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Inside the Market China’s economy: Sure, it’s big, but it’s still emerging

The size of its economy is overshadowed only by the United States. Its population of billionaires is the second largest on the planet, having stockpiled fortunes in everything from tech and real estate, to cryptocurrency and potato chips.

So, perhaps people, including U.S. President Donald Trump, can be forgiven for asking: Why is China still considered an emerging market or developing nation?

“China, which is a great economic power … get(s) tremendous perks and advantages, especially over the U.S.,” Mr. Trump railed on Twitter in the early days of the trade war, pointing out the country’s status as a Developing Nation within the World Trade Organization (WTO). “Does anybody think this is fair?”

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Certainly Mr. Trump believes it is fair game to challenge China’s “developing” designation within the WTO as justification for imposing new tariffs on everything from aluminum and steel, to washing machines and solar panels – an ongoing trade war that may take longer than expected to reach a truce after threats from Mr. Trump this week that he will boost tariffs to 25 per cent from 10 per cent . Still, the President isn’t alone in questioning whether China’s Developing Nation categorization should be revisited in light of its ascent these past three decades.

To some observers, China is a paradox, a country of some 1.4 billion people at the vanguard of innovation, even touted as the next Silicon Valley, where Gucci-loving shoppers promenade the streets of cities like Shanghai and Shenzhen beneath gleaming skyscrapers. Yet far from the boom of the country’s coastal region, millions of impoverished farmers work the fields, their homes carved into the mountainside. It has become a country of haves and have-nots distinctly demarcated along urban and rural lines. This growing wealth gap is highlighted by the fact that 1 per cent of the population controls nearly one-third of the country’s total wealth.

Meanwhile, the country’s emergence as the world’s second largest economy has been breathtaking. Indeed, it’s come a long way since it first initiated the process to join the WTO in which two-thirds of its members are classified as developing – a self-determined definition. This status has awarded developing countries “special and differential treatment,” granting them more leeway in how they define free trade, deregulation and liberalization. And there’s little question these allowances have helped China scale quickly – benefits it is loath to lose, especially its ability to implement agricultural subsidies and set higher barriers to market entry than more developed economies.

Defining an emerging market

All developing nations share a number of characteristics in their transition from agrarian and export-based economies, including rapid rates of growth and industrialization. However, while WTO definitions of “developing” and “developed” are determined by countries themselves, others like the Morgan Stanley Capital International (MSCI) have defined a number of criteria for emerging markets which include market size, liquidity and accessibility, which includes foreign ownership restrictions.

Three of the world’s top 10 economies are considered emerging markets, including China, Brazil and India, all with low levels of GDP per capita. China’s GDP per capita is US$8,827 compared with US$59,532 in the United States, according to the World Bank’s 2017 figures.

After last year’s late slump, the economy is picking up steam

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And while China’s economy slumped late last year – exacerbated by trade tensions – first-quarter figures show a turnaround, buoyed by retail sales, exports and property investments. China’s economic growth held at 6.4 per cent for the first three months of 2019, slightly below 6.6 per cent posted for all of 2018.

In fact, China has been outperforming all other emerging markets. It’s still, by and large, a managed economy which the government has been able to turn on and off through fiscal and monetary policies. A trade resolution with the U.S. will undoubtedly ensure better bilateral trade with China agreeing to buy more U.S. goods, while opening up its economy to global companies.

Looking ahead

Yet, there are more important reasons to be optimistic about China’s future.

Firstly, the government has introduced some 70 stimulus measures in recent months. China continues to deleverage the economy, slowing the rate of debt issued while lowering overall debt. Many of the current stimulus measures are based on driving a service-based economy and increasing domestic demand, which already accounts for about 60 per cent of China’s economy. Cornerstone Macro, an investment research firm, estimates the aggregate effect of the stimulus measures to be at least 1.6 per cent of the country’s GDP.

Secondly, China’s stock markets are evolving from retail-based markets to more institutionalized ones. The inclusion of China A-shares on the MSCI last year helped kick-start this transition. Last year, the MSCI announced it would quadruple the weighting of Chinese mainland shares in its global benchmarks from 5 per cent to 20 per cent in three stages, pumping billions of fresh foreign capital into the Chinese economy.

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For all of these reasons, investors should continue to watch China in 2019. After all, we’d do well to remember what China has achieved in just one generation – evolving from the world’s factory floor producing cheap trinkets into a technological powerhouse. What’s next? At the very least, a more developed market and more liberal economy. Certainly, growth will slow, but it will still be much faster than in developed markets such as the U.S. and Europe.

Regina Chi is Vice-President and Portfolio Manager at AGF Investments Inc.

The views expressed in this article are those of the author and do not necessarily represent the opinions of AGF, its subsidiaries or any of its affiliated companies, funds or investment strategies.

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