constituted only 19.9 per cent of the total. Developing countries in Europe and Central Asia accounted for 4.5 per cent of world growth – of which 55 per cent was Russia. Sub-Saharan Africa grew rapidly, but due to its low starting point only contributed 2.1 per cent of world growth.

Turning to developed economies, Japan illustrates the importance of currency movements for shifts in markets measured in dollar terms. Due to the yen’s sharp exchange rate rise, Japan contributed 14.9 per cent of the dollar expansion of the world market despite Japan’s economy contracting in inflation adjusted terms. The US contributed 8.2 per cent to world market growth, despite the US not having grown in constant price terms, due to the dollar rising against other currencies,

The ‘disaster area’ for world markets was the developed European economies with a decline of $668 billion - equivalent to subtracting 9.2 cent from world growth.

It is already clear 2012 will show no fundamental change in this pattern. Developed European economies will again be the worst performing region – suffering a recession possibly magnified by a low Euro exchange rate. The US should expand, but slowly compared to previous upswings in US business cycle. Therefore if the world economy is to grow this will again have to be primarily due to developing  economies.

Fortunately, the large developing economies are slowing but still growing substantially more rapidly than developed ones. China, the dominant factor in the equation, even on pessimistic estimates is likely to grow by at least 7-8 per cent in real terms this year which, after increases in the exchange rate of the RMB and inflation is take into account, means an expansion of its market of probably 12-15 per cent in dollar terms. Minimum real growth estimates for India are at least seven per cent.

It is also clear from the pattern in Table 1 why BRIC economies will again dominate world growth – in 2007-2010 they contributed 52.5 per cent of world market expansion. Not only are the BRICs individually the largest developing economies but each is the centre of a major regional economic area. While Brazil has slowed, Russia’s economy has been accelerating, and it is in any case China and India which are the dominant dynamic BRIC economies.

This overall situation clearly interrelates with China as it already carries out the majority of its trade with developing economies – 54 per cent of total trade, 49 per cent of exports and 60 per cent of imports.

The implications for China’s markets are clear. China has not only the world’s most rapidly expanding domestic market, and declining inflation gives it extra room for domestic economic loosening/stimulus in 2012, but its biggest trading partners are the most rapidly growing regions of the world economy. It is this combination of domestic and international factors which determines that  China will continue to remain the world’s most rapidly expanding market/supplier of increased aggregate demand in 2012. Given the negative prospects in Europe, and slow growth in the US, it will then be the situation in the developing economies, which is increasingly related to the situation in China, which will necessarily determine the overall prospects for world growth in 2012.

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This is an expanded version of an article which originally appeared in Shanghai Daily.

China's stronger economic structure than the US and Europe means its fast growth will continue in 2012

The beginning of 2012 is a suitable moment to assess China's economic prospects for the year and coming period. This overall perspective is clear – China will grow strongly, remaining the world's fastest growing major economy, and will continue to substantially outperform Western pessimist predictions. This is the same fundamental analysis maintained by the author over the last two decade period. Factual results during these twenty years have confirmed such projections - as opposed to the opposite perspective. As accurate or inaccurate predictions do not depend on personal characteristics, but on different fundamental analyses, therefore what leads to repeatedly correct and incorrect projections regarding China's economic growth?

The core issue is simple but difficult for the majority of non-Chinese analysts to admit, despite constant confirmation by economic facts and repeated falsification of predictions of China's serious slowdown. This core issue is that statements by Chinese analysts that China has a stronger economic structure than the US and Europe, and that this therefore produces stronger economic performance, is not a boast but actually factually correct. As this stronger character of China's economic structure is not understood by many Western analysts, they therefore systematically, and each year, underestimate China's economic growth potential.

Nevertheless, a genuine difficulty for non-Chinese analysts is that explanations of this economic strength are frequently posed only in terms of specifically 'Chinese characteristics'. It is therefore worth spelling out more generally why China has a stronger economic structure than the US and Europe, and how this relates to global economic issues that will be faced in 2012.

 

 A model performance [By Jiao Haiyang/China.org.cn]

 

China self-definition of its system is a 'socialist market economy'. This denotes it differs fundamentally from the economy, modeled on the former USSR, which existed prior to China's 1978 economic reforms, in that economic policy is not run by administrative but by market means. China has a large and vibrant private sector – indeed the world's most rapidly growing private sector. However China differs from the US or Europe in having a sufficiently large state sector, and a nationalised core banking system, that it can directly set the economy's overall investment level – the state sector is too small in the US or Europe to achieve this. This combination of market system and a state sector sufficiently strong to determine the overall level of investment is what gives China its greater economic strength than the US or Europe - such a structure can be understood either from a Chinese 'socialist' point of view or a Western 'Keynesian' one, and for present purposes it  is unimportant which is chosen. 

To illustrate this, consider a key contemporary economic problem – the current situation in the US. The Financial Times on December 15 accurately described the situation in the US economy. It noted that the share of wages in US GDP had fallen to the lowest level since records began and concluded: 'The decline in the labor share, along with a shift of labor income towards higher earners, may be an important part of why the US economic recovery is so sluggish. Workers on lower wages consume much of their income, while higher wage earners and those with capital income are more likely to save. That will not affect total demand if savers lend to those who want to consume or invest in buildings and start-ups – but investment has been slow to recover in the wake of the recession.'

In short, the US economy is growing slowly not because there is a shortage of funds for investment, on the contrary profits are at a record high, but because investment is very low – indeed the entire decline in US GDP in the current 'Great Recession' is accounted for by the investment fall. The problem is that in the US there is no mechanism which ensures that the huge funds available for investment are actually invested.

In China no such problem exists. If funds are not directly invested by companies, then the state owned banking system and state sector can invest them. Therefore no shortfall of demand occurs of the type analysed by the Financial Times in the US. During the entire international financial crisis China, unlike the US, suffered no investment decline – on the contrary investment increased. The problem of accumulation of unused funds of the US type, that is in Keynesian terms a shortage of effective demand, does not arise in China. Equally if China's economy is booming, and companies are utilizing all funds for investment, the state steps back and cuts its own investment – reducing it to cool overheating. That is why China's macroeconomic policy is stronger than that in the US - the problems of either shortage of or excessive demand, which plague the US and European economies, are smoothed in China.

This evidently does not mean China escapes all macroeconomic issues. No policy maker can judge absolutely accurately how strongly the international economy will grow, what will be all the inflationary or deflationary pressures present, exactly how China's own economy will respond to a given measure etc. Therefore there are always issues of overheating, undershooting, inflation, deflation etc. But these are qualitatively smaller fluctuations than in the US or Europe.

The period since the onset of the international financial crisis showed this strength of China's economic structure clearly. Faced with the international financial crisis in 2008, China was able to launch a massive stimulus package which meant its economy did not suffer a recession at all. The recovery of the world economy in 2010-2011 combined with the aftermath of the stimulus package to create some economic overheating and 2011 was therefore mainly spent damping inflation. In 2012, with negative trends dominating the world economy, China will loosen policy.

The overall result is evident. In the four years to the latest economic data, for the 3rd quarter of 2011, the US grew by 0.5 percent, the EU shrank by 0.3 percent, and China grew by 42.2 percent. China's economy therefore suffered some fluctuations on a strong growth path, whereas the US and Europe suffered overall economic stagnation. The stronger character of China's economic system was shown by these facts – those predicting crisis for China, on the same scale as the US or Europe, made the wrong predictions because they failed to analyze that strength.

It is this superior strength of China's economic structure that also makes it clearly possible to predict for 2012 that China's economy will continue to grow strongly, that it will remain the fastest growing major economy in the world, and that it will outperform on the upside Western pessimists predictions – as in previous years the facts of 2012 will confirm that analysis. Not until they understand the greater structural strength of China's economy will current critics be able to make persistently accurate predictions.

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 A shorter and edited version of this article originally appeared on China.org.cn.

Fairy stories about China's 'economic crisis'

The present rapid shifts in the international and Chinese economic situations, resulting from the second wave of the international financial crisis centred on the Eurozone, are a challenge both to policy makers and a major opportunity for those with an accurate analysis of China's economy.

 

China speed [By Jiao Haiyang/China.org.cn]

 

The reasons for this are the same as those when I ran a consulting company and knew inaccurate media analysis was an opportunity to make a profit. Businesses need accurate information to take correct decisions. If a newspaper writes an economy is going to boom when actually it suffers recession, the paper doesn't directly lose anything, but a company acting on the wrong analysis can lose a great deal of money. Economic and business writing therefore operates under an objective discipline which doesn't necessarily exist elsewhere - companies rationally pay a great deal of money for accurate information.

The reason a similar opening exists in China at present is that attempts are being made to convince businesses that China faces an 'economic crisis' on the same scale as that hitting the European Union (EU) and the US. This view is factually nonsense, as any comparison of economic data shows. In the four years to the latest data the US economy grew by 0.5 per cent, the EU's shrank by 0.3 per cent, and China's economy grew by 42.2 per cent. Given such comparisons claims that China is suffering from 'crisis' is rather like saying the US has cholera, the EU has typhoid, and China has a cold and therefore they are basically in the same situation as 'all are ill'. Such claims destroy rational scales of comparison and are therefore wholly misleading in predicting what will happen.

China's economy naturally faces problems - all economies always face problems. It has had excessive house price increases, which are now gradually coming under control, and its consumer price index has been too high - although again it is now falling. Recession in the Eurozone will reduce orders to China's exporters. But China's economic year on year growth rate in the last quarter was 9.1 per cent compared to 1.5 per cent for the US and 1.4 per cent for the EU. If the US and EU were paralleling China's growth far from claiming, this was a 'crisis' they would be calling it an unprecedented boom!

A typical example of such fairy stories regarding China's 'economic crisis' was a recent article in the Wall Street Journal by Nouriel Roubini and Ian Bremmer president of the Eurasia Group - a risk analysis company. This was entitled 'Whose economy has it worst?' and was introduced: 'With Europe, China and the US in crisis, the real question is which of them will stumble first.' The data already given above show such statements are bombast - there is no crisis in China's economy similar to the US or EU.

Why, therefore, are such economic fairy stories published, why are they are publicized, and how to profit, not purely monetarily, from them?

One reason they appear, of course, is simply that people make wrong analyses. But the reason they are publicized is different. Take for example Gordon C Chang. He wrote a book in 2001 entitled 'The Coming Collapse of China'. This argued 'A half-decade ago the leaders of the People's Republic of China had real choices. Today they do not. They have no exit. They have run out of time.'

In the ten years since China's economy more than doubled in size. After such radically wrong predictions you might expect that Chang would find it difficult to obtain coverage for his analysis. But instead he is regularly published by Forbes magazine with articles posing such questions as 'Can Beijing rescue a stumbling economy'. Some 'stumbling' with nine percent GDP growth! Such analyses have nothing to do with reality but fit the politics of Forbes - which specializes in analyzing the ultra-rich in the US and is hostile to China. 

Business people caught up in such political maneuvers can lose huge sums of money. For example, in a case rather similar to the one of China at present, those backing a particular political grouping in Russia in the 1990s persuaded US hedge fund manager George Soros to become involved in a takeover battle around a Russian telecommunications company Svyazinvest. I was retained as a consultant by others involved and concluded Svyazinvest was a terrible investment. Therefore Soros was being pulled in for reasons of political maneuvers and not serious financial analysis. Soros lost approximately a billion dollars.

Companies rightly analyzing that China's economy will continue to grow, GE and Goldman Sachs immediately come to mind, are those most successful in business in China. Equally there are Western analysts who correctly predicted China's growth over the last period - Goldman Sachs Jim O'Neill, who invented the term BRIC, and the specialized consultancy Dragonomics for example.

This gives a major opportunity to those with an accurate analysis of China’s economy. Businesses following the erroneous view that China's economy is going to drastically slow or enter crisis will lose money. Those who rightly predict China's economy will continue to grow rapidly will gain credibility. This requires accurate analysis and reporting - not pretending there are no problems in China's economy but correctly contextualizing that these are far less than in the US and EU. The facts over the next year, as in previous years, will simply show that China’s economy continues to grow strongly, suffering no economic crisis qualitatively equivalent to that in the EU and US at present.

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This article originally appeared on China.org.cn. It has been amended to remove references only relevant to readers in China.