from Follow the Money

Still not rebalancing …

November 14, 2006

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The Economist cover jinx strikes.  After the Economist’s cover story extolling how Chinese growth no longer depends heavily on exports, the contribution of (net) exports to Chinese growth has done nothing but increase.

The always excellent World Bank China Quarterly Update delivers the goods. 

“The contribution of net trade to GDP growth increased to almost 3 percentage points, after 1.2 percentage points in Q1 and 2.4 percentage points in Q2”

Given China’s October trade data (exports up 30% y/y, imports up 15% y/y) , it seems quite likely that net trade’s contribution to q4 growth will even higher still – though perhaps as high as in Q2 2005. Update: for more on China's ongoing dependence on external demand, see Denise Yam in Morgan Stanley's (redesigned) Global Economic Forum.

In one sense, though, China is rebalancing.   The dollar peg has increased China’s competitiveness relative to other regions more than its competitiveness in the US.   As a result, China is less dependent on exports to the US – as Goldman’s Hong Liang and the World Bank both note. Chinese exports to Europe (West and East), Latin America and Africa have all been rising faster than Chinese exports to the US. 

But in a broader sense, China isn’t rebalancing the basis of its growth away from investment and exports.  Every time China tries to cool investment growth, it ends up increasing its dependence (net) exports.   To be clear, consumption continues to increase, but not as fast as China’s productive capacity.

Nor is the world economy rebalancing.    At least not really.   The US trade deficit is at best stable in real terms (see the graph of NX to GDP in Menzie Chinn’s most recent post).  My personal view is that, abstracting from fluctuations due to fluctuations in the price of oil, the trade balance is still growing in nominal terms.  That implies that the current account balance will continue to rise on the back of higher interest payments. 

The absence of stronger signs of improvement in the US trade balance is dispiriting since, in many ways, recent economic conditions have been fairly favorable for “rebalancing.”


The dollar has depreciated substantially against the euro.   It may not be at 1.32 as it was in q4 2004, but it is only a touch shy of 1.30.   That is a big difference from .85 or .9.     Dollar weakness against the euro has supported US export growth. 

Plus, global growth is strong.   Very strong.  That too has helped support US export growth, even if it has yet to put a big dent in the trade balance.

Indeed, One of the things that surprised me at the euromoney fx conference was the number of (smart) folks who think that “growth differentials” explain the US trade deficit.   That is an increasingly hard case to make.    

China, Russia and the Middle East are all growing far faster than the US.  Plus, growth differentials inside the G-3 have shrunk substantially.  And they have shrunk because growth has “balanced up” not “balanced down.”   Europe and Japan are growing faster, the US is not (yet) growing substantially slower.  In q2 and q3, Eurozone headline growth exceeded US growth, even though eurozone population growth is far lower than US growth.  

Europe’s recent growth has even led to a meaningful increase in its current account deficit: Charles Dumas of Lombard Street estimates that ½ of the 2005 deterioration in the eurozone current account balance came from oil, ½ came from higher non-oil imports. 

But all this has yet to bring about a meaningful rebalancing – or any fall in the US trade deficit.

I suspect the trade deficit hasn’t responded more to the pick up in global growth because the dollar’s adjustment has been very partial.   A weak dollar has done more to support Chinese export growth than US export growth.   And the dollar hasn’t adjusted v. yen.  Stronger growth in Japan hasn’t led to a fall in its trade surplus – let alone its current account (which is increasingly supported by rising interest income).  The FT:

According to Merrill Lynch’s calculations, exports as a percentage of GDP – at 16 per cent – have for the first time superseded levels at the time of the 1985 Plaza Accord, when Japan was forced to revalue its currency.  … Consumption shrank 0.7 per cent from the previous quarter, but exports climbed 2.7 per cent and capital investment jumped 2.9 per cent.

Moreover, until China does more to rebalance its domestic economy (and RMB appreciation is part of that), it won’t contribute to global rebalancing.  Strong Chinese growth spurred by a rising external surplus doesn’t cut it; China needs to find ways to grow strongly with a shrinking external surplus.   The composition of China’s growth matters as much as the pace of China’s growth.

Moreover, experience of the past few years suggests that rebalancing up – strong growth in global demand from strong global growth– has a somewhat ambiguous effect on the US trade balance.  It contributes to strong US export growth.   But it also contributes to high oil prices, something that hurts an “SUV centric” economy more than a “dinky car’ economy.  

Of course, rebalancing down isn’t attractive -- even if it would help lower the US oil import bill.

Indeed, the (limited) available evidence for q4 seems to suggest that the combination of a fall in oil prices (from q2 and q3) and ongoing increases in oil state spending and investment have done more to boost Asian savings than to reduce the US savings deficit.  

Asia benefits from a lower oil import bill.   And strong demand for its goods in the Middle East.   But rather than spending the resulting windfall (if that term can be used) on US and European goods, Asia seems to be saving the windfall – or, put differently, spending the dollars it earns exporting on US (and to a lesser extent European) financial assets.

The global savings surplus seems to have rebalanced ever so slightly – with its locus shifting, at the margin, from the Middle East toward Asia as oil fell from its highs to around $60 a barrel.   But there isn’t much evidence that there has been much rebalancing between the big surplus countries/ regions and the big deficit countries.

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