Why Trade Figures Do Not Prove China Is Rebalancing

China’s trade surplus declined in the first quarter, and during March the country ran a deficit of $7.2 billion, its first monthly trade deficit since 2004. Contrary to some analyses, this is not proof that the economy has made significant progress toward rebalancing or a reason for the United States to back away from pushing China on yuan appreciation.

The short-run decline in the trade balance was driven by seasonal effects, a slowdown in China’s export markets, and a surge in raw materials imports - none of which indicate that China is making a transition to an economy driven by greater consumer demand. 

On the contrary, a breakdown of trade figures indicates that although demand has returned, it is largely related to investment-led growth, not to consumer demand. 

Seasonal Factors

Seasonal factors depressed China’s exports in the first quarter, perhaps more than during most years. First quarter exports typically fall with the decline in demand after the holiday season. But this year, reports of extended factory closings following the Chinese New Year in February may have also contributed to weak exports in the month of March. Exports declined 11% from Q4 2009 to Q1 2010, and the month-over-month increase from February to March this year was just 18.6%, below the 24.7% increase in 2008 and the 39.1% increase in 2009.

Export Demand Was Weak

The decline in China’s trade balance was also due to weak demand for China’s exports. Since May 2009, export growth has lagged behind import growth (with the exception of February 2010 when exports grew 1% faster then imports). In March, import and export growth diverged dramatically with imports growing 64.4% year-over-year (YOY) and exports growing 24.2% YOY (see Chart 1).

Weak export growth was a consequence of weak recoveries in the European Union, United States, and Japan, which accounted for 46% of China’s exports in 2008. Even though exports to the EU, US, and Japan increased by 25%, 17%, and 19% YOY in March 2010, these gains barely made up for the decline during the previous year. In other words, exports to China’s major trading partners have remained flat since 2008 (see Chart 2).

 

Chart 2: Exports to Large Markets
YOY % Change

	EU	USA	Japan
March-09	-20.2%	-12.6%	-13.6%
March-10	24.6%	17.5%	18.9%
% Change Since March 2008	-0.6%	2.7%	2.7%

Source: CEIC, General Administration of Customs

While export growth remained subdued, import growth has surged. But the increase in imports reflects an intensification of investment-driven growth and demand for commodities and materials, not a move to greater consumer demand.[1] Fixed asset investment grew 25.6% in the first quarter of 2010 compared to the first quarter of 2009. Partly as a result, China imported $27.6 billion more commodities and materials in March 2010 than in March 2009, an increase of 77.1% YOY. This was the major driver of the $25.8 billion decline in the trade balance during the same period (see Chart 3).

 

Chart 3

 

While the volume of commodity imports increased (particularly for crude and iron), the trade value increased far more due to the rising prices of commodities. According to the Customs Administration, the volume of crude imports increased 29% and the trade value increased 131% (see Chart 4).

 

	Increase in Import Volume (thousand tons)	Increase in Import Value (USD)
Crude Oil	28.9%	131.2%
Iron Ore	13.3%	42.6%
Refined Petroleum Products	0.6%	71.7%
Soybeans	3.9%	17.3%

Source: CEIC, General Administration of Customs

Evidence of Consumer Goods Imports?

Imports of manufactured goods, which encompass both consumer goods imports and capital goods imports, could be an indication either of increased consumer demand or evidence of investment-related demand generated by China’s stimulus program. The decline in China’s trade balance has led some to claim that consumer demand is driving the rebalancing of the economy, but upon closer inspection the evidence of increased imports of consumer goods is at best mixed. 

Motor vehicles imports have soared on the back of strong government subsidies and increased demand, but imports of other consumer goods have not grown as quickly and in some cases have declined. During the last six months (October 2009 - March 2010), motor vehicle imports increased 211% from the same period last year. During the same period, imports of furniture and footwear increased by 15.4% and 5.3%, respectively, but clothing imports declined by 6.9% (see Chart 5).  During the six months between September 2009 and February 2010, imports of air conditioners increased 9.0% but imports of televisions declined 54.6% from the same time period last year.  In short, with the exception of motor vehicles, imports of consumer goods remained relatively weak, with some areas showing modest gains and others showing losses.

Chart 5

At first glance, increased imports of motor vehicles would tend to support the argument that China is rebalancing. But on closer examination, one would see that the demand for cars has been driven by a government strategy to develop a strong domestic auto sector, not by a goal of creating a more consumer-oriented economy. Policies to support the auto sector, which included significant subsidies for purchasers and producers of fuel efficient vehicles, were partly responsible for dramatic increases in sales during 2009 and the first quarter of 2010. While some stimulus to the auto sector will expire in 2010, subsidies will continue for gas vehicles with engines smaller than 1.6 liters; “cash for clunkers” rebates in rural areas of up to 18,000 yuan ($2,632); and rebates for “new energy” cars, or fully electric cars, of up to 60,000 yuan ($8,775). 

Stimulus for the auto sector will continue to drive import demand in the medium term, but this is not necessarily a bellwether for a more consumer-oriented economy in the long term. Demand stimulus in this case, together with the restructuring of the state-owned auto companies, is aimed at creating an internationally competitive auto industry that in the end will contribute to China’s export orientation rather than making it more driven by domestic consumer demand.

Conclusion

China’s trade balance has declined because China’s stimulus program intensified investment-led growth, increasing demand for commodities and capital goods.  Based on our analysis, it is not evident that China has made progress toward rebalancing to a more consumer-oriented economy.

Indeed, there is a danger that if global demand recovers and China continues to neglect the needed structural reforms, China’s trade surplus will again increase. A rise in exports from the recovery of global demand could be combined with the withdrawal of the stimulus program that has driven the increase in imports to push China’s trade surplus back up to worrying levels. Excessive bank lending since the beginning of 2009 incentivized stockpiling of commodities and materials and the development of spare capacity. A tightening cycle could force enterprises in China to reduce imports and rely on existing commodity stockpiles and excess capacity to increase exports, leading to a rise in the trade surplus.

There is a danger, then, that the recent trade figures will temporarily reduce pressure on China to rebalance its economy. Given the likelihood that China’s investment-heavy stimulus will lead to a new surge in China’s net exports, it is even more important that the United States develop a strategy to encourage China to undertake structural reforms to rebalance its economy. Revaluation of the yuan, although no substitute for longer term structural changes, would be a good place to start.