Friday 29 Mar 2024
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This article first appeared in Forum, The Edge Malaysia Weekly, on June 13 - 19, 2016.

 

For many decades, world trade tended to grow faster than world output, creating extra­ordinary opportunities for dev­eloping countries such as ­Malaysia and Singapore to export their way to rapid economic development and achieve the exceptional rise in living standards that came along with it. However, in recent years, the growth of world trade has lagged, barely keeping pace with increases in world output. Concerns have consequently emerged that opportunities for Asian export growth will now be more limited, implying that export-oriented economies need to rejig their growth models to sustain economic growth. Some economists even argue that this new trend means that export-led growth is no longer an option for relative latecomers to economic development such as India. 

Our view is more upbeat. The ­cyclical headwinds limiting trade are likely to dissipate once the ­global economy recovers fully from the global financial crisis. Yes, there are structural shifts that will also constrain the growth in trade, such as reshoring of production back to dev­eloped countries, the tendency for domestic production in China to displace imports, and growing protectionism. But, there are also countervailing forces such as the explosion of new technologies, which is likely to stimulate a new investment cycle and thereby provide new areas for trade expansion, the emergence of large emerging economies and a new round of trade agreements that will spur trade growth. 

In the end, we believe most of the pre-crisis relationships between economic growth and world trade will reassert themselves, to the benefit of export-oriented Asian economies. 

 

What’s happening to world trade?

The relationship between world trade and world GDP growth has weaken­ed since around 2011. This trend is the result of two separate forces — declining prices and decelerating volumes. 

Declining prices have certainly not helped, but we are less worried about this factor. 

Prices of both commodities and manufactured goods have fallen significantly in recent years. But there has been a nascent turnaround in ­prices for both manufactures and com­modities, suggesting that a good part of the decline was related to cyclical weaknesses in the world economy and the quite welcome fall in energy prices rather than something nastier and more permanent. This does not mean we should underestimate the remaining challenges. For example, the US, Europe and several developing countries such as India are complaining that China is exporting its massive industrial overcapa­city by cutting prices aggressively in sectors such as steel. However, trade nego­tiations and the ­continued recovery of the world economy can take care of these issues. The recently ­concluded US-China ­Strategic ­Economic ­Dialogue shows there are forums for such ­differences to be aired and compro­mises eventually worked out. 

It is the weakness in trade volumes (that is, the value of trade adjusted for price changes to get the real growth) that is of greater concern. This stems from two factors — slower growth in world output and the reduced import intensity of that growth. Data up to the first quarter shows the volume of world trade barely increasing even though the world economy grew by around 3%. Within this, imports to advanced econo­mies actually contracted in March. 

 

Cyclical rebound in trade  held back by slow healing of G3 economies and China’s slowdown

The cyclical rebound in world trade is being held back in the near term by a number of adjustments that are ongoing in the world economy:

The first transition is the slow and gradual recovery in the G3 economies after the major crises suffered in the past few years. Remember that the Global Financial Crisis in 2008 was one of the most debilitating in modern times; the world economy barely avoided collapse. The post-GFC ­period was also tumultuous, marked by three huge shocks — the eurozone debt crisis in 2011, the oil and commodity price collapse in late 2014 and the deepening slowdown in China. It is no surprise that such a confluence of downside ­factors would crimp demand and therefore depress imports in the near term. After all, it takes time for businesses and consumers to regain their confidence and return to their original spending habits. In particular, it is only natural that companies in the developed economies will be more cautious and delay capital expenditure plans. But our analysis shows it is capital spending that is most potent in driving Asian exports of manufactured goods: Until there is a decisive recovery in capital spending, Asian exports will struggle. 

The second transition is the dece­le­ration of the once-booming ­Chinese economy, which is now grappling with a combination of difficult structural transformations and the side effects of a historically unprecedented boom. Where there was once exag­gerated growth fuelled by massive injections of fiscal stimulus ­financed by debt, Chinese ­authorities are struggling to prevent a bust of similar proportions. With China becoming a systemically important ­component in global value chains, it is no ­wonder that the travails of the Chinese economy have had knock-on effects on growth and trade prospects for the rest of the world.

However, progress is being made in these transitions, albeit slowly. Data for April and May show the US econo­my beginning to accelerate again despite some noisy data such as the May employment report. ­China has also avoided the worst and policy support is growing. In other words, a case can be made that an eventual recovery in global growth will steer factors driving Asian ­export growth, such as global capital spending, to normal paths and so spur Asian trade. 

 

What are the structural forces slowing growth in trade volumes?

However, even then, might the renewed growth be less import-intensive than in the past? A number of factors do point to reduced import intensity: 

• Reshoring has become more commonplace as geopolitical and economic realities hit home. This is especially so as costs in ­China rise  with its rapid development, in addition to ­factors such as logistics, inventory costs and ease of doing business. There has been a gradual but observa­ble shift in attitudes towards ­bringing back production capacity in the US and other developed ­economies. According to a BCG [Boston ­Consulting Group] survey in 2015, 31% of respondents, who are senior manufactur­ing executives at companies with at least US$1 billion in annual revenues, said their companies are most likely to add capa­city to manufacturing in the US, compared with 20% that indicated they will add capacity to China. In the UK, the textiles industry is looking to ­create 20,000 jobs in the next five years as a ­result of reshoring of production, according to the Financial Times. These phenomena are observed as part of a wider shift in global manufacturing trends.

• Import displacement in ­China: Undeniably, ­certain structural changes are also afoot: China has been onshoring production for goods that were once imported and creating domestic ­capacity, thus capturing a ­greater part of the value chain indigenously. This has contributed to the fall in import demand in certain econo­mies, particularly for Asean countries. Indeed, real imports by China have decelerated significantly to below 4% in recent years from double-digit growth in previous years. According to an Interna­tion­al Monetary Fund study, onshoring continues to be a drag on import growth.

• Increased trade protectionism has not done many favourd for world trade too. Politicians and policymakers have employed actions to protect domestic industries and promote local interests through trade distortions. This has resulted in greater stifling of global trade flows, as well as a less competitive and more uncertain world economy. Emerging markets could suffer as export-­driven growth is increasingly crimped by creeping protectionism in the ­developed world.

 

There are also structural trends that are likely to be positive over time

A more balanced picture of trade prospects must also take into account the potentially positive drivers of trade.

First, we expect a new investment cycle to emerge soon, driven by rapid advances in multiple new technologies, advances that open up so many massive opportunities for business growth that firms are likely to step up capital spending in time. Examples include advanced manufacturing processes such as 3D printing and the application of artificial intelligence, breakthroughs in ­solar and wind energy, the explosive growth in so-called SMAC (social media, mobile devices, data analytics and cloud computing) technologies, the application of new materials such as the use of composites in new aircraft, new therapies made possible by advances in biotechnology and so on. We are likely to see banks spending billions of dollars just on cloud computing alone in the coming years. 

Second, while China is slowing, we are also seeing several new and large emerging economies beginning a new surge of growth. India — which just announced first-quarter growth of 7.9% — is the ­leader. But there are also Indonesia, ­Vietnam, Mexico, Poland and many others that are reforming and improving their growth potential. We estimate these countries ­contributed about 8% of world GDP in 2015, ­smaller than China’s 15% but still large enough to add momentum to world trade growth. 

Third, despite the political noise created by nationalist politicians, the hard fact is there continues to be a big push for more trade liberali­sation. The Trans-Pacific Partnership (TPP) agreement will open up 40% of world GDP to expanding trade ­opportunities if it is passed. In addition, the more progressive Latin ­American economies such as ­Mexico, Colombia, Peru and Chile are also liberalising trade. In Asia, there is the Regional Comprehensive Economic ­Partnership and after that, the Free Trade Area of the Asia-Pacific. Each of these have their challenges it is true, but we are confident they will come to pass despite the political resistance. 

 

Conclusion: World trade will pick up in time and benefit Asia

In short, we do not see Asia’s current export malaise as permanent. There are headwinds, which will mean a sluggish recovery in the short term. But there is also enough in terms of cyclical and structural positives to allow trade-led growth to re-emerge. 

The winners will be those countries that open up their economies and undertake the hard policy decisions to improve competitiveness. ­Vietnam is a good example; it signed on to the TPP and all the major deregulation and reforms that are required, despite the pain that will be involved. Interestingly, it is also being reported that Indonesia, which in recent years appears to be more inward-looking, is ­having second thoughts and is ­preparing to embark on more ­groundbreaking ­liberalisation. If that happens, it will be beneficial not just for the country but the entire region. 


Manu Bhaskaran is a partner and head of economic research at Cen­tennial Group Inc, an economics consultancy

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