Economic De-globalization: Challenges and Solutions
This paper was originally published in Chinese in "Economic Perspectives" No. 4, 2017. To view the paper in its original language, see:Economic De-Globalization - Challenges and Solutions - CHI.pdf
Economic De-globalization: Challenges and Solutions
Li Daokui, Hu Sijia, Shi Jinjian
Abstract: Since the third quarter of 2016, China's economy has shown steady momentum. However, it will face a chaotic international economic and financial environment This paper, placing international economic chaos in the perspective of economic globalization, shows that the slowdown in international trade and serious economic differentiation in the world have led to setbacks in economic globalization and uncertainty of globalization prospects. Trump has tried to disorganize the growing global economic system based on multilateral agreements and free trade through import substitution strategies and controlled bilateral trade, in order to strengthen the dominant position of the United States in the world economy pattern. In the face of the great challenge of US trade protectionism, China should take multiple measures to tackle the problems of capital outflow and exchange rate devaluation in a short period of time; and should take precautions to cope with the possible unfavorable situation of a local trade war. In the long run, China should deepen the reform and build a dynamic mode of growth for great power; and should insist on the principles of multilateral agreements and free trade, with the Belt and Road as the key measures, to promote the formation of a new pattern of global cooperation.
Key words: economic globalization, import alternative, exchange rate, supply-side structural reform
Since the third quarter of 2016, China's economy has slowed down steadily, with a steady and good momentum, and the economic growth continues to run in a reasonable range. Retail sales are in steady growth; import and export are stabilized year on year; investment growth rate stabilization is further consolidated; and industrial enterprises continue to improve profits. Overall, Chinese economy is still in the bottom stage of downside, but the rate of decline is in the narrow line and is slowly stabilized, while the steady and good trend gradually appears. However, the international environment has the emergence of nationalism and protectionism which are represented by the Trump election, referendum in Italy, and the Brexit; the frequent terrorist attacks in Europe, and the challenges of refugee crisis; the winning of Japan's ruling coalition with the majority in the revision of the Constitution; the tensions in South China Sea, and so on. China will face a chaotic international economic and financial environment.
The correct understanding of the essence of the chaotic international situation is conducive for us to meet the challenges. In this paper, the current international economic chaos will be placed in the perspective of economic globalization, showing that the current US-led economic globalization is facing challenges, and the setbacks in globalization lead to the path game among the great powers, while Trump takes a variety of trade protectionism means to maintain the dominant position of the United States, which will bring greater impact on the economy of China and the world, and China must make the preparation for strategic solutions.
Trade globalization slowdown, differentiation in world's economy
The global financial crisis in 2008 hit the process of economic globalization, and the flow of trade and capital gradually lost momentum. The cross-border flows of global commodity, services and finance accounted for 60% of global GDP in 2011, reaching the peak. ⑴ After the global economic recovery, the growth of goods and services in global trade fell to about 2%~3% per year, close to or below the global economic growth, which had been never seen in the past few decades. In 1980 to 2011, the average annual growth rate of trade was nearly 7%, twice the global economic growth (Gao Bai, Cao Cang, 2016). Many uncertainties in the economic globalization prospects will trigger the global economic differentiation and the interest game among the great powers.
(I) Social division firstly takes place in developed economies
1. United States: The short-term economy tends to a good prospect, and the Trump Bump emerges. In terms of the GDP growth, employment, CPI and other indicators, the economy of United States has shown the signs of short-term recovery stabilization. In the case of growth momentum improvement, the Federal Reserve accelerates the rising of interest rates, with an increase of 0.25% after the FOMC Meeting in March 2017, which is the Federal Reserve to raise interest rates for the second time in three months, and two risings of interest rates are expected in 2017.
Trump Bump may affect the economy of United States and the world in 2017. Trump's principles of governance can be concisely summarized as follows: (1) Transforming from the promotion of free trade to trade protectionism. The United States withdraws from TPP; threatening to impose 5%~10% Border Adjustment Tax (BAT) on all imported goods, and to impose punitive tariffs on goods imported from Mexico and China. (2) Transforming from supporting the globalization of enterprises to the localization of manufacturing. Trump proposes to impose a one-time tax of 10% for the accumulated profits for US companies' overseas subsidiaries, which will be paid in ten years; and meanwhile impose the tax annually for the future profits of US companies' overseas subsidiaries. (3) Transforming from monetary easing to fiscal stimulus. Major initiatives include significant tax cuts (corporate taxes from the current 35% to 15%) and the use of financial support for infrastructure. (4) Strengthening the infrastructure construction. Trump proposes a infrastructure program of 550 billion US dollars, which will be 137.5 billion US dollars per year if evenly distributed in his four-year tenure (Li Wei, Zhang Yuhuan, 2017).
If these policies can be implemented, it will indeed play a role in boosting the short-term economic growth of United States. According to CCWE estimates ⑵, the real GDP growth rate of United States will be 2.2% in 2017, which is higher than about 0.5% of 2016. Of course, it remains to be seen whether Trump's New Deal can raise the long-term potential growth rate of the economy of United States.
2. European Union: The recovery is still fragile, and Brexit triggers the political risks. The Eurozone economy is still fragile, and the overall economic growth in 2016 was weaker than that of 2015. The financial environment is still highly unstable, especially in Italy and other countries, whose rate of non-performing loans remains higher. The monetary policy space is limited: QE is increasingly faced with the debt-free dilemma; the negative interest rate not only has the questioned effects, but also exacerbates the deterioration of banking business environment. Under the high debt rate, fiscal policy and structural reform are even more difficult. According to CCWE estimates, it is expected that Eurozone economic growth will be about 1.5% in 2017, with 0.1%~0.2% lower than that of 2016.
2017 is the year of European election, in which Germany, France, Italy, the Netherlands and other countries will hold the political election. With the complex issues of economy, labor, anti-terrorism and ethnics, the conservative and nationalist tendencies have emerged in many countries. Germany is the most critical core country of the Eurozone, and the result of the German election in September 2017 will be directly related to the future trend of European integration. In addition, the United Kingdom will start the complex and uncertain procedures of Brexit. These factors have exacerbated the risks of the European economy in 2017.
3. Japan: The economic downturn is difficult to solve. Japanese economy is still in the deflation and liquidity trap. The population aging has led to the sluggish consumption, and the commercial sales year-on-year growth has been negative growth. The monetary policy fails to stimulate the economy, and the negative interest rates on the banking industry have caused a certain negative impact. The fiscal policy space is limited by high debt - about one quarter of central government spending is needed to repay the debt and interest annually.
Overall, the Japanese economy is already at the forefront of world economic growth, and the per capita capital stock is also at the world's leading level. Therefore, before the technological breakthrough of industrial revolution, the population structure is the most important factor to determine the trend of the Japanese economy. According to CCWE estimates, it is predicted that there will be no obvious changes for the Japanese economy in 2017, and the annual economic growth will remain at 0.5%, which is roughly the same as that of 2016.
(II) Greater division occurred in US and emerging markets
On the one hand, the United States economic recovery and Federal Reserve policy tightening means that global liquidity will have the inflection points in the short term, while the emerging market countries will be more fragile in the face of the inflection points of US dollar liquidity. The economic fundamentals of most emerging market countries require a loose monetary policy environment, while the rise in US interest rates has forced these countries to adjust their policies to cope with the possible outflows. In fact, the impact of US dollar liquidity inflection points has been previewed in the second half of 2014, and at that time the commodity prices and resource export-oriented emerging countries have been impacted to the most serious extent. Taking into account that overall performance of commodity prices in 2017 will be better than that of past two years, in 2017, Mexico, Vietnam and other manufacturing export countries will be suffering from greater impact than Russia, Brazil and other resource exporting countries. On the other hand, in the context of the rise of trade protectionism, the emerging market countries with higher export reliance will face a more severe external environment. These factors will further impact emerging market countries with higher reliance on exports of manufactured goods.
Economic fluctuations in emerging market countries are the most typical in India. In order to combat the corruption and counterfeit money, and hope to include the large-scale underground economy into the tax source, in November 2016, India's Modi government announced to abandon the old version of 500 and 1000 rupees banknotes before the end of the year. The total amount of abandoned cash accounted for about 80% of the total circulation of Indian currency. The decree of banknotes abandonment currency reform has a huge impact, with a certain degree of impact to the financial industry, retail, manufacturing, real estate industry ⑶. In the context of the Fed rising of interest rates and the US dollar in a strong cycle, the decree has weakened the Indian economy operating efficiency in the short term. In the four quarters of 2016, India's GDP grew at 8.0%, 7.1%, 7.4% and 7% respectively, and the fourth quarter dropped significantly. ⑷ Based on the CCWE estimates, it is expected that India's GDP growth in 2017 will reverse the upward trend of the previous five years, down to below 7%.
(III) China made steady progress, remained driving force of world economy
According to the 2016 National Economic and Social Development Bulletin of People's Republic of China, in several major characteristics of the Chinese economy can be found: (1) Growth in social consumption is steady. In 2016, the total retail sales of social consumer goods increased by 10.4% over 2015, and the final contribution to consumption growth was 64.6%, up from 4.9% in 2015, and up from 15.8% in 2014. (2) Stabilization for investment growth is further consolidated. In 2016, the national fixed asset investment (excluding farmers) grew 8.1% over the previous year. In particular, in terms of the chain base speed, the fixed asset investment (excluding farmers) in December increased by 0.53%, and the stabilization for investment growth is further consolidated. (3) Import and export growth is significantly improved. Since 2016, China's imports and exports have been in the steady and good trend. The total value of imports and exports in the first quarter was -8.2% over 2015on a year-on-year basis, and increased to 3.8% in the fourth quarter; more encouragingly, the total value of imports and exports in January 2017 was 19.6% higher than that in 2016. (4) Efficiency of industrial enterprises is significantly improved. In 2016, the total profits of industrial enterprises above designated size in China increased by 8.5% over the previous year. With the increased profits, the situation for decline in profits in 2015 (-2.3%) was reversed. Overall, the Chinese economy is still at the bottom of downside, but the rate of decline is narrowed, and Chinese economy will be gradually steady and better in the slowdown.
China's economic growth rate was 6.7% in 2016, and China's contribution to world economic growth was 33.2%. China's economic growth is 6.9% in the first quarter of 2017, and China is still the main driver of world economic growth. ⑸
US-led economic globalization back-fired as world economy in chaos
Since the late 1970s, the process of economic globalization has been rapidly advanced, forming the two trends of globalization, including foreign direct investment (FDI) and regional integration. According to the statistics of World Bank ⑹, from 1970 to 2015, the total global FDI amounted to 2.04 trillion US dollars; the European Union, ASEAN, and other regional integration organizations continue to emerge. After the disintegration of the Soviet Union, the United States became the world's only superpower and the leader and promoter of economic globalization, and the US-led economic globalization pattern was formed. However, with the development of globalization, the world economy is expanding, the EU is growing, China and other developing countries rise rapidly, and the core position of the United States is weakened. With the continuous weakening of the leadership and control of the United States to economic globalization, economic globalization has entered a special node of overlapping resonance, which has led to the current world economic turmoil.
(I) Economic and psychological turning point for globalization
In the early stage of economic globalization, the global industry chain oriented on the United States as leader and promoter of globalization was formed, and the United States was the biggest beneficiary of economic globalization. However, with the continuous development of globalization, the forces of United States have been penetrated into every corner of the world, and the United States seems to have never been as powerful as it is now, but this excessive expansion also greatly consumes the strength of the United States. In eight years under the governance of President Obama, the US treasury bonds were increased from less than 10 trillion US dollars to 18 trillion US dollars. With the decline in the shares of the US economy in the global economy, the US hegemony began to decline relatively. The US-led pattern is wildly mismatched with the global economic diversification pattern, leading to a serious imbalance in global economic development and the fierce friction among the economies, and the economic strength inflection points for US-led economic globalization occur.
At the same time, the growth of FDI in globalization has resulted in the industrial hollowness of the United States, and the domestic contradictions of the United States are increasingly acute. The US manufacturing sector accounted for 46.90% of GDP in 1959, but dropped to 28.43% in 2012. The employment of the manufacturing sector decreased from 15.325 million in 1956 to 12.18 million in 2014, down by 21% (Campanella, 2016). The industrial hollowness led to the decline in US industrial competitiveness and the rising of manufacturing unemployment. In 2015, the US foreign trade deficit was 750 billion US dollars. The US public dissatisfaction against globalization is growing.
The famous economist Paul Samuelson published an article in 2004 to reflect on David Ricardo's theory of international trade based on comparative advantage, and pointed out that free trade may be detrimental to the United States under certain conditions (Samuelson, 2004). This article of Samuelson triggered a big debate among academia, media, business, and decision-making circles in the United States, and caused suspicion against globalization. The public psychology inflection points for US-led economic globalization occur.
(II) Turning point for EU as regional integration meets conflict of interests
Regional integration is one of the two major trends in the current round of economic globalization. The rise of the EU as the supranational European community seems to show that a declining era of the traditional nation-state will soon come. In 2013, the GDP of 28 EU member states reached a total of 17.36 trillion US dollars, higher than 16.19 trillion US dollars of United States. The EU has become the world's largest economy.
Due to the differences of the EU member states in terms of political system, economic development, and culture, the EU internal differentiation is significant. The EU consciously cultivates the sense of identity and sense of belonging of the member states to the EU, but the sense of recognition and sense of belonging to the EU are not strengthened with the integration, but the national identity is still deeply rooted. According to a survey released by Eurobarometer, an agency of official poll under the European Commission in 2015, the sense of recognition to EU among 28 member states was 60%, while the sense of recognition to EU in British citizens was only 34%. The outbreak of the Greek debt crisis in 2009 has evolved into the financial crisis in Eurozone and the confidence crisis throughout the EU, and the Brexit has further exposed the lack of European recognition.
Under the impact of the debt crisis and the refugee crisis, the French and Italian nationalism and the Eurosceptic sentiment have gradually increased, the far-right political parties have risen rapidly, the voices against European integration grow stronger, and the European identity is further weakened. In the regional integrated economy, it shows the easy regional merger but difficult integration, as well as the inflection point for rapid expansion of the EU encountering the deep integration of various interest subjects. But at the crucial moment, Brexit has triggered a strong shock within the EU and the world.
(III) Globalization: from US-led to diversified
Economic globalization has accelerated the rapid development of the global economy, and also has rapidly changed the global economic pattern. A report published by Goldman Sachs in 2007 reflected the status quo and the future of global economic diversification, and Goldman Sachs predicted in the report that China's economic scale would surpass the United States prior to 2030, while the GDP of 28 EU member states in 17.36 trillion US dollars in 2013 was more than the GDP of United States in 16.19 trillion US dollars. The global economic diversification pattern with three balanced powers of the European Union, United States, and China has been initially formed. The inflection points for the transition from US-led economic globalization to multi-interests balanced economic globalization occur.
After decades of rapid development, economic globalization has made remarkable achievements, but also brought changes in the global economic pattern. At present, the current economic globalization has been in the special nodes of overlap resonance with multiple inflection points, including the economic strength inflection points and public psychology inflection points for US-led economic globalization, the inflection point for rapid expansion of the EU encountering the deep integration of various interest subjects, and the inflection points for the transition from US-led economic globalization to multi-interests balanced economic globalization. There are many uncertainties in the prospects for economic globalization. Some countries doubt the current path of globalization based on multilateral agreements and free trade, which in turn leads to a path game around economic globalization. The main strategies for the current path game of economic globalization include: (1) self-interested trade protection and bilateral agreement strategy represented by the Trump of United States; (2) unilateral strategy of seeking self-protection represented by the United Kingdom; (3) speculative strategy for promoting the selective new multilateral agreement (TPP) represented by Japan; (4) multilateral agreement and free trade cooperation and win-win strategy continuously represented by China and many other emerging economies (including the European Union).
As the original leader in economic globalization, the United States still has a huge influence on the short-term trend of globalization, but the emerging economies represented by China and the regional economic economies represented by the EU have become an important force in the world economy. Therefore, although the economic globalization path game is chaotic, in essence, the economic globalization path game is mainly shown as the competition between the self-interested trade protection and bilateral agreement strategy represented by the Trump of the United States and the multilateral agreement and free trade cooperation and win-win strategy continuously adopted by a majority of countries and economies represented by China.
Trump's global strategy: import substitution and bilateral agreement
"One by one, the factories shuttered and left our shores with not even a thought about the millions and millions of American workers that were left behind. The wealth of our middle class has been ripped from their homes and then redistributed all across the world. We will bring back our jobs. We will bring back our borders. We will bring back our wealth. We will follow two simple rules: Buy American and hire American." Trump's inaugural address is like an official call of trade protectionists. The United States, which had been advocating free trade, has now become a pioneer in trade protectionism. However, this does not mean that the United States would be closed and introverted, but shows that the United States is still not satisfied with the vested interests in the process of economic globalization, but hopes to further strengthen the dominant position of the United States in globalization, so that the pattern of global benefit distribution can be further conducive to the United States. The strategy of its global path game is the import substitution and bilateral agreement.
(I) Advancing import substitution strategy and reconstruction of US manufacturing industry to enhance the absolute strength of US economy
The trade protection strategy of the United States is oriented on the enhancement of absolute strength of the US economy through the promotion of import substitution and the reconstruction of the US manufacturing industry. Trump, after taking office, has advocated the new policies on taxation of products that are exported back into the United States, so that Ford Motor Company abandoned the plan to invest 1.6 billion US dollars for building a factory in Mexico, and showed it would invest 700 million US dollars in a Michigan plant. Trump signed to restart two controversial pipeline projects, and requested that the pipeline supplied for these projects must be produced in the United States, where the Canadian pipeline project could provide 28,000 jobs for the United States (Li Wei, Zhang Yuhuan, 2017).
The import substitution strategy means that a country restricts the import of certain foreign industrial products, in order to promote the production of related industrial products and gradually replace the imported products in the domestic markets, and thus creating the favorable conditions their own industrial development. In the process of industrialization in developing countries, this strategy is considered to seriously reduce economic efficiency, inhibit exports, increase unemployment and lead to the deterioration in the balance of payments (Prevsky, 1990). Thus, from the mid-1960s, some countries and regions abandoned the original import substitution but adopted export-oriented strategies. It will be wrong if it is considered that the US import substitution strategy is ineffective. The failure of developing countries in the import substitution strategy is due to their lack of capital, technical backwardness, and narrow market demand. On the contrary, the United States has the advantages of capital adequacy, advanced technology, and a huge consumer market, and the United States has a comparative advantage in the high-end manufacturing industry, and will continue to implement the export-oriented strategy, but only implements the import substitution in the manufacturing industry.
The fundamental supports for Trump's import substitution strategy include the huge foreign trade deficit and consumer market of the United States. According to Ricardo's theory of comparative advantage, the import substitution of the United States is difficult to form a comparative advantage, but with the scale parameters of Samuelson (Samuelson, 2004) in Ricardo's research model, the conclusion is that the populous country can have a broader comparative advantage. In reality, China has a comparative advantage in the fields from labor-intensive toys, capital-intensive cars to technology-intensive smartphones. Therefore, in addition to high-end products, the United States can also form a comparative advantage in the fields of middle-end products.
With the capital, technology, and market, the United States lacks cost in the mid-manufacturing import substitution strategy. In this regard, the United States takes the taxation means, in addition to imposing tariffs on imported goods, to impose the sales revenue tax for all the companies in the United States in a unified manner, while the production and processing costs in the United States can be deducted at the time of calculation of tax costs. Under the new tax system, for GM, the sales of US domestic cars in the US market will be significantly more cost-effective. Therefore, the US companies will be more motivated to transfer the investments and jobs to the United States.
Import substitution not only can create the domestic employment opportunities in the United States to enhance the absolute strength of the US economy, but also can seriously combat the foreign trade-oriented manufacturing industry of developing countries to weaken the competitors because many developing countries take the US manufacturing industry as a huge import market support.
(II) Establishment of US-controlled bilateral trade relations to highlight relative strength of US economy
Trump believed that the multilateral free trade system is detrimental to the United States, so that he announced a withdrawal from the TPP in the first week after his inauguration, and renegotiated the North American Free Trade Agreement. The first foreign leader he met was British Prime Minister Theresa May. Trump said that Brexit was a very good thing. In an interview with British Conservative Party member Michael Gove, he said that other EU countries were expected to follow the example of Brexit. Trump's foreign trade proposal is very clear, who refuses the regional integration of multilateral agreements or the economy in regional integration, but selects the bilateral trade to replace the regional trade agreement.
Unlike the consistency and fairness of WTO multilateral trade agreements, the bilateral trade agreements of the United States are characterized by controllability, selectivity, and destructiveness. The controllability is the one-on-one negotiation. The United States can rely on a huge consumer market to completely triumph over the opponents, while the regional trade multilateral agreement requires all the members to develop the regional trade negotiations, and there will be more prevarications and mutual restraints, which is difficult to highlight the advantages of the United States. The selectivity is that the United States can enter into bilateral trade agreements only with the required countries, by controlling the critical minority and giving up the minor majority, to increase its control over the global economy. The destructiveness means that the United States can take advantage of the bilateral trade agreements to disintegrate and weaken the strength of the regional integrated economies. It can be seen that Trump's so-called fair trade standard is favorable to the United States, and this unilateralism is unpopular.
At the same time, Trump also takes advantage of the Brexit to influence the process of regional integration in Europe, through the rewards of Brexit to induce the EU's domino effect, result in the fragmentation of Europe, disintegrate and weaken the EU, reduce the ability of Europe to deal with international affairs and to make it difficult to become an important pole in the multi-polar world, and at the same time weakening the status of the pound and the euro. More importantly, the European integration test suffering major setbacks will seriously affect the attempted power of other regions to build an open global trading system.
Path game of economic globalization and China's strategic reaction
In the superpower games of economic globalization, China has become one of the main rivals for the United States to implement the trade protection and bilateral agreement strategy as well maintain its global dominance, because China has unswervingly adhered to the win-win strategy of multilateral agreements and free trade cooperation. The import substitution strategy of mid-manufacturing of the United States is a serious challenge to China which has surpluses in the Sino-US trade. At the same time, China's exchange rate will also become the focus of the United States to attack. In this regard, China's short-term basic strategy should be exchange rate stability and trade counterattack. In the long run, China should deepen the reform and actively promote the formation of the new global economic pattern.
(I) Multiple solutions to the outflow of funds and exchange rate devaluation
The biggest risk to China's economy in 2017 comes from the exchange rate. Firstly, the exchange rate risk comes from the continued rising of interest rates by the United States. Trump, after taking office, has focused on stimulating the economy to increase the monetary demands, while the US unemployment rate is low, but the budget deficit is very high, so that the Fed will accelerate the rising of interest rates. Secondly, the exchange rate risk comes from Europe. This year is the European election year, due to the rise of the European right-wing forces, the election may appear the black swan event, leading to a substantial depreciation of the euro and spreading to the RMB exchange rate. Therefore, the RMB still has the devaluation pressure. Once the exchange rate devaluation and the pressure of capital outflow interact to form a feedback cycle, the domestic investors will definitely convert their own RMB assets into US dollar assets, in order to earn the income. By then, China's currency stock in 21 trillion US dollars will be a potential supply of RMB, and the foreign exchange reserves in 3 trillion US dollars will be utterly inadequate compared with it. The foreign currency of the residents' assets will seriously affect the domestic savings and the balance of investment, and also give an immeasurable blow to the real economy. China must pragmatically manage the exchange rates and the outflow of funds.
1. To implement the structure analysis on China's capital outflow in 2016. On December 30, 2016, the exchange rate of RMB to US dollar was 6.95, to be a new low during the year, with a depreciation of 6.56% compared with that at the beginning of year, of which the depreciation rate reached 4.02% from October to December. ⑺ According to CCWE estimates, China's broad capital outflow in 2016 was about 550 billion US dollars. ⑻
According to the CCWE estimates, assuming that the exchange settlement is lower than the surplus in commodity trade and the foreign exchange sales higher than service trade deficit are converted into the outflow of US dollar assets held by the private sector, there will be capital flight in 352.6 billion US dollars hidden in the annual current account of 2016, accounting for about 60% of total outflow. Based on the classification of assets, the liquid assets, such as deposits, in capital and financial accounts contributed the capital outflow of 126.9 US dollars in 2016, or about 22% of total outflow; the foreign currency direct investment contributed to the net capital outflow of 30.6 US dollars, or about 5% of total outflow; the US dollar securities (including bonds and stocks) contributed the net capital outflow of 18.4 US dollars or about 3% of total outflow. Since the depreciation of RMB after the August 11 exchange reform in 2015, the capital outflow is still made through the main channel of trade, while the capital outflow under the financial projects cannot be underestimated.
It is also worth noting that the capital outflow of the household sector is much lower than that of the business sector by classification of assets-holding entities. As shown in Fig.3, the household sector-led capital outflow in 2016 was about 90 billion US dollars, while the business sector-led capital outflows were about $ 561.9 billion ⑼. This shows that the main body of current capital outflow is still the business sector, of which the US dollar exchange made by non-financial institutions in the name of import and export settlement, foreign debt repayment, and others led this round of capital outflow. Guan Tao (2016) thinks that the domestic enterprises' acceleration of foreign debt repayment is the main channel for capital outflow. Based on the data of foreign exchange loan-to-deposit ratio, he finds that the foreign debt leverage rate of the business sector has continued to decline in recent years, and as of December 2015, the ratio had fallen to pre-crisis levels in 2007. According to CCWE estimates, with the expectations of RMB devaluation, the business sector has accelerated the process of foreign debt repayment, and the net repayment of foreign debt by business sector in 2016 was about 86 billion US dollars. According to CCWE estimates, as of the end of 2016, the total increase of deposits in household sector was 28.6 billion US dollars compared with that at the end of 2015, accounting for only 6% of total capital outflow, indicating that the vast majority of capital outflows were not converted into residents' deposits, but were transferred overseas through the trades and investments of the business sector.
2. To reverse the market depreciation expectations, and implement the strict management of the business sector. We believe that the monetary authorities should be decisive and aggressive in the face of foreign exchange market risk, to resolutely reverse the market depreciation expectations. On the one hand, the appropriate management of capital flow is required. Specifically, it is necessary to improve the audit on the authenticity of the current account, especially the trade settlement of the sale of goods, and to prevent the fund outflow of trade for the purpose of speculation. According to our study, this is the main channel for the current outflow of funds.
It is necessary to strengthen the management of foreign currency deposits, loans, and other liquidity foreign exchange assets; to carefully assess the risk of direct investment in RMB, to avoid the devaluation pressure on the offshore market arising from a large number of RMB outflows. The business sector is the focus of capital flow management, but it is required to focus on the large items and audit the large capital outflows. It should avoid the illegal acts in the exchange management of residents, stabilize the public expectations and eliminate the panic.
After the August 11 exchange reform in 2015, as shown in Fig.4, the capital outflow pressure began to rise sharply. As shown in Fig.5, the bank's current foreign exchange settlement deficit in the current account in August 2015 reached 93.1 billion US dollars, with an increase of nearly 70 billion US dollars compared with that of July. After a brief stabilization, the foreign exchange deficit was increased again in December 2015, with the scale of more than 40 billion US dollars, and then was steady down. In the last three months of 2016, the current account foreign exchange settlement deficit continued to expand, and the net current account for the current account in December was 32.6 billion US dollars, which was close to the level at the beginning of the year. It is not difficult to find that the current account and the foreign exchange settlement and trade deficit of capital and financial accounts have some synchronization with the exchange rate market fluctuations, but in terms of fluctuation range, the bank foreign exchange settlement and sales fluctuations under the current account are far more than the fluctuations under the capital and financial accounts. Therefore, we believe that the current account is the focus of cross-border capital management.
The current account is divided into trade in goods and service trade, as shown in Fig.6 and Fig.7. In August 2015, after the trade in goods foreign exchange settlement and sales were transferred to trade deficit, the foreign exchange sales proportion of trade in goods was in a substantial increase, the trade import exchange rate was more than the imports at that month, and the foreign exchange settlement and sales is not connected with the trade practices, becoming an important channel for capital flows. In contrast, although the proportion of foreign exchange settlement declined, the decline was small. The service trade foreign exchange settlement and sales was at a constant trade deficit, and the proportion of foreign exchange settlement declined constantly. The foreign exchange sales proportion increased significantly in January 2016, but it has been stabilized in the near future. Although the tourism deficit accounted for a large proportion of the service deficit, the volatility is very small, so that it is not the main channel for the last round of capital flows. In December 2016, the current account settlement deficit increased to 32.6 billion US dollars, which should be considered seriously.
3. To strengthen the high liquidity of short-term capital cross-border flow regulation, and to ensure the exchange rate stability. It is necessary to use a variety of tools to stabilize the offshore and onshore spot and forward markets, and use the lending rates and other market-oriented means to increase the speculative costs, so that the foreign exchange reserves can play the well-leveraged role. If no capital flow management, the foreign exchange intervention will soon run out of reserves; if no exchange rate market stability, the converse capital flow management will be costly and inefficient. Therefore, only the two-pronged approach of capital flow management and foreign exchange market intervention can effectively resolve the current round of foreign exchange market risk. The first half of 2017 is a critical period, so that it should strive to avoid the outflow of funds and the RMB exchange rate issue becoming the focus of the news. As long as the strategic strength remains, the exchange rate and capital flows will eventually stabilize, which will create a better external environment for China's economic development.
The bank foreign exchange settlement and sales under the financial accounts are classified as per capitalization. As shown in Fig.8, we find that the capital flows caused by direct investment and securities investment are relatively low, both from scale and volatility, which is consistent with the quarterly data in the balance of international payments. However, in the context of domestic and international monetary policy differentiation, the interest rate parity will still drive the liquidity capital to pursue high returns in overseas markets. As a result, the supervision authority needs to pay particular attention to cross-border flows of short-term capital with high liquidity, such as deposits and loans.
4. To strictly control the RMB outflow, and to relieve the pressure on the RMB devaluation. In addition to the capital outflows involved in bank foreign exchange settlement and sales, there are a large amount of capital flows directly in RMB. As shown in Fig.9 and Fig.10, the difference in foreign-related receipts and payments for domestic banks, including current account, capital, and financial accounts, has continued to be negative since August 2015, and there was a significant increase in the sharp depreciation of exchange rate, indicating that a large number of RMB funds are exported abroad through trade and financial channels. For the whole year of 2016, the accumulated annual outflow of RMB amounted to 309.5 billion US dollars. ⑽ The completion of exchange in the offshore market after the outflow of RMB may cause the pressure of the RMB devaluation in the offshore market, which is also a part of capital outflow that cannot be ignored.
5. Interbank markets and derivatives markets are the focus of foreign exchange intervention. From the foreign exchange market, as shown in Fig.11, the total transaction volume was in a steady decline after a peak in August 2015, but rose to 2.3 trillion US dollars again in November 2016. In terms of structure, the interbank foreign exchange market transaction proportion continued to rise, as shown in Fig.12, it rose from 60% at the beginning of 2015 to 85% at the end of 2016. In terms of trades, the spot transaction proportion fell from 55% to 46%, and options trades rose from 3% to 5.5%. In the light of the above analysis, we believe that the early individual and corporate capital flow management measures are effective, and the pressure of current round of devaluation has not caused the huge capital flow of the non-financial sector, but the capital pressure still exists along with the enlargement of trade volume in the foreign exchange market. The management of capital flows should include the interbank market and derivatives market. It is necessary to strengthen the intervention of the RMB forward market. In practice, we should focus on the management of large amounts of capital flows in the business sector, and prudently handle the policy adjustments involving the household sector to stabilize expectations. Only the interaction of the price tool and the quantity tool can fundamentally reverse the expectations on the excessive depreciation of RMB.
(II) Take precautions for an unfavorable trade war
In view of the imbalance in trade between China and the United States, Trump accuses that China's trade surplus to the US is not dependent on free trade and fair competition, but it is the political result of illegal operation by the Chinese government. He warns that if China does not stop the so-called unfair trade, the 45% tariff will be imposed on Chinese goods. Therefore, the trade war between China and the United States is inevitable, and it is necessary to take precautions for a correct prejudgment on the size and consequences of a trade war.
The latest study by Peterson Institute for International Economics argues that in the context of a comprehensive trade war, the United States imposes a 45% tariff on Chinese imports, and China also imposes the same tariff on US imports. In the United States, there will be imminent import and export, rising of domestic prices, consumption, a continuation of investment lower than non-trade war and other benchmark situations, and the economic growth continues to decline and will enter into a recession in 2019. The Sino-US trade war will lead to the unemployment of 4.8 million workers in the United States, and the unemployment rate will rise from the current 4.9% to 8.6% in 2020. In short, in the case of a trade war, the two economies will be seriously affected. As China still contributes to the global economic growth in 1/3 to 1/4, the trade war between the largest and the second-largest economies may also bring the world economy into recession. Simply, the trade war will be failed, and is a double loss.
Since Trump did not get the support of the overwhelming majority of voters in the general election, the ruling public opinion was very unstable. Therefore, soon after Trump takes office, his policy development and implementation process is extremely difficult, in this case, and it is less possible to break out comprehensive trade war between China and the United States. Trump urgently needs quick results to consolidate his public opinion base, so that he should take the easiest the first. In the initial stage, he may start from Mexico, Canada, Japan, and other allies that are easy to tame, and force the US multinational companies to move the manufacturing industry back to the United States, so as to increase employment and reduce imports. After obtaining a certain degree of success, the general offensive would be launched on China.
Trump, after taking office, adopted more virtual tricks and provocations towards China. He is likely to play a personal role, directly facing the public opinions arising from a single product or enterprise. China must realize that such an approach, for separate operations without practical effects will not have a systematic and comprehensive impact on international trade, but simply acts in the international public opinion field. Despite the fact that Trump was unable to bear the big loss in the early days, China was not willing to compromise on the so-called win-win with its wish, and was not forced into the desperate situation by the United States as Japan accepted the Plaza Accord of the United States. China's best strategy is to come up with courage and spirit that are afraid of double loss, so that Trump knows that China will not easily make concessions, and he hastily dares not make the trade war. As the current financial markets overestimate the strength and influence of Trump's New Deal, it is more reflective of Trump's willingness rather than Trump's ability. Later, along with the constant promulgation of his actual performance of ruling, the honeymoon period of Trump and Wall Street is over, and the market is expected to gradually call back towards the ability, and the United States may even internally produce the strife. After the meeting of Xi Jinping and Trump, the political atmosphere between China and the United States has eased, but the economic relations remain to be seen. As long as China cautiously takes measures against the first attack of Trump, it can gain the time for strategic adjustment on Chinese manufacturing industry, to keep the bottom line of double lose.
China is currently the largest exporter of the United States. The total amount of goods imported from China by the United States in 2015 was 482 billion US dollars, of which the electromechanical products were 237 US dollars. As the import substitution strategy is implemented in the United States, Trump is likely to implement the import substitution strategy on the electromechanical products in 237 billion US dollars exported by China to the United States, and also impose high tariffs on other labor-intensive products. ⑾ However, after taking office, Trump will not choose to engage in a hand-to-hand trade war with China, but adopt the separate method to make foreign companies and US companies yield, and then transfer the manufacturing industry to the United States, to finally deal with China by firstly disrupting the global supply chain. Therefore, China should take precautions, pay close attention to the adjustment of manufacturing in this period, and make preparation for the further trade war.
(III) To deepen the reform, creating a dynamic growth model for big nations
The above analysis is the short-term strategic solution to the anti-globalization tide of the United States. In the long run, China's ability to respond effectively to external shocks depends on the situation of China's economic reform and development, and also relies on the overall strength and international competitiveness of China's economy.
1. To deepen the supply-side structural reform and enhance the endogenous power of China's economy. Since the reform and opening-up, China's sustained and rapid economic growth has created a world-renowned Chinese miracle. However, with the continuous expansion of the total economy, China's economic structural imbalances gradually appear and are intensified. On the one hand, China's economy is manifested as the excess capacity in terms of overall performance; on the other hand, the excess capacity is concentrated in the middle and low-end products, while the supply of high-end products is insufficient. The supply-side structural reform is to improve the quality of supply, use the reform approach to promote the structural adjustment, expand the effective supply, cultivate the new growth points, form the new growth momentum, promote the sustained and healthy development of China's economy, and effectively resist the external impact.
To deepen the supply-side structural reform, it needs to focus on the policy of cutting overcapacity, reducing excess inventory, deleveraging, lowering costs, and strengthening areas of weakness, breaking some of the interest game dilemmas, and improving the effectiveness of reform. In the reform of cutting overcapacity, the interest game dilemma of asymmetric cost-benefit is produced which becomes the resistance to the elimination of outdated capacity, because there are different interest objects for the embedded cost arising from the elimination of outdated capacity and the opportunity benefit of the remaining advanced capacity. In some places, the cutting overcapacity may only temporarily cut the partial capacity, but its outdated capacity does not really leave the market; some of the outdated capacity even relies on local government for survival. To break the dilemma of this interest game, it is necessary to establish a more reasonable mechanism in order to eliminate the outdated capacity in a paid manner.
In the reform of deleveraging, the interest game dilemma of asymmetric cost-benefit is produced which reduces the effect of deleveraging, because the state-owned enterprises and local governments enjoy the short-term excess returns of blind expansion, and the risk is borne by the entire economic system. In 2016, after the deleveraging, the leverage ratio of private enterprises was reduced, while the debt ratio of state-owned enterprises and local government platforms was still high. The IMF study found that the output of state-owned enterprises accounted for only 22% of China's total output, while the debt of state-owned enterprises accounted for 55% of total corporate debt. In the audit checks for local government debts, it is found that Zhejiang, Sichuan, Shandong, and Henan provinces had a debt balance reaching 15.55 billion Yuan through illegal guarantees, fundraising, or commitment to repayment. To break the dilemma of such interest, it is necessary to break the rigid payment of financial institutions and to strengthen the self-restraint of state-owned enterprises and local governments through the legitimate accountability on the illegal acts of debts of state-owned enterprises, financial institutions, and local governments.
2. To further optimize the institutional mechanisms, and to create a dynamic mode of growth in great powers. With the rise of economic globalization and the proportion of developing countries in the international economy, especially the peaceful rise of China, the world pattern dominated by Western countries with the United States as the representative has been broken, while the influence of China in global economic and international governance is increased gradually. The 2017 Davos Forum showed this panorama to us in a vivid way. To continue this development trend in China and completely break the challenges of US anti-globalization to China, it must further optimize the institutional mechanisms and create a dynamic mode of growth in great powers. (1) To establish a set of institutions that can accurately regulate the modern market economy, and enhance economic vitality. (2) To establish a sound system of governance system and legal system to ensure the healthy operation of the market economy. (3) To create a large number of ideal, constrained, and inspired ruling elites. If China's reform can achieve substantial progress in the above three aspects, China will undoubtedly achieve economic and social modernization, and China's international status will rise further, so that the pattern of competition between China and the United States will be completely changed.
(IV) To pragmatically promote the process of globalization and pluralistic cooperation
Since the reform and opening up, China has attracted foreign investment in more than 1.7 trillion US dollars, China's foreign direct investment has been more than 1.2 trillion US dollars, and China's economic growth rate in the global economic growth is up to 33.2% ⑿. China is the beneficiary of economic globalization based on multilateral agreements and free trade, and also the contributor to economic globalization. Promoting the globalization of pluralistic cooperation is the objective need for further development of globalization, which is in line with the interests of China as well as the interests of the vast majority of the countries in the world.
The multilateral trading system is a global trade coordination organization that is widely recognized and irreplaceable among the world's economies. Over the years, the World Trade Organization (WTO), which aims at achieving world trade liberalization, has always adhered to the principles of market openness, non-discrimination, and fair trade, and has made outstanding contributions to economic development at various countries. China must firmly support and uphold the multilateral trade system with the WTO as a core, actively and pragmatically promote international trade liberalization on a global scale, and realize the inclusive growth of the global economy.
The regional economic integration organization is an important carrier of economic globalization and diversification, and also an important force to weaken the US-led global economy. Therefore, the United States tries to use bilateral trade to replace regional multilateral trade, in order to collapse and weaken the regional economic integration organization. China should actively support the regional integration organizations, including the EU, to promote the diversification of the global economy. The regional comprehensive economic partnership (RCEP) is the largest negotiating agreement with the most participating members in East Asia. China is the main promoter and coordinator of the RCEP negotiations. Considering the fact that the gap between the socio-economic development level of RCEP members is large and the interest appeal is difficult to be consistent, it should pursue the largest public relations rather than the perfect agreement, and a progressive liberalization path should be adopted to promote the RCEP negotiation process.
The Belt and Road should be taken as effective measures to promote the process of globalization of pluralistic cooperation. On the one hand, it is necessary to vigorously promote the open principles and long-term common development principles of the Belt and Road, and highlight the goal of the Belt and Road to achieve win-win cooperation through interconnection and comparative advantage of regional economies. On the other hand, it should endeavor to build the Belt and Road into an inclusive development platform that does not engage in the exclusive design but welcome any country with cooperation willing to participate in. Compared to the Marshall Plan of the United States after World War II, the Belt and Road places more emphasis on the win-win situation and strives to effectively bring benefits for the people in the regions participating in the globalization, not just from the interests of China. It should seize the infrastructure construction, to digest China's excess capacity and also create the conditions for the development of countries along the Belt and Road, to allow the people in such countries to share the strategy implementation results of the Belt and Road, and to further enhance the influence of China in the economic globalization process.
Economic globalization is a double-edged sword, so that China should learn from the international experience and lessons in the process of globalization, actively and steadily promote the process of economic globalization. (1) The foreign investment should be gradual, and the scale should be moderate. (2) The domestic industrial hollowness should be prevented. (3) In the case that US dollar standard system and the RMB are globalized, it will be necessary to continue to strengthen the supervision of capital cross-border flow, in order to ensure the exchange rate stability.
⑴ Data Sources: World Trade Organization, World Trade Statistics in 2016, Page 22
⑵ Data of Tsinghua University and the Center for China in the World Economy (CCWE) cited in this paper are derived from the CCWE Macroeconomic Research Report in the first quarter of 2017.
⑶ The purchase of real estate is one of the most common ways of money laundering in India. It has been reported that the decree of banknotes abandonment has brought a negative impact on real estate transactions in major cities such as Mumbai.
⑷ Data Sources: National Statistical Commission (http://mospi.gov.in)
⑸ Data Sources: National Bureau of Statistics of China (http://www.stats.gov.cn/tjzs/tjsj/tjcb/dysj/201703/t20170328_1478383.htm); World Development Indicators
⑹ Data Sources: World Bank (http://data.worldbank.org/indicator/BX.KLT.DINV.CD.WD)
⑺ ⑽ Data Sources: State Administration of Foreign Exchange (http://www.safe.gov.cn/wps/portal/sy/tjsj)
⑻ According to the CCWE estimates, generalized capital outflow = reduction of foreign exchange reserves + trade surplus (including trade in goods and service trades) - depreciation effect of exchange rate fluctuation
⑼ When the capital outflow is classified according to the assets-holding entities, we make the following assumptions: (1) In the current account, the capital outflow hidden in the trade of goods is dominated by the business sector, and the capital outflow hidden in the service trade (mainly for tourism) is dominated by residents; (2) The executive entities for the capital outflow involved in securities investment and direct investment are the business sector, on the grounds that the securities investment is mainly outflow by financial institutions through QDII and other channels, while the direct investment is mostly actions of state-owned enterprises and private enterprises; (3) The domestic deposits and loans are only considered in other investment items, of which the household deposits and loans are dominated by the household sector, while the non-financial enterprise deposits and loans are dominated by the business sector.
⑾ Data Sources: U.S. Department of Commerce (https://www.commerce.gov/)
⑿ Data Sources: China's Ministry of Commerce, the19th China International Investment and Trade Fair Press Conference
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