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China-Gulf Economic Relations

Author: Lee Hudson Teslik
June 4, 2008
This publication is now archived.

Introduction

Trade relations between China and the six countries of the Gulf Cooperation Council (GCC) have broadened dramatically over the past decade. The relationship is dominated by oil, and growing Chinese energy demand makes it likely that large-scale oil flows between the two sides will continue to expand. China and the GCC states are also diversifying their bilateral economic relations beyond oil, a process accelerated by swelling foreign exchange reserves. Yet experts also caution against overly heady trade estimates, at least in the short term. Factors including mutual cultural wariness and infrastructural shortcomings continue to limit the speed at which economic expansion takes place, no matter how eager business leaders might be to develop relations. In the long run, however, experts say a "New Silk Road" could emerge as a force to be reckoned with economically—and perhaps also politically.

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What is the scope of China-GCC economic relations?

Total capital flows between the GCC and China tallied around $32 billion in 2006, the last year for which this data is available. Those numbers are somewhat higher now, but remain small in the context of either side's economic relations with the United States. According to data from the U.S. Census Bureau, total Chinese trade with the United States amounted to roughly $386 billion in 2007 (with Chinese exports accounting for over $321 billion of that sum), while U.S.-GCC trade amounted to a little over $72 billion. Still, China-GCC trade is notable for its rapid growth. Since 2000, Chinese exports to the GCC have increased more than seven-fold, while trade flows the other way have increased five-fold. By contrast, GCC exports to the United States have grown about three-fold during the same period. The consulting group McKinsey predicts that by 2020, total trade flows between China and the Middle East will climb to between $350 billion and $500 billion, with China-GCC trade accounting for much of that run-up.

What are the trade interests of each side?

China ranks fifty-fourth, globally, in per-capita oil reserves, according to 2005 data from the U.S. Central Intelligence Agency. A burgeoning population and rapid industrial development, meanwhile, have brought a spike in demand. The most recent data available, from 2005, shows that China relies on imports for roughly half of the 6.5 million barrels of oil it consumes every day.

By contrast, the four countries with the highest per-capita oil supplies are all GCC states (Kuwait, the United Arab Emirates, Qatar, and Saudi Arabia). These rankings are inflated, to a degree, given the large number of noncitizens living in each of these countries. Still, the fact remains that the GCC has large oil surpluses. China also seeks to import energy-intensive goods like phosphate and aluminum, which the GCC states can produce more cheaply. The process of aluminum smelting, for instance, requires large amounts of oil.

The GCC states are most interested in China's bustling labor market and the products the country can manufacture cheaply, such as textiles. Just as GCC states have large energy surpluses, China has large labor surpluses; this dynamic has driven the rapid expansion of China-GCC trade. "The theory of comparative advantage would lead to a situation where energy-intensive goods from Saudi Arabia are traded for labor-intensive goods from China," says Dr. Abdallah E. Dabbagh, the president and CEO of Ma'aden, the Saudi Arabia national mining company. Given the strong synergies to be gained by either side, McKinsey predicts GCC oil exports to China will grow by an average of 3.7 percent per annum through 2030.

What other sorts of exchange exist beyond this core trade?

China and the GCC states are making capital investments in one another's markets. Often, these investments are targeted at improving the effectiveness of preexisting trading relationships, or catalyzing new ones. Dabbagh notes that Chinese direct investment has helped to enhance the competitiveness of his company's mining projects, in turn bolstering the quantities of commodities the firm is able to export to China. Timothy Gray, the CEO of HSBC Saudi Arabia, says many such arrangements now exist. Gray notes two recent joint ventures forged by Saudi Aramco, the Saudi state oil company, Sinopec, one of China's biggest oil firms, and the U.S. firm Exxon Mobil. In March 2007, the three companies agreed to a deal in which Exxon and Aramco will help fund a Chinese petrochemical refinery, in exchange for export rights (for Saudi) and rights to operate 750 gas stations in China (for Exxon). As part of separate working arrangements, Chinalco, China's state-run aluminum manufacturer, is funding phosphate projects in northern Saudi Arabia, and plans to set up a production facility in Jazan Economic City, also in Saudi Arabia. Experts say these sorts of capital investments hold particular promise given the large capital reserves currently held both by China and the GCC states, which are boosted by rising energy prices and bilateral trade imbalances with the United States.

What factors could undermine rapid China-GCC economic expansion?

Despite the surge in trade since 2000, experts note a slew of factors currently slowing expansion, from mutual suspicions to a lack of developed business relationships. "We're talking about capital plus," says Victor Chu, the chairman of First Eastern Investment Bank, the first Chinese bank authorized to do business in Dubai. "That plus must include the relationship." Chu says both China and Saudi Arabia have business environments in which friendships and confidences, built over a long period of time, can make or break deals. "One underestimates the importance of values and culture in both regions," he says, particularly given that such factors play a less prominent role in western business culture.

Gray adds that businesses from either side don't always know what to expect when they venture into the other: "Going into the [Saudi] economic cities, companies like Chinalco wonder who's in charge. Is it Binladen Group? Is it the central government? Is it the regional government?" When large amounts of money are on the table, these unknowns become very real business risks, he says. Local companies are often able to work around these market eccentricities and skirt bureaucracy through connections, but it takes time to develop these relationships and to garner the trust that makes them work effectively.

China and the GCC states are working to broaden bilateral business and cultural ties, but experts say they face a number of fundamental problems, such as language barriers. Very few Chinese companies have employees who speak Arabic, and vice versa. "Big investments into China from the [GCC] region have only started over the last ten years," says Sameer al-Ansari, the chairman and CEO of the UAE-based investment firm Dubai International Capital. "People are much more familiar with the United States and Europe." To deepen familiarity, Chu encourages new partnerships between Chinese and Arab universities, improvements in language training, and other forms of exchange. In the short term, however, experts say there simply aren't enough qualified consultants with in-depth knowledge of the two regions' respective business cultures to bring the sides together; this could limit the pace of economic expansion.

What are the implications of a reemerging "Silk Road"?

The most profound effect of a new "Silk Road" between China and GCC states is likely to be greater Chinese energy security, experts say. China's huge demand for oil, natural gas, and other commodities presents a significant challenge and potentially a serious political risk for the country's leaders. While poverty rates have dropped dramatically over the past two decades in China, some analysts fear a combination of skyrocketing wealth and growing income inequality could lead to internal strife in the country of more than 1.3 billion people. An energy pinch would likely exacerbate these risk factors.

That said, the China-GCC relationship brings risks of its own. A briefing from the Washington-based Institute for the Analysis of Global Security points out that China has never before faced a situation in which it is overwhelmingly dependent on another part of the world for its energy needs. The International Energy Agency predicts China will import 70 percent of its oil from the GCC by 2015, as compared to less than 50 percent today. By contrast, as of 2007 less than 20 percent of U.S. crude oil imports came directly from GCC states. Increasing dependency on GCC states from oil exports could mean that Chinese political and economic stability would become dependent on the political and economic stability in the GCC.

Some groups also fear China's relationship with its energy providers could undermine political reforms in the GCC. Beijing has been criticized for propping up regimes that support terrorist activity, including the Sudanese government. Saudi Arabia and other Gulf states have met criticism on similar counts, and some experts fear an influx of Chinese oil money could effectively shelter GCC states from U.S. or European political pressures, muting hopes for political reform in those countries. According to the advocacy group Freedom House's 2007 Freedom Index, which rates countries based on an array of indicators, Saudi Arabia ranks among the least "free" nations in the world, and all six GCC states rank below the global average. Beijing counters that it remains committed to a "peaceful rise" philosophy aimed at embracing economic globalization and improving relations with other countries.

Finally, some Western analysts worry that broadening China-GCC economic relations could hamper developed economies by sucking away trade opportunities the United States and Europe might otherwise have in the region. But experts like Chu say that enhanced China-GCC ties will not necessarily come at the exclusion of other parts of the world. Indeed, China's need for natural resources is so profound that broadened China-GCC trade could have positive auxiliary effects for developed economies. Firms in the United States and Europe still dominate the market in project-management skills, and these skills will be in high demand from firms in China or the Gulf region seeking joint ventures with one another. New York, London, and other financial centers could also prove useful intermediaries for companies in the Middle East, and particularly in China, seeking to raise money on capital markets. Dubai International Capital's Ansari says China is swelling with small- to medium-sized companies that might seek to go public in the near future, but which will be limited by the country's underdeveloped capital markets. He estimates roughly one hundred thousand companies will seek an initial public offering in the next ten years, but says China's capital system, as it stands now, can only handle about one thousand such offerings per year.

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