Xiangrong Yu is Chief Economist of Citibank Greater China
The economic data in the first half of the year exceeded expectations and exceeded the export industry chain. From January to May, exports of goods increased by 2.7% year-on-year in US dollar terms, a significant improvement from -4.6% last year; The number of exports increased by almost 13% year-on-year due to negative growth in the PPI and export price index. External demand drove industrial production and capital expenditure, and industrial added value and manufacturing investment increased by 6.2% and 9.6% year-on-year respectively from January to May, both much higher than GDP growth. Looking ahead, we expect that export momentum can be maintained until the second half of the year or even next year, but external demand cannot replace domestic demand, and only by truly strengthening internal circulation can we effectively resist the long-term uncertainty of external trade policies.
First, there is no immediate concern about the export situation
Looking ahead to the second half of the year and next year, we remain cautiously optimistic about the export situation. We forecast exports to grow by about 5% this year and around 4.5% next year. Despite the risks of protectionism, we see some favorable factors:
1. New opportunities from the Global South. Aggregate demand in advanced economies is falling, but it is still on the path of shifting from service spending to demand for goods, which has some support for China's exports. At the same time, the structure of China's external demand is shifting from mainly developed markets to emerging markets or the Global South. While we expect a significant slowdown in the US economy in the second half of the year, ASEAN, Latin America, BRICS and other trading partners in the South are expected to fill the gap.
2. There is still structural growth in new exports. China's export sector has honed its real skills in industrial upgrading and open competition, and has formed a clear cost advantage. The EU has imposed temporary tariffs on Chinese electric vehicles, which is generally in line with market expectations. We estimate that even after taking into account the temporary tariffs, China's electric vehicles still have a cost-effective advantage, and it will not change the overall growth momentum of China's auto exports. At the same time, the global technology upcycle will continue to favor China's semiconductor and electronics exports. From January to May, integrated circuit exports increased by 19.5% year-on-year, and computer shipments increased by 5.2%; This momentum should not suddenly reverse in the near term.
3. The effect of grabbing orders before the U.S. election. Trump has said that if he returns to power, he will impose 60% tariffs on all Chinese products. With the normalization of product inventory cycles, in the face of such a level of uncertainty, U.S. companies may increase orders from China ahead of schedule, which is also the experience of 2018. Looking at the recent shipping prices, the increase in China-US and China-Europe routes is significantly higher than that of other routes (such as Europe and the United States), or to a certain extent, it reflects the effect of order grabbing.
The outlook for exports in 2025 is uncertain, especially depending on the outcome of the US election. According to our Citi benchmark, global nominal GDP growth outside China will rise to 5.4% next year from 3.7% this year. The recovery in external demand is clearly good for China's export sector, but trade policies in advanced economies are a major source of uncertainty ahead, and we need to keep a close eye on it.
Second, the growth layout needs to be considered in the long term
China is already the world's largest exporter, accounting for nearly 15% of the market; Exports last year amounted to $3.4 trillion, almost equal to India's GDP ($3.7 trillion). In some industries, the mainland's production capacity is indeed close to the limit that the world can undertake. In traditional industries, such as crude steel production, China accounts for 55% of the world's total; In emerging industries, China's photovoltaic production capacity accounts for nearly 90% of the world's total, lithium battery production capacity accounts for about 80%, and electric vehicle production accounts for 65% of global sales. Now that the "overcapacity theory" has gradually become the mainstream narrative in the West, it also requires us to consider the export prospects and future economic growth models from a long-term perspective.
First, greater uncertainty about U.S. trade policy comes after the election. The impact of the Biden administration's recent tariffs on China's strategic emerging industries is manageable, and the market reaction has been muted. Although this round of tariffs is high-profile, it only targets US$18 billion, or about 4% of Chinese products exported to the United States, and we estimate that the impact on the weighted average tariff rate of Chinese products will not exceed 1.5 percentage points, compared with the average tariff increase of 18 percentage points during the previous round of trade disputes. More importantly, it actually sends a signal that the U.S. market is closed to new exports to China. For example, if the current 100% tariff does not stop China's exports to the United States, it will be further raised in the future.
At the same time, we need to carefully assess the risk of Trump's 60% universal tariffs on China. Academics have done a lot of research on the last round of trade disputes, and I cite two important empirical conclusions here: first, almost complete tariff pass-through, that is, the new tariffs have led to an almost identical increase in the prices of U.S. imports from China; The second is the elasticity of U.S. demand for Chinese products by about 4, that is, for every 1% increase in prices, U.S. imports from China decrease by 4.2%. If these two parameters are applied to linear extrapolation, in the face of 60% universal tariffs and no trade diversion, the theoretical value of US imports from China will be more than zero, and Chinese products will be completely squeezed out of the US market. Of course, this is based on strong assumptions (e.g., the elasticity of demand is not necessarily linear), but it does suggest that a 60% general tariff is more or less "decoupling" rather than "de-risking". Given the current inflationary environment in the US and its dependence on China's industrial chain, we tend to believe that the 60% levy is just a negotiation strategy, not necessarily a new equilibrium. A more realistic scenario would be an average tariff increase of about 15 percent, similar to the magnitude of the previous tariff increase. It will be interesting to see if the U.S. blocks the trade diversion channel, which will lead to a 9.2% or 2.8% reduction in Chinese exports, affecting GDP by 1.5% or 0.5%. All of these scenarios imply a substantial escalation of the US-China tariff dispute, and we expect the RMB to weaken to varying degrees but more significantly.
Second, we have to consider the rebound in Europe and the Global South. This round of temporary tariffs imposed by the EU may not be able to stop Chinese electric vehicles from entering the European market. China has the sincerity and the leverage to resolve the dispute through negotiations. But we also need to look at this issue dynamically: even if China and the EU achieve a phased settlement, as China's automotive and green technology market share in Europe continues to expand and the political parties within Europe rotate, the Sino-EU trade friction will continue to be raised or even escalated in the future, and new uncertainties will emerge. In addition, Turkey has announced that it will impose a 40% tariff on Chinese cars in July, and Brazil will soon raise tariffs on imported electric vehicles. China's strong exports cannot be ruled out in the future, and there will be a rebound in the Global South as well.
Third, over-reliance on external demand amplifies economic volatility. The share of exports in China's GDP has stabilized at around 20% in recent years. Fluctuations in external demand have had a significant impact on China's economic cycle, albeit positively this year. The once-glorious "German model" is losing its aura against the backdrop of global economic fluctuations and a structural downturn in external demand, especially exports to China, which is of great significance for considering China's economic transformation.
In short, exports are cyclical and face increasing geopolitical headwinds. As China's economy grows in size and share of global trade, the potential for export-driven growth in the future is bound to be limited and unsustainable. China's economic data has repeatedly exceeded expectations, but market and public expectations have not improved significantly. One of the important reasons is that the unexpected place is in the export chain, and the strong export cannot be effectively transmitted to the income and asset prices (such as the exchange rate) that residents can directly perceive when the exchange rate is low, and it fails to drive the internal circulation. At the same time, there are doubts about the sustainability of the growth surprise brought by exports. In other words, short-term data beats didn't change the market's long-term narrative. In this sense, boosting consumption and smoothing internal circulation are necessary conditions for the long-term sustainable growth of China's economy. I think that the significance of today's discussion of trade is more important than trade.
Source: China Macroeconomic Forum (CMF).
