Is China Still Enjoying the Fair Winds and Following Seas of Economic Winds?

It seems all we hear about these days when it comes to business and China is the unfair trade deficits, cheap labor that takes our jobs, and its suspect rates of growth. The 2015 trade deficit was $336.2 billion, exports were $161.6 billion; imports were $497.8 billion. China saw an inflow of approximately $136 billion in foreign direct investments. She  touts a 7% growth in GDP. But is China still the fastest ship on the economic sea? Or is there some signals that the winds of investor sentiment may finally be cooling?

Bye Globalism. Hello Nationalism.

In a 2016 World Investment Report by the United Nations, foreign direct investment (FDI) has been in flux these days. The majority of 2015 FDI was to services-oriented businesses, an increase of 17% from the previous year. Meanwhile FDI to manufacturing is stagnating. Much like President Trump’s recent executive order to “Buy American, Hire American”, China has been long pushing a nationalist movement to buy domestic brands to the detriment of multi-national entities. Chinese government officials say that more products have to be sourced locally and intellectual property often ends up handed over to local partners. Strategic industries, including internet and energy, are still out of bounds to foreign investment.

And now we see firms actually starting to pull out of international economies, including China. According a January 2017 edition of The Economist, half of all big multinationals have seen their return on equity fall in the past three years with almost half failing to achieve an ROE of even 10%. . The profits of the top 700-odd multinational firms have dropped by 25% over the past five years. This does not bode well for China. Coupled with rising wages, the once attractive prospect of business in China is cooling off. Last year, hourly wages hit $3.60, spiking 64 percent from 2011.   Some firms are now taking their business elsewhere  which also means China could start losing jobs to other developing countries like Sri Lanka, where hourly factory wages are $0.50. Even Chinese businesses are starting to see the-benefits of factory automation and robotics, signaling an end to the once dirt-cheap labor.

Ghost Cities? Try Ghost Economy.

A visit to the outskirts of China from the major metropolises or even a train ride between them, one sees 30-40 story building complexes dotting the skyline, either under construction or recently built. Now take a visit during night and these buildings are not lit up like one would expect to see in a first world country. Prices keep rising in major Chinese metropolises like Shanghai but are falling in thousands of smaller cities where huge numbers of properties lie empty. It is estimated that 15% of China’s reported GDP is from the property market. Insiders claim that the true GDP of China is closer to 1.5% based on utility usage, not the reported 7% annually. There has been investigative reporting revealing the over-abundance of supply but lack of demand. Huge apartment complexes barren of tenants.  An official from the American Chamber of Commerce, an NGO in China, stated that investors are purchasing these new constructs in the hopes that they appreciate. One cannot be faulted for thinking of the Dutch Tulip-mania bubble of the 17th century, an tale of irrational investor sentiment.

Fight or Capital Flight.

Are the locals starting to see the writing on the wall as well. From 2010 to 2015, China has doubled the amount of money it invests outside China from $68.8 billion to $127.6 billion. Meanwhile FDI inflows have not varied by much. Last year, China tripled the amount of its foreign direct investment in the U.S. from $15 billion to $45 billion, with the largest amount going to real estate and hospitality. This only reinforces the doubts of the Chinese property market attractiveness. Still not convinced. How about that over the last decade, an estimated $3.8 trillion in capital has left China. About $1.3 trillion more than what has flowed in.

Even in the face of the Chinese government imposing stricter capital controls, wealthy Chinese are looking for sneakier ways to get their money out of the hands of the Chinese government. Enter Bitcoin and the crypto-currency market. Considered the digital gold, China has significant influence on Bitcoin’s $20 billion market capitalization. About 80% of Bitcoin’s exchange volume is driven by the Chinese yuan. Bitcoin being used as a means of moving capital to safer harbors is not new. In Venezuela, they are also facing pressures to curb the transfer of wealth to Bitcoin.

So, will China’s economy collapse anytime soon? Probably not. But foreign investors should be wary that the fair winds and following seas that they have enjoyed over the last three decades may be dying down. Hopefully China will begin to tweak the sails of the economy so that investors and even its own citizens will not abandon ship.

Jon-Paul Navarro

Tulane MBA 2017