Friday, November 28, 2014

Australia's Growing China Dependence: Do We Need a Plan B?

Australia's increasing economic interactions with China are seen by most as unequivocally beneficial. The putative growing middle classes of China and the rest of Asia will see Australia flourish over the next decade, according to most economic policy-makers and commentators. Joe Hockey recently argued:
China's middle-class of around 150 million people is expected to reach 1 billion in just 16 years. Over 30 per cent of India's population will also lift into the middle class at around the same time! That, in particular, is an amazing transformation given that two thirds of India's population currently has no access to basic services. This rising middle class of Asia wants what comes from Australia's farms and our gas fields. They want to come here as tourists, attend our universities and they need our financial sector to manage their wealth and plan their retirement. They want our quality of life with good housing, roads and transport, clean air and excellent quality health services. Their elderly want quality aged care services and their youth want hope that they can forge an even better quality of life.
Elsewhere Hockey has argued:
The bottom line is the world’s going to want commodities because of the emerging middle class, particularly in Asia but also in Africa and various other places … I don’t think there’s any commodities (downturn) — I think that’s market trash. I think we’ve got to deal with the reality of where the world’s going to be in the next 30 years. They’re going to want commodities.
The Reserve Bank's Alexandra Heath also contends:
Yet, even if the sustainable growth trajectory for the Chinese economy gradually declines over the medium term, the economy is much larger than it was and is still growing. This implies there will continue to be a huge appetite for commodities of many kinds. Some of this demand can be satisfied by local Chinese production, but given the competitiveness of Australian production in a number of commodities, China is likely to be a large market for Australian resource exports for some time to come. 
Finally the outgoing Treasury Secretary, Martin Parkinson, contends:
In this decade – and for the first time in 300 years – we will see the number of Asian middle-class consumers equal the number in Europe and North America. This middle class – which is expected to grow from around 500 million people in 2009 to around 3.2 billion by 2030 – is likely to increase its demand for a wide range of goods and services.
They could all be right and if you judged future opportunities based on past performance you'd be reasonably confident. But what if they're wrong? Is Australia prepared if the optimistic scenario doesn't eventuate? Do we need a plan B?

Australia is now the most China dependent economy in the world. Exports to China have grown from 8.5 per cent of the total ten years ago to 32.4 per cent today.

Interestingly, India's share has fallen over the last 10 years (remember that these are shares of a growing total and exports to India have grown despite their falling share of the total). Other has declined as well meaning less export diversity. 

According to Bloomberg Australia's exports to China as a percentage of total exports is now 37.02 per cent of the total. (It's possible they mean total merchandise exports i.e. excluding services exports). 

Let's take The Treasury's figures and consider Australia's export dependence on the top three destinations in 2004 and 2014. This has grown from 33.7 per cent (Japan 15.7, US 9.5 and China 8.5) to 54.3 per cent (China 32.4, Japan 15.2 and South Korea 6.7). Top 5 has grown from 47.7 to 62.8 per cent. 

More worryingly, not only is Australia now more China dependent, but so is most of the rest of Asia. This means that Australia's exports to Japan and South Korea (our second and third largest export destinations) will also be impacted by a China slowdown or worse. 

Let us hope that the dreamers are right about China's long-term progress and that the doomsayers are wrong. But remember also that all of this export growth to China occurred without a trade agreement. It's possible that the agreement will help to diversify Australia's export mix to China - more agriculture, more services - and not just leave us more vulnerable down the track as Australia becomes even more China dependent. 

This leads us to the big question: do we need a Plan B? And what would that be? It should involve active policy efforts to diversify the economy away from a reliance on resources and selling and buying houses from each other. Policy-makers need to reconsider industry policy and think of ways to develop new industries rather than just support old ones in ad hoc ways. Encouraging the development of renewable technologies should be a no-brainer for Australia, but the Abbott government seems to have done everything possible to undermine such developments. 

Both good and bad things can come from political processes but we cannot remove politics from the equation. It is worth remembering that Australia is a wealthy and relatively equal country because of political interventions, not despite them, as many economists would have us believe. Australia needs to utilise its luck to lessen its vulnerabilities.

If we all believe that China will continue to grow rapidly over the next 20 years, then most policy-makers will believe there's no reason to change tack before its too late.

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