The money quote in Bradsher's article in last Friday's New York Times comes from Matthew Crabbe:
"The only US-produced items that I can think exist in large quantities in China are dollars bills."
I would say dollar bills and Boeing planes, particularly after the Chinese announced a big order over the weekend.
Yes, US exports to China are growing. But off a base that is quite small relative to US imports from China -- and the rate of growth in US exports needed to offset continued rapid growth in imports from China is truly astonishing.
"The United States is buying $6 worth of goods from China for every $1 worth of goods it ships to China. With American imports from China climbing at nearly 30% a year, American exports to China would have to nearly triple each year just to keep the deficit from widening further ... "
That kind of growth won't happen unless US firms (or for that matter Japanese and European firms) invest more in production facilities in the US, and work a lot harder at marketing US-made goods in China.
Bradsher thinks that Chinese customers prefer European brands to US brands. I suspect the same is true in the Middle East. Europe's manufacturing base also is larger than the US manufacturing base (see Menzie Chinn's excellent post at Econbrowser on why manufacturing matters). Should China and the Middle East ever start to save less and spend more, I suspect that will prove to be euro-positive/ dollar negative.
Both China and the Middle East seem to prefer US over European financial assets, but European over American luxury goods.
But I digress. Keith Bradsher also notes that the rapid growth of US imports from China reflects "changing patterns of trade.
"Another big reason for the expanding bilateral deficit lies in changing patterns of trade. Companies from Japan, South Korea, Taiwan and elsewhere in Asia increasingly manufacture only the most technologically sophisticated components at home. They ship them to China, buy the less complicated parts locally at low cost and assemble the product in China for shipment directly to Europe or the United States ... America's overall trade deficit with Asian countries has changed little in recent years, but the deficit is now concentrated in China."
That characterization is generally true. But I also think it describes the past, not the future.
My core hypothesis is rather simple: China will only be able to sustain something like current rates of export growth if the production of goods now made in the US shifts to China. Think auto parts, if not autos. Just shifting the assembly of products now already made in Asia to China won't work. That's one of the reasons why I expect trade tension between the US and China to increase over the next few years.
Let's look at the evidence from both the US and the eurozone.
- In 2000, the US imported about 4.25% of its GDP from Asia, with 1% coming from China. Think $425 billion in imports from Asia, with $100 b coming from China.
- But there are lots of reasons to think that 2000 sets a bad baseline: In 2000, remember, Asia was just coming off its crisis, so its currencies were all relatively weak. The dollar was unusually strong; the US was in full .com bubble glory - investing and spending like mad. Imports from Asia should have hit a cyclical peak.
- And, as one expected, they did fall in 2001 - a bad year for world trade. Imports from Asia fell back to 3.7% of GDP, with imports from China staying at 1% of GDP. So I think the baseline for analysis should be the average of 2000 and 2001 - imports from Asia of a bit below 4% of US GDP, and imports from China of around 1% of US GDP.
- The "production shifting" argument makes total sense through 2003. In 2003, US imports from Asia were 3.8% of US GDP - somewhat below their levels in 00 but above their 01 levels - while imports from China increased to 1.4% of US GDP.
- But things started to change in 2004. Imports from the Asia pacific region grew by 17% (they are up by around 13% so far in 2005) - faster than US GDP. In 2004 imports from Asia reached 4.2% of US GDP and in 2005, I forecast that they will reach 4.5% of US GDP. Imports from China should reach 2% of US GDP.
So broadly speaking, since my 2000-01 baseline, imports from Asia outside of China have fallen from 4% of US GDP to 3.5% of US GDP, while imports from China have risen from 1% of US GDP to 2% of US GDP. That suggests some production shifting inside Asia, but also that Chinese production was displacing US production in some product areas (furniture?).
With imports from China now making up 40% of total US imports from Asia, it will be harder and harder for Chinese growth rates to stay at their current, very high levels just by shifting Asian production around. Suppose US imports from China grow by 25% in 2006 and 2007, and US imports from the rest of Asia stay constant in dollar terms, so they fell as a share of US GDP. In 2007, imports from Asia would account for 5.2% of US GDP. Imports from China would be close to 3% of US GDP -- a rise of 1% of US GDP from 2004 levels, with 0.7% of that rise coming not from shifting "market share" among Asian producers, but from taking market share from US production ...
For the sake of comparison, let's also consider what has happened in the eurozone. My data comes from the ECB, and my 2005 forecasts come from taking the y/y growth rates from q2.
- In 2001, imports from Asia were about 3.9% of the eurozone's GDP, with imports from china accounting for about 0.8% of that. 2002 is similar, with imports from Asia falling to 3.6% of eurozone GDP, and imports from China rising to 0.9% of eurozone GDP.
- In 2003, as we all know, the dollar fell significantly v. the euro, and most Asian currencies followed the dollar down.
- By 2004, imports from China accounted for 1.2% of the eurozone's GDP, and total imports from Asia were around 4.05% of eurozone GDP. In 2005, total imports from Asia should rise to 4.4% of eurozone GDP - largely because imports from China will rise to around 1.45% of eurozone GDP.
- Europe and the US are more alike than they are different. Imports from Asia account for about 4.5% of the GDP of both regions in 2005, up from a bit under 4% in 2000-01. Even though domestic demand growth in the US has been stronger than in Europe, exchange rate changes that favored the Asian dollar block (til recently) have generated strong growth in Asia exports to Europe.
- Europe is not any more "closed" to Asian products than the US. Though neither block is likely to remain open to Chinese goods if China does not let its currency appreciate.
- China is investing - at least it seems from afar - as if its exports to both Europe and the US will be able to keep on growing at current rates. But imports from China will soon account for 50% of US imports from all of Asia, and about a third of all European imports from Asia. Keeping up high growth rates off a now much larger base either implies either very large falls in US and European imports from other Asian economies - or that China will have to take market share away from American and European producers.
- That is why I expect economic tensions to rise. Coastal China may no longer be an attractive location for very low-end manufacturing. But it may be emerging as an attractive location for a much broader range of manufacturing -- and thus may become a more direct threat to manufacturing employment in the states. China may soon have far more capacity to produce autos than it has domestic auto demand ...
By the end of 2007, US exports to China would nearly double, rising from around $40 billion to around $70-75 billion. But US imports from China would rise by even more -- growng from $240-$250 billion to something closer to $350-360 billion. The bilateral deficit would grow from $200 billion to $270-275 billion.
The $100 billion increase in Chinese imports from 2005 to 2007 would be comparable to the increase from 2001 to 2004, and even with much slower rates of import growth, it could well generate more friction.