Investor’s Business Daily
By Doug Tsuruoka
May 14, 2009

www.investors.com

Incentives to purchase Chinese products may impact key markets

Second Of Two Parts (click here to see Part One)

A flurry of recent Chinese trade deals worldwide is more than just a move to lock up commodities to feed its people, factories and infrastructure projects.

It’s also a bold bid to lock up markets for Chinese products and broaden the international use of China’s currency.

“It benefits China on both ends by getting the long-term pricing and security for their resources while getting a preferential position to build infrastructure and develop resources in various countries,” said Robert Lawrence Kuhn, an investment banker with close ties to China’s leaders.

The trade moves don’t immediately imperil U.S. businesses. But they may hold long-term repercussions if China successfully builds an alliance of trading partners in the developing world that’s separate from its trade ties with advanced countries.

China will be in an enviable position to sell its products in growing markets such as Latin America if the U.S. or Europe throw up future trade barriers to Chinese products.

For example, if Americans stop buying Chinese electronics, perhaps Latin America will. And that’s currently a $4.2 billion market for U.S. consumer electronics makers.

The U.S.-based Consumer Electronics Association says 15.2% of global consumer electronics revenue at the retail level will come from South and Central America this year.

U.S. construction machinery exports to Latin America, Asia and Africa — which totaled $7.5 billion in 2007, according to the Association of Equipment Manufacturers — would similarly be undercut if China pushes into these markets in a big way.

Why is China adopting such a testy trade stance towards the West?

Much of it has to do with the feeling that China must act strongly to build a unique system of trade and influence that will protect the nation’s prosperity, say sources close to its Communist Party leaders, as well as outside analysts.

Top party officials are said to be angry at what they view as anti-Chinese discrimination when Chinese companies try to invest in or sell their products in the U.S. and Europe.

The trade strategy assumes growing protectionism by the West. And China seems to be gaining support for its trade gambit because of Third World resentment toward the U.S. and Western banks in the aftermath of the subprime financial crisis. Many developing nations suffered losses from the crisis.

The specifics of China’s new trade strategy work like this: China will offer huge amounts of loans and development capital through Chinese sovereign funds, banks and other entities to nations like Venezuela to develop port, oil, transport and power facilities in exchange for long-term supply contracts.

The contracts are for commodities like oil, soybeans, iron ore, natural gas, timber and other resources to feed China’s industrial machine.

The resources would then be shipped to new decentralized processing and manufacturing centers in rural China that would, in turn, export finished Chinese goods back to countries like Argentina, India and Ecuador.

China will also provide access to Chinese currency and loans to these countries to buy Chinese products.

In addition, the Chinese seek barter and countertrade agreements with host countries in which commodities are exchanged for other commodities or reciprocal moves. This benefits China since its currency, the yuan, isn’t readily convertible.

Expanding the nations that use the yuan to buy Chinese products also puts the yuan on the road to becoming an international currency that can compete against the dollar.

Another sweetener for allied countries is the fact that China’s government will provide direct access to internal markets and companies.

This ensures that partners like Indonesia will make money from a two-way trade in resources and finished goods.

Keeping The Peace

The factories in rural China are designed to provide jobs and other stimulus in areas where unemployment and unrest are rising.

Communist Party leaders fear social instability more than anything. The new aid-for-trade scheme offers them a way to kill several birds with one stone. They can keep Chinese workers and peasants happy. They also can secure long-term contracts for oil, natural gas and ore at the expense of rivals like the U.S., while solidifying their power.

Another benefit of the new Chinese trade strategy is that it pushes allied countries to buy Chinese.

This might put U.S. and other Western companies at a disadvantage. If China is financing a rail system in Brazil, it’s in an ideal position to have locals buy Chinese, rather than German locomotives. Where the U.S. is concerned China can, say, buy Chinese tractors rather than those made by U.S. companies such as John DeereDE .

On the downside, Kuhn and Lieberthal say China’s trade strategy faces tough hurdles — especially in Africa, where some regimes view the Chinese as new imperialists. A lack of infrastructure and manufacturing standards in some nations also makes it tough for China to realize export goals.

Moreover, accessing Chinese currency doesn’t allow much flexibility since recipients can’t do anything except buy from China. Some analysts say China could give host nations far more financial leverage by lending some of their excess dollars rather than yuan.

Would China push such alternative trade deals to the extent that it endangers conventional trade ties with the U.S. and other nations?

Brookings Institution scholar Kenneth Lieberthal thinks not.

“This is no substitute for the regular trade system that China will continue to rely very heavily on,” he said in an e-mail interview.

He also reckons China’s interest is “cyclical,” and will rise and fall with commodities prices.

Proceed With Caution

Kuhn takes a longer view. He says China won’t rock the boat where its trillions in U.S. Treasury holdings and Wal-MartWMT contracts are concerned. But he sees the pursuit of a new trading alliance by China as a long-term precaution.

“Stability is always the dominant factor in the mind of the Chinese leadership,” Kuhn said. “If something really disruptive happens on the (trade or financial front), they want to be prepared to step in quickly. It’s more defensive than offensive.”

James Lilley, a former U.S. ambassador to China under George H.W. Bush, sounds more worried. China’s trade posture toward the U.S. “is yin and yang,” he warned. “It’s half aggressive, half cooperative.”
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Publication:IBD; Date:May 14, 2009; Section:Front Page; Page Number:A1