One of the most well-known economic adage is that “when the US sneeze, the rest of the world catches a cold.” According to that adage, that means that in general, should the US economy falls into a recession, the rest of the world will follow suit.
On the other hand, another theory has been gaining in popularity: China’s growth is ‘de-coupled’ from the ailing US economy. According to this new theory, China should continue to grow and power the global economy regardless of what happens to the US economy. This is the ‘de-coupling’ theory. Proponents of this theory sees that so far, China had ‘de-coupled’ (both in real and financial terms) the most from the US. As we can all see, so far, despite the slowdown in the US (due to the credit crunch and housing slowdown), China’s growth had so far been unaffected. Proponents of the ‘de-coupling’ theory sees that if Chinese growth is dependent on the health of the US economy, we should see signs of the Chinese economy slowing as well. Since there are no signs of this happening, then the conclusion is that the Chinese economy is independent from the health of the US economy.
There are skeptics of this ‘de-coupling’ theory. Most notably, Nouriel Roubini, one of the most prominent bear and contrarian economists believes that China will be the “first and most serious victim of a US led recession.” He believes that as the US economy turns over from the current ‘soft-landing’ to a very serious recession in the months and years to come, it will expose the weaknesses in the Chinese economy. This is his theory:
- The current US slow-down is mainly concentrated in the housing and financial sector. So far, the US consumers have not cut back severely on their spendings. It is a matter of time before US consumers will feel the pinch and begin to tighten their wallets. When that happens, Chinese exports of consumer goods to the US will be affected.
- A Chinese slow-down from the low double digits growth to mid single digit growth will be considered a ‘hard-landing’ for the Chinese. Due to the political and social environment in China, such a slow-down can have dire consequences.
- There is a myth that trade between East Asian nations will save their economies from the US slow-down. Previously, East Asian nations exports their goods directly to the US. But today, the arrangement is different- China is now the receiving point of goods in the primary and intermediate stages of production from East Asian. It is in China that the final stage of production is being completed before export to the US.
- There is another myth that if the US consumers slackens, then Chinese and non-US consumers will rise to take up the slack. The problem for China is that its economy is heavily structured towards export (“…exports are 40% of GDP; where investment is 50% of GDP and, leaving aside housing investment, most of such investment is directed towards the productions of more exportable goods”). Thus, the Chinese consumers can do very little to plug the gap of collapsing export-oriented demand. There is also some research that points out that the “there is a very low probability of major improvements in domestic demand or non-US external demand.”
What is the implication of this for Australia?
It is clear that once China slows, its demand for Australian commodities will slow dramatically as well. When that happens, we can expect the Australian economy to be severely affected as well.
