Sunday, 28 February 2010

The giant sucking sound of resources heading to China

Interesting VOX piece of the debate surrounding China's attempt to seemingly suck in huge quantities of the world's resources. China is trying and has the will to succeed.

I guess the answer to the question is "yes". The real question is whether they will succeed.

Is China trying to “lock up” natural resources around the world? [Vox]

The rapid emergence of China as a major industrial power poses a complex challenge for the world’s natural resources. This column argues that the Chinese government-backed investments in natural resource supplies are predominately in areas that will help expand, diversify, and improve competition in the global supplier system. But potential geopolitical consequences remain a reason for concern.

Backed by the Chinese government, Chinese companies have been acquiring equity stakes in natural resource companies, extending loans to mining and petroleum investors, and writing long-term procurement contracts for oil and minerals. These activities have aroused concern that China might be “locking up” natural resource supplies, gaining “preferential access” to available output, extending “control” over the world’s extractive industries (Silk 2006).

The empirical question

The empirical question I address here is whether Chinese equity acquisitions, loans, and long-term procurement contracts help consolidate a tightly concentrated supply base while securing preferential access for Chinese buyers? Or do these actions help multiply sources and diversify the supply base, thus making the provision of output more competitive for all buyers?

This investigative focus is deliberately narrow and precise. It assesses the impact of Chinese resource procurement on the structure of the global supply base. The broader policy discussion in the concluding section raises other separate important issues, including the effect of Chinese resource procurement on rogue states, on authoritarian leadership, on civil wars, on corrupt payments and the deterioration of governance standards, and on environmental damage. Such effects may make patterns of Chinese resource procurement objectionable, on grounds quite apart from the debate about possible “lock up”, “tie up”, and “control” of access on the part of China and Chinese companies.

Business School strategic management literature identifies four fundamental types of natural resource procurement structures for a large buyer.

1. Take an equity stake to create a “special relationship” with a major producer. Buyers and/or their home governments take an equity stake in a “major” producer so as to procure an equity-share of production on terms comparable to other co-owners.
2. Take an equity stake to create a “special relationship” with the competitive fringe. Buyers and their home governments take an equity stake in an “independent” producer so as to procure an equity-share of production on terms comparable to other co-owners.
3. Loan capital to be repaid in output to a major producer. Buyers (and/or their home government) make a loan to a “price maker” producer in return for a purchase agreement to service the loan.
4. Loan capital to be repaid in output to the competitive fringe. Buyers (and/or their home government) make a loan to a “price taker” producer in return for a purchase agreement to service the loan.

These four categories provide the basis for giving operational definition to “tying up” or gaining “preferential access” to supplies. If the buyer-seller arrangement simply solidifies legal claim to a given structure of production (categories 1 and 3), “tying up” or gaining “preferential access” to supplies has zero-sum implications for other consumers. What is noteworthy, however, is that if the buyer-seller arrangement expands and diversifies sources of output more rapidly than growth in world demand (categories 2 and 4), the zero-sum implication vanishes as other consumers have easier access to a larger and more competitive global resource base.

Figure 1 presents the scorecard of the sixteen largest of China’s procurement arrangements showing a few instances in which Chinese natural resource companies take an equity stake to create a “special relationship” with a major producer. But the predominant pattern is to take equity stakes and/or write long-term procurement contracts with the competitive fringe.

A brief review of five smaller Chinese procurement arrangements does not suggest that there is significant selection-bias in looking at these sixteen largest projects.

The rapid emergence of China as a major industrial power poses a complex challenge for global resource markets. On the demand side, Chinese appetite for vast amounts of energy and minerals puts tremendous strain on the international supply system. On the supply side, Chinese efforts to procure raw materials can exacerbate the problems of high demand, or help solve the problems of high demand. Which outcome Chinese procurement arrangements generate depends upon whether those arrangements solidify a concentrated global supplier system, or expand, diversify, and increase competition in the global supplier system. The evidence presented above shows that Chinese efforts – like Japanese deployments of capital and purchase agreements – fall predominantly into categories that help expand, diversify, and make more competitive the global supplier system.

Chinese attempts to exercise control over “rare earth elements” mining may constitute a significant exception, however. The term “rare earth”, according to the US Geological Survey, “is a historical misnomer; persistence of the term reflects unfamiliarity rather than true rarity.” The US was self-sufficient in rare earth production until the mid-1980s, now more than 90% is imported from China ($127 million in 2008). Rare earth minerals are crucial for a growing an array of civilian and military products. Historically the rare earth mining industry has been characterised by excess capacity, and oversupply. In August 2009 China’s Ministry of Industry and Information Technology issued a draft policy to set an annual export quota of 35,000 tons, a potential ban on exports of at least five types of rare earth elements, and a series of steps to control mining and improve environmental practices. These actions may be directed at securing control over international markets; at the same time, they are being deployed as a tool to compel more foreign investment and more value-added in associated in industries in inland China. Concerned about access to supplies, mining companies and buyers have shown interest in developing new sites in Vietnam, Kazakhstan, Sweden, and Canada, as well as restarting production in the US. China meanwhile has pursued an aggressive policy of acquiring equity stakes in new producers, in particular in Australia.

Deng Xiaoping once noted that while the Mideast has oil, China has rare earth elements. How should national authorities react to the prospect of Chinese investment in offshore rare earth elements companies? The foreign acquisition analytics in the rare earth sector fit well within the broader framework laid out here; Chinese investment in a small independent producer whose impact can do nothing except help expand supply and make the industry more competitive should be encouraged; Chinese investment in a more major producer that perhaps puts the Chinese owners (and Chinese government) in a position to control or constrain production should be viewed with circumspection.

The impact of Chinese procurement activities on the structure of supplier industries, however, is only one dimension of the challenge posed by Chinese natural resource acquisition. The natural-resource-strategist-from-Mars might well applaud China’s vigorous support for oil production in the Sudan or Iran, and for oil transport, natural gas, and mineral production in Myanmar. But the US and other allies are rightly appalled at the consequences for regional conflict, support for terrorist groups, violation of human rights, and oppression. Finally, provision of equity capital and loans in return for natural resources form part of larger Chinese strategy toward Central Asia, the Middle East, Africa, Latin America, and the South Pacific.


Moran, Ted (2010), “Is China trying to “lock up” natural resources around the world?”, This study is being prepared as a Working Paper for the Peterson Institute of International Economics. The draft study may be received via a request to

Silk, Mitchell (2006), “Are Chinese Companies Taking Over the World?” Chicago Journal of International Law.


Exchange rate pressures build

The rapid recovery in China and the lack of recovery in the US and Europe will increase the pressure on China to revalue the RMB upwards.

This pressure will not decrease but as always China can chose to ignore any requests. The US will not risk a trade war - yet! Th Chinese debt holding in the US also plays a crucial role - an appreciation of the RMB reduces the value of this debt.

Simon Johnson is a respected writer and worth reading. He is not a big fan of China - wrongly in my view. The 20-40% appreciation figure is too high. 10%-25% I would accept. This is issue is a lot more complex that this article gives it credit for.

Time to Press China on Its Exchange Rate [New York Times]

This morning the bipartisan United States-China Economic and Security Review Commission holds a hearing on “U.S. Debt to China: Implications and Repercussions.” I’m on the first panel, which will discuss in part the perception that China’s large dollar holdings confer upon that country some economic or political power vis-à-vis the United States. In particular, I’ll talk about whether Chinese reserves prevent us from putting pressure on that country’s authorities to revalue (i.e., appreciate) the renminbi.

I will argue that this view is incorrect and completely misunderstands the situation. Here’s the outline of my reasoning.

The exact amount of China’s foreign-exchange reserves is not knowable based on publicly available information. But a reasonable working assumption is that China owns close to $1 trillion of United States Treasury securities. That would be nearly half of the stock of Treasuries thought to be in the hands of “foreign official” owners, which was $2.374 trillion at the end of 2009, and just under one-seventh of all American government securities outstanding ($7.27 trillion, of which $3.614 trillion was held by all foreign owners, official and private, at the end of 2009).

China holds such large reserves because it intervenes to buy dollars in order hold down the value of its currency, the renminbi. It is in the interests of both the United States and global economic prosperity that China allows its currency to appreciate. Foreign-exchange market intervention on this scale is a breach of China’s international commitments (as a member of the International Monetary Fund) and constitutes a form of unfair trade practice.

If China were to end its intervention, the renminbi would appreciate substantially, likely in the region of 20 to 40 percent. The primary effect would therefore be an effective depreciation of the American dollar against the Chinese renminbi – and against all other countries’ currencies that are implicitly pegged to the renminbi (more precisely, to the dollar rate with an eye on China’s competitiveness).

Such a change in the value of the dollar would help expand our exports and improve our ability to compete against imports; this would aid in the process of recovery, job creation and broader adjustment in the American economy.

Even a substantial movement in the dollar – e.g., a 20 percent deprecation in real effective terms, which is most unlikely – would have no noticeable effect on inflation and therefore would not force the Federal Reserve to increase interest rates. The “hard landing” scenario for the dollar – feared by analysts since the traumatic experiences of the 1970s – is unlikely for the United States today, given the low level of inflation expectations and the high gap between where the economy is today and where it has the potential to be. (That gap is reflected in measured unemployment near 10 percent and true unemployment — which would include people who have given up looking for jobs — of at least 15 percent).

The effect on short-term United States interest rates would therefore probably be minimal or nonexistent, particularly as the Federal Reserve currently aims to keep rates close to zero. The effect on longer-term interest rates would also be small – and could be offset by the Federal Reserve, as it currently seeks to limit all benchmark interest rates (most recently affirmed by the Fed chairman, Ben S. Bernanke, this week).

In fact, the current stance of monetary policy – and the low, stable level of inflation expectations in the United States – makes this an ideal moment at which to press China to revalue its currency.

In another potential scenario, there is concern that China would threaten to reduce its purchases of United States government securities. But if China continues to intervene, it will accumulate foreign reserves, so it needs to hold increasing amounts of foreign assets of some kind. What else would the Chinese authorities buy?

1. If they buy other dollar-denominated assets issued by American entities, this would push down spreads on those assets relative to Treasuries. This would directly help private American borrowers – thus stimulating growth in the United States.
2. If they directly buy dollar-denominated assets issued by non-American entities, this will still reduce spreads more broadly and help American borrowers – as there is a global market for dollar assets and there is not much high grade non-American dollar debt available for sale.
3. If they buy dollar equities – which is most unlikely – this would help the stock market, household balance sheets and firms’ access to funding (as well as helping to shift our economy from debt to more equity financing, which would a desirable move in any case).
4. If they buy non-dollar assets, given that the Fed will keep interest rates near to zero, this will push down the value of the American dollar and help boost America’s economic growth. Such a move would produce protests from the euro zone and Japan, but this change in currency value would be solely China’s responsibility.

If China stops buying foreign assets altogether, this would of course be equivalent to ending foreign-exchange intervention. This is exactly the policy change that we should be seeking.


Chinese labour shortages and demand hots up

Apologies for the lack of posts on Chinaeconomicsblog. I hope to catch up soon. The real academic job is taking its toll on my posting frequency.

I will get up to speed with more simple links. Ironically post frequency falls when I am in China to the great fire wall of China.

There is much to talk about. The whole financial crisis leads to more questions than answers. I am not convinced by the Chinese recovery although there is no doubt things could have been worse. The problems now are asset bubbles and bad loans that will cause their own problems sooner rather than later.

One thing I would not have expected would be labour shortages given the massive layoffs over the last two years. The FT reports.

The impact of the massively overdone fiscal stimulus package is still being felt.

Labour shortage hits China export recovery [FT]

An export recovery in the world’s most populous country is running up against an unexpected constraint – manpower.

With Chinese exports back to their early 2008 levels, factory owners are worried about their ability to service a surge in orders now that a new manufacturing cycle has begun after the lunar new year holidays.

The problem is particularly acute in southern Guangdong province and its Pearl river delta manufacturing heartland near Hong Kong, the region known as “the workshop of the world”.

Guangdong accounts for a third of China’s exports and would rank as one of the world’s 10 largest exporters if it were a country in its own right. But the province’s ability to attract and retain migrant labour from China’s vast interior is slipping.

“Labour availability is tight right now in Guangdong compared to other regions,” said Paul Hussey, chief executive of Strix. The Isle of Man company, which dominates the global market for thermostatic controls on electric kettles, maintains most of its manufacturing operations in the provincial capital, Guangzhou.

Quantifying labour shortages is extremely difficult given large variances by region, industry and skill level. Recruiters for Galanz, the world’s largest manufacturer of microwave ovens, were this week offering production line workers a relatively robust monthly base wage of Rmb1,700 ($250). Skilled technicians in much greater demand were commanding 65 per cent more.

In Dongguan, a manufacturing centre near Guangzhou, the local government estimates that there is now just one worker for every two jobs. At the height of the crisis, which for Chinese manufacturers came last spring, local officials calculated there were four workers competing for every three jobs.

Beijing’s successful economic stimulus programme has contributed to a coastal scramble for labour, by increasing investment and employment opportunities elsewhere.

“Fiscal stimulus has spurred jobs growth in the interior provinces,” Ben Simpfendorfer, Royal Bank of Scotland economist in Hong Kong, said.

In December, China unveiled the world’s fastest passenger train service between Guangzhou and the central city of Wuhan, covering 1,100km in just three hours. The Harmony Express line has reduced travel time between Guangzhou and Shaoguan, an industrial backwater in Guangdong’s remote mountain region, to just 40 minutes, anchoring local workers closer to home.