China Research

A discussion forum on emerging markets, mainly China – from a macro, micro, institutional and corporate angle.

Re-considered: The Competition between Brazil and Mexico – and China’s Role in this Competition

November 7, 2012

Summary in English

Competition between the two Latin American giants, Brazil and Mexico, has been fierce for many years. Joining the North American Free Trade Area (NAFTA) in 1994 gave Mexico a couple of very successful years. In 2000, expectations of more fundamental economic reforms were high when president Vincente Fox took over after 70 years of leadership by the Institutional Revolutionary Party (PRI). However, reform expectations were not met since Fox did not have a political majority in parliament – a situation which his successor Felipe Calderón from PRI is confronted with as well. Ironically, the new Mexican leaders now support the reforms that they critically rejected during the 12-year presidency of Fox.

Contrary to Mexico, Brazil entered the new century with a lot of doubts and question marks. In 2001, Brazil was hit by the Argentinian crisis. The South American free trade area Mercosur moved on very slowly. The business climate worsened further when the former leftist union leader Lula Da Silva won the presidential elections in 2002. But Lula changed style in time and went visibly for economic stability and reforms, well supported by parliament – contrary to Vincente Fox in Mexico. Lula was even re-elected in 2006.

Statistics give an obvious answer on the results of Mexican/Brazilian economic competition (GDP growth 2000-2009, average: Mexico 1.7 percent and Brazil 3.3 percent). Apart from domestic political conditions, one external factor contributed a lot to the different performance of Mexico and Brazil: the rapid rise of “manufacturing China” which very sharply turned out to be a main competitor to the “manufacturing Mexico”, particularly what concerns exports to the U.S. During only one decade, China more than doubled its exports to the U.S., much at the expense of Mexico. At the same time, Brazil was very much favored by China’s commodity import boom. Last year, China absorbed 17 percent of all Brazilian exports which means that China has advanced to number one of all Brazilian export markets.

During this ongoing decade, growth perspectives may again change pattern. Chinese total import growth may weaken somewhat on trend in the forthcoming years. Mexican competitiveness may be supported by the peso depreciation in the past years. So far, the GDP growth numbers of Mexico and Brazil are quite similar since 2010, around 4 per cent, with Mexico a little bit in the lead.

The relatively dampened or weak global growth outlook should lead to the conclusion that domestic demand in Mexico and Brazil may play a somewhat larger role for economic growth in the forthcoming years than in the past. In this context, Mexico may have a little better cards because of its substantially lower public debt in relation to GDP, slightly above one third compared to more visibly above 50 per cent in Brazil.

Read the whole analysis (in German)

 

 

 

 

 

Mauro Toldo
Head of Emerging Markets / Country Risk Analysis, Deka Bank

 

 

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China’s Impact on the Global Commodity Markets

Today, China dominates the global commodity markets by its strong demand for oil, metals and agricultural commodities. China is not only consuming an increasing portion of ores, fuels and food, but is also an important supplier of a lot of commodities, e.g. rare metals, coal and some special metals.

We can illustrate China’s role by a closer look at the world steel market. The worldwide steel production has recovered more rapidly than initially expected. In 2011, production amounted to about 1.53 billion tons of crude steel worldwide. For 2012, we forecast a crude steel production of around 1.55 billion tons. We expect a further increase of up to 1.75 billion tons for 2015. This development enhances the demand for iron ore, blast furnace, coke and steel scrap. Important impetus continues to come from China and other Asian regions. China’s output will be up to 720 million tons in the current year and close to 800 million tons in 2015. This equals the global production level of the mid nineties!  In addition, we see rising production volumes in India, Vietnam and Indonesia.

On the other hand Western European steel production is still below pre-crisis level and will only stagnate in 2013  while some Eastern European countries will show a stronger growth during the next years. Within Europe Turkey could reach a new all-time high with a production volume of up to 38 million tons in the current year. For 2015, we expect a volume of more than 40 million tons.

To fulfill the needs of the output highs of the global steel industry new capacities for iron ore are necessary. About 70 per cent of the worldwide iron ore reserves are hold by three companies (Vale, BHP and Rio Tinto). Together with capacities of Anglo-American and the captive capacities of ArcelorMittal they control the worldwide supply of iron ore. Compared to our steel production forecast another 450 million tons of iron ore per year will be needed in 2015.

Today China influences the spot market price for iron via its tremendous demand. The leading iron ore producers invest mainly to fulfill Chinas needs, e.g. Vale ordered new vessels with higher capacities ever seen primarily for the transport of iron from Brazil to China. Beside steel China holds a nearly similar position  in the markets for aluminum, copper, nickel and zinc as well as the casting of these metals. In the long-run China will become the main consumer of oil instead of the United States.

The country is the leading producer of rare metals with a production share of 97 % in 2010, needed in high-tech applications worldwide. Restrictions for exports of these rare metals via tariffs or volume constraints are not unusual in China. And even in the medium-term countries outside of China are unable to substitute these raw materials or find other suppliers. This will result in a rising production of high-tech application within China. Therefore, Western companies discuss more and more joint ventures in China to secure their raw material supply.

During October 2012  China announced a further restriction for the export of copper scrap. Holding the scrap in the country improves Chinas resource base, because it is the leading copper user worldwide.  Outside of China the reduced scrap supply  induces higher prices for scrap and via higher input costs in a second step  higher prices for secondary and primary copper. In addition, there are high inventories of copper in the Chinese  warehouse of the SHFE and higher strategic reserves of copper.

These are only a few examples for the rising importance of China in the commodity markets. But does this behavior result in an optimal allocation of resources? In our opinion it does not. With a completely free trade of commodities the market would chose the best location for the production of goods via the price mechanism. Restrictions for free trade induce higher prices than necessary.

 

 

 

 

 

 

 

Heinz-Jürgen Büchner
Vice President Economics and Research, IKB Deutsche Industriebank

 

 

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Winds of Change in China?

On November 8, the National Congress of the Communist Party with more than 2000 delegates will start its convention in Beijing and some days later select its next political leadership for – probably – the next decade – a decade that will be much more difficult to surmount than the previous one.

The powerful politburo will almost completely be replaced by new faces, and probably seven/five out of nine/seven individuals of the even much more powerful inner circle Politburo Standing Committee will have the same change, i.e. that only the – most probably – forthcoming Party  Leader  Xi Jinping and future Prime Minister Li Keqiang will keep their seats in this forum of all important decisions (currently considered as number six and seven).

A lot is currently discussed about the future political, social and economic course of Xi Jinping. But this discussion is too simple-minded since the Party Leader is not making decisions on his own. He has to find consensus himself within the Standing Committee which mostly urges for a “middle-of- the-road position”. This line can only be left in extraordinary cases,  like the opening-up policy by Deng Xiaoping almost 35 years ago. Currently, such moves cannot be seen. I still cannot see Xi as a major reformer, neither in political nor in economic terms. But nobody knows what will happen in the next, very challenging 10 years. Not many scenarios can be ruled out completely.

Political challenges

Discussions about future policy and strategic issues were not taken up in the past months  by  the leading candidates for China’s new leadership. However, it seems to be completely clear that domestic issues will have to /should dominate politics in the future. This may concern amoung other areas

–  institutions  (including the fight against corruption and more application of the rule of law)

–  transparency (also an institutional factor)

–  better environment in all respects (quality of food and water included)

–  acceptable minimum social security standards for the whole nation

–  acceptable health care for the whole nation

–  better income distribution.

All post-war leaders had so far their political legitimacy, lately particularly high economic growth and internationalization. In my feeling, the new Chinese leaders will have to look mainly for acceptable growth – which may be closer to 8-9 percent than maximum growth around 10 percent as seen in the past two decades. But such a development will assume that the above-mentioned political challenges will be taken seriously by the new leaders.

Economic challenges

Many of the future economic challenges have a nexus with politics or globalization. Some of them are mentioned below (but have been described more thoroughly by me in earlier pieces).

They are, for example (without ranking):

–  generally: more marketization and transparency (vs political control)

–  modernization of financial markets (institutions such as the stock exchanges and bond markets, instruments, products for savers, supervision, etc)

–  cleaning up the state-owned banks (and make them more transparent)

–  financial deregulation (domestically, cross-border, sequencing)

–  transparency and the creation of sustainable real total government debt (central and local)

–  modernization of monetary policy

–  modernization of exchange rate policy

–  new growth model (higher share of private consumption in relation to GDP)

–  creation of conditions for improvements of corporate productivity and industrial value chain

–  creation of improved conditions for product quality and services

–  decrease of the state-owned corporate sector

–  decline of regional disparities

–  creation of strategies for gradually worsening demographic conditions.

 

This leads us finally to three crucial questions (which cannot be elaborated in this little blog contribution):

–  Can the new Chinese leaders achieve an appropriate way of combining state intervention and marketization?

–  How sustainable are Chinese current account surpluses in the long run?

–  What happens the day when China’s yuan finally achieves the status of a convertible currency (probably not within the next decade – but serious preparations may start during Xi’s leadership)? How will the U.S. and the U.S.dollar react on such a change?

We stay here for today – predicting no  major changes of wind in the foreseeable future. Gradual and smaller steps forward, however, should continue in the next years. Political, social and institutional strategy considerations should gain political momentum in the next decade – maybe somewhat at the expense of economic growth.

 

Hubert Fromlet
Professor of International Economics
Editorial board

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