Have you noticed China’s economy slowing down?
Twenty years ago, China’s economy slowed to a crawl. But few investors were paying attention. Its economy – then worth “only” US$1 trillion – was barely the size of Italy, and the world hardly noticed.
Today, China’s economy is 14 times larger. It’s completely intertwined with the global economy. And it’s also been the main driver for global economic growth over the past decade.
So when China’s economy sneezes today, the global economy catches a cold.
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China buys a lot it doesn’t make
China has a long-standing reputation of being the factory of the world. In 2018, it shipped US$2.29 trillion worth of products around the globe – more than any other country.
About a quarter of that goes to the U.S. Partly because China sells so much more to the U.S. than it buys from it, U.S. President Donald Trump launched a trade war against China last year.
As the world’s second-largest economy, it’s also a big importer. China bought US$2.14 trillion worth of products from other countries in 2018 – behind only the U.S., which imported US$2.54 trillion worth of goods.
But China’s economy has been slowing down. From an average of 6.8 percent over the past five years, growth was 6.4 percent in the fourth quarter of 2018.
That’s to be expected given the size of China’s economy. And it’s still impressive given that the U.S. was growing by just 2.7 percent when it was the size of China’s economy today.
But if the slowdown intensifies, it’s important to know which countries stand to lose the most.
Asia’s biggest exporters are most vulnerable
China buys nearly 60 percent of its imported products from Asia – more than any region in the world.
Of its top 10 global import partners, five are Asian. The two largest are South Korea and Japan, while Malaysia, Vietnam and Thailand are seventh, eighth and ninth largest.
The chart below shows the amount China imports from (green) and exports to (orange) each of its major Asian trading partners.
In 2017, South Korea, Japan, Malaysia and the Philippines exported more goods to China than they imported – leading to a trade surplus with China.
South Korea’s economy has the biggest trade surplus with China of any Asian country. In fact, it has the largest trade surplus with China of any nation in the world.
This makes South Korea especially vulnerable to a Chinese economic slowdown. It gets 33 percent of its export sales from China.
With the Chinese slowdown, exports to China fell 17.4 percent year-on-year in February 2019.
Japan is also feeling the impact, with exports to China down 6.3 percent in the first two months of the year.
So major economies dependent on exports to China have been among the weakest performers in the global market so far this year.
The MSCI Korea Index is up 7.3 percent while the MSCI Japan Index has gained 8.1 percent year-to-date. That compares with 10.4 percent gains for the MSCI Asia ex Japan Index, 11.9 percent gains for the MSCI World Index and 18.4 percent gains for the MSCI China Index.
(While China is slowing, there are other factors driving the MSCI China Index, particularly the recent decision by MSCI to quadruple the weighting of Chinese A-Shares in its indexes.)
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Importers are likely winners
Countries that have a trade deficit with China (like Indonesia, Singapore, Thailand and Vietnam) could end up benefitting from the current weak trade climate.
That’s because Chinese export prices have been declining for three straight months. China’s export price index – an index that tracks the changes in prices of goods and services sold by residents of China to foreign buyers – has fallen from a high of 109.4 in October 2018 to 103.2 in January 2019.
It means prices for Chinese products have declined by 5.6 percent from October to January.
A slowdown in China could be particularly good for emerging Asian countries that are experiencing rapid development in infrastructure and real estate – like Indonesia and Vietnam.
Both import significant amounts of steel, machinery and other building materials from China. And those materials are declining in price as sellers desperately search for buyers. Prices of hot-rolled steel (a key material for construction), for instance, fell by 6.3 percent year-on-year in January 2019.
Don’t assume the trade war will end soon
If the U.S.-China trade war ends tomorrow, next week or next month, it’s going to have a strong positive impact on global trade. China’s manufacturing sector, which has been shinking since September 2018, will grow again.
That’s going to have an almost immediate impact on South Korea and Japan, which ship billions of dollars each year worth of electronics-related products that China needs in its manufacturing industry. Things like semiconductors for smartphones, laptops and tablet computers.
But as we’ve told you before, the likelihood of any meaningful agreement happening is small. It doesn’t suit either country to come to a conclusion on trade any time soon.
That means investors need to avoid the markets most vulnerable to a Chinese economic slowdown for the time being, like South Korea and Japan.
Japan is also now in the crosshairs of Trump’s trade war. It has the second-largest trade surplus with the U.S., and tariffs on Japanese products could be coming soon. Slower Chinese demand for Japanese exports is another reason to stay away from this market.
But even with a modest Chinese economic slowdown, there are still pockets of growth in Asia. They’re being driven by strong domestic consumption, election-related spending and an intense infrastructure programme designed to open the economy.
Editor, Stansberry Pacific Research
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