China’s export growth, which has been increasingly dominating global trade discussions, is primarily fueled by weak domestic demand and strong foreign consumption, particularly from the United States. This has contributed to rising trade surpluses in China, a trend highlighted by the International Monetary Fund’s (IMF) Chief Economist Pierre-Olivier Gourinchas during a recent interview at the IMF and World Bank annual meetings in Marrakech, Morocco, held in October 2024.

In his remarks, Gourinchas stressed that the core driver of China’s increasing exports and growing external surpluses lies in macroeconomic forces, rather than China’s industrial policies, as often cited by various stakeholders in the U.S. He asserted that China’s internal economic conditions, such as low consumer spending due to a struggling property market, have resulted in production being funneled towards exports. On the other side of the equation, the U.S.’s high consumer demand, fueled by robust household and government spending, has contributed significantly to the rise in imports from China.

These remarks come amidst ongoing trade tensions between the U.S. and China, with concerns about the global economic imbalances that such surpluses create. The delicate balance between national economic policies, consumption patterns, and global trade has been under scrutiny as both China and the U.S. navigate their economic priorities in a post-pandemic world.

The Core Issue: Weak Domestic Demand in China

China’s economy has been grappling with sluggish domestic demand, partly driven by the country’s protracted property market crisis. As one of the largest sources of household wealth, the property sector’s troubles have weighed down consumer confidence and reduced spending. This lack of demand has led to surplus production in many sectors, and these excess goods have naturally found their way into international markets.

According to Gourinchas, China’s situation isn’t primarily about intentional policies to flood global markets with cheap exports, a narrative often propagated by trade critics in the U.S. Instead, the weak consumption patterns and structural issues within China, especially in the real estate sector, are pushing businesses to rely more heavily on export markets to sustain production levels.

As China continues to face challenges in rejuvenating its domestic demand, economic forecasters are concerned about the long-term implications for both China and the global economy. The International Monetary Fund’s latest economic outlook projects China’s GDP growth to remain subdued compared to its previous decades of double-digit expansion.

U.S. Overconsumption and Trade Deficits

On the opposite side of the trade equation, the U.S. has been experiencing high demand, spurred by strong government and household spending. This has led to a continued appetite for imported goods, including from China, thereby exacerbating the trade deficit with the Asian giant. Gourinchas emphasized that this imbalance stems from macroeconomic factors, where U.S. demand continues to outstrip domestic production, particularly in areas like consumer electronics, clothing, and industrial machinery—all sectors where Chinese exports excel.

The U.S.’s excessive consumption patterns, coupled with high levels of government stimulus during and after the COVID-19 pandemic, have kept demand for imports strong, even as other parts of the global economy slow down. As a result, the U.S. trade deficit with China remains a significant concern for policymakers in Washington, who see it as a risk to the sustainability of American manufacturing and the domestic economy.

Diverging Perspectives: IMF and U.S. Treasury on China’s Industrial Policy

While Gourinchas downplayed the role of China’s industrial policies in driving trade surpluses, this view contrasts with the narrative coming from the U.S. Treasury. Treasury Secretary Janet Yellen has been vocal about her concerns regarding China’s industrial overcapacity, particularly in sectors such as electric vehicles (EVs), batteries, solar panels, and semiconductors.

Yellen has warned that Chinese subsidies in these key sectors are creating a glut in global markets, undermining the competitiveness of U.S. and European manufacturers. Speaking at a Council on Foreign Relations event in October 2024, Yellen described the scale of Chinese subsidies as “utterly enormous,” pointing to unprofitable firms being propped up by state funds. This, she argues, has led to “a gigantic amount of overcapacity,” distorting global trade dynamics.

Yellen’s stance aligns with a broader protectionist sentiment in Washington, which has responded to Chinese overcapacity by imposing steep tariffs on goods like EVs, solar cells, and batteries. The Biden administration has argued that these tariffs are necessary to protect American jobs and prevent unfair competition from subsidized Chinese firms.

The Role of the World Trade Organization and Industrial Subsidies

Gourinchas acknowledged that China’s industrial subsidies do have an impact on specific sectors, creating trade distortions that have raised concerns internationally. However, he stressed that these are issues for the World Trade Organization (WTO) to address, given its mandate to oversee international trade rules. The IMF, he noted, is more focused on analyzing and addressing macroeconomic imbalances rather than specific sectoral trade disputes.

One of the challenges in dealing with China’s industrial subsidies, according to Gourinchas, is the lack of transparency. In economies with dominant state sectors like China, it is often difficult to measure the exact extent of government support because subsidies are not always reflected clearly in budgetary line items. This opacity complicates efforts to assess the full impact of China’s industrial policies on global trade.

Nevertheless, the IMF is working to develop more precise tools to measure the impact of subsidies, not just in China but in other countries with significant state intervention in their economies.

Solutions: Boosting Domestic Demand in China and Fiscal Tightening in the U.S.

To address the imbalances in global trade, Gourinchas emphasized that boosting domestic demand in China is crucial. The Chinese government has been encouraged to resolve issues in the property sector, which has been dragging down consumer confidence. Reforms to the housing market, along with policies that enhance the social safety net, such as improving healthcare and pensions, could help Chinese households feel more secure and, therefore, more inclined to spend rather than save.

The IMF has long advocated for China to shift away from an investment-driven growth model to one that is more reliant on consumer spending. This would not only reduce the country’s dependency on exports but also help balance its external accounts, reducing trade tensions with partners like the U.S.

For the U.S., Gourinchas suggested that fiscal tightening, particularly through raising taxes, would help reduce excess demand for imports and bring down the trade deficit. The IMF has consistently recommended that Washington take steps to put its fiscal house in order, particularly as government debt continues to grow.

Conclusion

The global trade imbalances between China and the U.S. are rooted in complex macroeconomic forces rather than simplistic narratives about industrial policy. As Gourinchas highlighted, weak domestic demand in China and overconsumption in the U.S. are the primary drivers of the growing trade surplus and deficit, respectively.

Addressing these imbalances will require structural reforms in both countries: China needs to boost domestic consumption, while the U.S. must rein in excess demand. Only by tackling these underlying issues can the two economic giants hope to reduce the trade tensions that have characterized their relationship for much of the last decade.

In the meantime, the global economy will continue to be shaped by the interplay of these forces, with policymakers on both sides watching closely to see how the next chapter in the U.S.-China economic relationship unfolds.

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Photo source: Google

By: Montel Kamau

Serrari Financial Analyst

23rd October, 2024