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Economics Weekly - Global trade imbalances to shrink; Weekly economic data preview - Chancellor’s pre-election Budget keenly awaited

Economics Weekly - 22 March 2010

 

Global trade imbalances to shrink

 

US/China trade tensions rooted in a misunderstanding of the facts

Global trade disputes have not gone away. Even though there was significant cooperation amongst countries over the last two years to limit the effects of the recession through coordinated fiscal and monetary loosening, substantial issues around trade remain. Friction is most apparent between the US and China, especially as China fixed its exchange rate against the US dollar in 2008. Chart a illustrates that the Chinese surplus and the US deficit seem to be mirror images of each other. In this weekly, we look more closely at global imbalances, concluding that, contrary to market expectations, they are likely to continue to narrow in the years ahead and that China is playing a crucial role in that process. Recognition of this would lessen trade tensions, reducing the risk of protectionism and severe damage to all participants in the global economy that have benefited so much from its expansion in the last twenty years. However, this may not be possible at a time that political tensions seem to be rising. This would be a pity as the reality is that trade openness has enabled the largest reduction in global poverty levels and increase in wealth ever recorded.

 

Chinese currency fix not to blame for US deficit…

The Chinese economy did not experience even one quarter of negative growth during the recession, exacerbating perceptions of unfair trade practices in the rest of the world. However, the US has experienced its deepest downturn since the 1930’s depression. The US partly views its large US current account deficit as evidence of unfair trading practices, especially from China since that is the country it has the biggest bilateral trade deficit with and the largest economy that fixes its currency against the US dollar. However, although the latter is true - the Chinese have fixed the yuan to the dollar - is this interpretation of China's role in the US trade deficit a fair one? In reality, there appears to be little correlation between the yuan and changes in the size of the US current deficit, at least since the fix in 2008. The reduction in the US trade deficit as a share of gdp has continued as sharply as prior to the fix. Earlier action by China to appreciate its currency vis-à-vis the US may have helped this process.

 

..and global trade imbalances are shrinking…

Looking at table a shows that, contrary to popular belief, the US external deficit has shrunk from a peak of 5.3% of its economy in 2004 to 2.6% in 2009. The expectation is that the deficit will stabilise at this new, lower level out to 2014. It is also apparent from the table that trade surpluses do not just exist in China but also in Germany and Japan - high saving economies with ageing populations that consume relatively little from abroad but export a lot.

 

Forecasts show that, from a peak surplus of exports over imports of 3.7% of gdp in 2004, the Japanese surplus is expected to shrink to 1.5% of its economy by 2014. In the case of Germany, however, the surplus is expected to rise, from the 2004 level of 4.7% of gdp to 5.1% in 2014. One obvious reason why this may not attract as much US ire is because the currencies of these two economies are allowed to be determined freely by market forces whereas that of China is decided by the government. Removing this would perhaps lead to less attention been focused on unfair trading practices from China and more on other factors.

 

US deficit and Chinese surplus down to domestic pathologies

A change in focus would help the US itself in the long run, as the real reason for its continued deficit is not primarily the exchange rate against China but its own domestic spending and saving proclivities and productivity. Roughly speaking, US consumption is so high as a share of gdp that the extra supply required to meet the demand comes in from overseas, while China consumes too little and the extra it produces is sold overseas. These trends are shown in chart b. The chart shows that Chinese consumption is lower as a share of gdp than in the US, and this share has fallen further since 2000, despite an appreciation in the Chinese yuan. However, chart c shows that Chinese import growth has increased sharply, even though it has fallen back somewhat in the recession. By contrast, US consumer spending as a share of its gdp has remained high, despite a more competitive currency. The US import share of gdp continued to trend modestly higher since 2000, but has fallen back since the onset of recession in 2008.

 

China set to add more to global gdp than the US

A virtuous combination of US exports rising faster than imports and Chinese imports rising faster than exports is reducing the Chinese trade surplus and lowering the US trade deficit. That bodes well for the stability of global markets in the years ahead, if this is the focus rather than exchange rates. This is particularly likely to be the case because the rise in Chinese imports is, at the margin, adding more to global economic growth than US imports. Chart d shows how powerful an argument for open markets this is, based on the change in the cumulative total of US and Chinese imports in three periods: 2000-2004, 2005-2009 and, looking ahead, 2010-2014.

 

Chinese imports have roughly added the same as the US to global imports in the five years to 2009, after roughly adding half as much in the previous five years. In the next five years, China is expected to add one-quarter more to global imports than the US. Whilst the US will remain the single biggest import market in value terms, the incremental increase will be coming from China in the next five years. This means that it is in the interests of the US to retain open markets, as it too will benefit from this trend. It is one of the reasons why its trade deficit will stabilise as a share of gdp. This is a powerful argument for the US and China to avoid being drawn into self-defeating spats about the exchange rate and to keep global trade open.

Trevor Williams, Chief Economist, Corporate Markets

 

Weekly economic data preview - 22 March 2010

 

Chancellor’s pre-election Budget keenly awaited

 

􀂄 In the UK, this week sees a busy economic data calendar featuring the Chancellor’s Budget, CPI and retail sales. In Wednesday’s Budget all eyes will be on Mr. Darling’s projections for public sector net borrowing where the Pre-Budget Report forecast for 2009/10 of £177.6bn may be undershot by an appreciable margin. Ahead of an election, it may be that savings are directed towards various initiatives, perhaps measures aimed at helping the long-term unemployed. But as in other countries, fiscal consolidation is still the name of the game. Taken overall, we look for the Budget to be mildly expansionary. Meanwhile, our forecast for February’s annual CPI rate stands at 3.1%. Notable features regarding February’s annual CPI rate include downward pressure from food prices, which registered a particularly sharp month-on-month increase (of 1.7%) in February last year. In addition, February’s RPI data will be the first to incorporate a new measure of mortgage interest payments. The latter is no longer based just on the standard variable rate (SVR), but on a weighted average of mortgage rates including fixed, tracker and discount as well as SVR. While this has the longer-term benefit of reducing both RPI volatility and the differential between RPI and CPI, in practice we think the methodology change will have little meaningful impact on next week’s RPI data. Meanwhile, we look for retail sales excluding petrol to recover to +0.6% month-on-month in February, following a sharp weather-related decline in January.

 

􀂄 The statement accompanying last week’s US Federal Reserve monetary policy decision made a passing reference to the ongoing fragility of the housing market. At one level, the Fed has not extended its purchases of agency mortgage backed securities (MBS) and debt, which are due to expire at the end of this month. At another, the regular dataflow - new and existing home sales data are published this week - has yet to show convincing signs of a turnaround. On existing home sales, we look for an outturn of 4.95mn units following sharp declines in both December and January as buyers accelerated purchases to take advantage of a tax break originally due to expire at the end of November (subsequently extended). On new home sales, we look for a reading of 310,000 units in February. Other key US economic data published this week include the third estimate of Q4 GDP (where we look for an unrevised outturn of 5.9% annualized growth) and durable goods orders for February. Business spending on equipment and software has increased recently, although a still uncertain economic climate suggests that overall fixed investment is not yet poised to rebound strongly. Excluding transportation, our durable goods orders forecast stands at +0.3% month-on-month.

 

􀂄 Euro-zone government bond markets appear to have gone lukewarm on the recently arranged emergency financial support facility for Greece. Markets are concerned that the cost of refinancing some €55bn of debt this year may prove too much and that the emergency facility agreed among euro-zone finance ministers will not be a backstop, but a reality. This week’s euro-zone economic data feature a range of important releases, mainly forward-looking business surveys. Wednesday sees the publication of March’s German Ifo survey, where we look for the business climate index to register 95.7 compared with a previous reading of 95.2. In particular, we look for the current conditions index to have improved significantly during the month reflecting measures to alleviate difficulties in Greece. But as noted above, these problems may yet resurface. Elsewhere, preliminary euro-zone purchasing managers’ survey data for March are also released on Wednesday, where we envisage an improvement to 55.0 from 54.2 previously for manufacturing. Finally, euro-zone M3 money supply data for February are published, where the fall in lending to non-financial corporations continues, albeit alongside a modest recovery in mortgage lending (see chart).

Mark Miller, Global Macroeconomist

 

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