China's economy: Sure, it's big, but still emerging

By: Regina Chi • May 9, 2019
The size of its economy is overshadowed only by the United States. Its population of billionaires is the second largest on the planet, having stockpiled fortunes in everything from tech and real estate, to cryptocurrency and potato chips.

So, perhaps those like U.S. President Donald Trump can be forgiven for asking: Why is China still considered an emerging market or developing nation?

“China, which is a great economic power … get(s) tremendous perks and advantages, especially over the U.S.,” Trump railed on Twitter in the early days of the trade war, pointing out the country’s status as a Developing Nation within the World Trade Organization (WTO). “Does anybody think this is fair?”

Certainly Trump believes it is fair game to challenge China’s “developing” designation within the WTO as justification for imposing new tariffs on everything from aluminum and steel, to washing machines and solar panels—an ongoing trade war that may take longer than expected to reach a truce after threats from Mr. Trump this week that he will boost tariffs to 25% from 10%. Still, the President isn’t alone in questioning whether China’s Developing Nation categorization should be revisited in light of its ascent these past three decades.

To some observers, China is a paradox, a country of some 1.4 billion people at the vanguard of innovation, even touted as the next Silicon Valley, where Gucci-loving shoppers promenade the streets of cities like Shanghai and Shenzhen beneath gleaming skyscrapers. Yet far from the boom of the country’s coastal region, millions of impoverished farmers work the fields, their homes carved into the mountainside. In other words, it has become a country of haves and have-nots distinctly demarcated along urban and rural lines. This growing wealth gap is highlighted by the fact that 1% of the population controls nearly one-third of the country’s total wealth, according to a 2015 Peking University report, entitled China Family Panel Studies.

Meanwhile, the country’s emergence as the world’s second largest economy has been breathtaking. Indeed, it’s come a long way since it first initiated the process to join the WTO in which two-thirds of its members are classified as developing—a definition that is self-determined. This status has awarded developing countries “special and differential treatment,” granting them more leeway in how they define free trade, deregulation and liberalization. And there’s little question these allowances have helped China scale quickly—benefits it is loath to lose, especially its ability to implement agricultural subsidies and set higher barriers to market entry than more developed economies.

Defining an emerging market

All emerging markets or developing nations share a number of characteristics in their transition from agrarian and export-based economies, including rapid rates of growth and industrialization. However, while WTO definitions of “developing” and “developed” are determined by countries themselves, others like the Morgan Stanley Capital International (MSCI) have defined a number of criteria for emerging markets which include market size, liquidity and accessibility. The latter includes considerations such as whether there are any restrictions on foreign ownership and the ease with which investors can get their money into and out of a market.

Three of the world’s top ten economies are considered emerging markets, including China, Brazil and India, all with low levels of GDP per capita, or levels of personal income. China’s GDP per capita, for example, is US$8,827 compared with US$59,532 in the United States, according to the World Bank’s 2017 figures.

After last year’s late slump, the economy is picking up steam

And while China’s economy slumped late last year—exacerbated by trade tensions—first-quarter figures show a turnaround, buoyed by retail sales, exports and property investments. China’s economic growth held at 6.4% for the first three months of 2019, slightly below 6.6% posted for all of 2018. Exports were notable in that they beat consensus estimates of 6.5% by a wide margin, rising 14.2%, after tumbling 20.7% in February, according to Bloomberg’s figures.

In fact, China has been outperforming all other emerging markets. It’s still, by and large, a managed economy which the government has been able to turn on and off through fiscal and monetary policies. The trade talks certainly spooked some investors, but also created buying opportunities. Getting to a final deal isn’t going to be easy, but a resolution will undoubtedly ensure better bilateral trade with China agreeing to buy more U.S. goods, while opening up its economy to global companies.

Looking ahead

Yet, there are more important reasons to be optimistic about China’s future.

Firstly, the government has introduced some 70 stimulus measures, some of which took effect in the third-quarter of 2018, and others which have been implemented this month. China continues to deleverage the economy, slowing the rate of debt issued while lowering overall debt. While construction and heavy industry drove China through much of its earlier growth stage, many of the current stimulus measures are based on driving a service-based economy and increasing domestic demand, which already accounts for about 60% of China’s economy, according to the China Council for the Promotion of International Trade Academy. Cornerstone Macro, an investment research firm, estimates the aggregate effect of the stimulus measures to be at least 1.6% of the country’s GDP, with the International Monetary Fund pegging it as high 2%.

Secondly, China’s stock markets are evolving from retail-based markets to more institutionalized ones. The inclusion of China A-shares on the MSCI last year helped kick-start this transition. Traditionally, China A-shares, the stocks of Chinese-based companies traded exclusively on the Shanghai Stock Exchange and the Shenzhen Stock Exchange due to restrictions on foreign investment. Last year, the MSCI announced it would quadruple the weighting of Chinese mainland shares in its global benchmarks from 5% to 20% in three stages, pumping billions of fresh foreign capital into the Chinese economy.

For all of these reasons, investors should continue to watch China in 2019. After all, we’d do well to remember what China has achieved in just one generation—evolving from the world’s factory floor, producing cheap trinkets, into a technological powerhouse. What’s next? At the very least, a more developed market and more liberal economy. Certainly, growth will slow, but it will still be much faster than in developed markets such as the U.S. and Europe.

Commentaries contained herein are provided as a general source of information based on information available as of January 22, 2019 and should not be considered as personal investment advice or an offer or solicitation to buy and/or sell securities. Every effort has been made to ensure accuracy in these commentaries at the time of publication; however, accuracy cannot be guaranteed. Market conditions may change and the manager accepts no responsibility for individual investment decisions arising from the use of or reliance on the information contained herein. Investors are expected to obtain professional investment advice.

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AGF Investments is a group of wholly owned subsidiaries of AGF Management Limited, a Canadian reporting issuer. The subsidiaries included in AGF Investments are AGF Investments Inc. (AGFI), Highstreet Asset Management Inc. (Highstreet), AGF Investments America Inc. (AGFA), AGF Asset Management (Asia) Limited (AGF AM Asia) and AGF International Advisors Company Limited (AGFIA). AGFA is a registered advisor in the U.S. AGFI and Highstreet are registered as portfolio managers across Canadian securities commissions. AGFIA is regulated by the Central Bank of Ireland and registered with the Australian Securities & Investments Commission. AGF AM Asia is registered as a portfolio manager in Singapore. The subsidiaries that form AGF Investments manage a variety of mandates comprised of equity, fixed income and balanced assets.

Publication date: May 9, 2019.

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