China drives engine of Australia’s success

By Peter Smith in Sydney and Geoff Dyer in Beijing

Published: February 2 2010 12:24 | Last updated: February 3 2010 02:18

Australia’s ability to skirt recession and outperform all developed country peers owes much to its increasingly powerful trading relationship with China.

The Reserve Bank of Australia on Tuesday defied economists’ predictions by holding rates steady at 3.75 per cent, with Glenn Stevens, the bank’s governor, referring explicitly to recent Chinese easing of economic stimulus measures in explaining the bank’s decision.

Nevertheless, three consecutive monthly rises late last year reflect difficulties typical of a rapidly heating economy, including rising inflation, higher house prices and climbing wages.

Tuesday’s pause is also likely to be temporary with the central bank pointing out that Australia’s economic conditions had been “stronger than expected” helped by what it described as Asia’s quick recovery.

December trade figures released on Wednesday showed a widening in Australia’s trade deficit from A$1.73bn in November to A$2.25bn, but it was below economists estimates of A$2.5bn.

Exports rose 4 per cent to A$19.8bn while imports climbed 6 per cent to A$22bn.

Annette Beacher, senior strategist at TD Securities, said exports had been surprisingly strong for the month, probably due to sales of iron ore to China and coal to Japan.

She added that exports rose around 3.3 per cent for the three months ended December, which was “an outstanding result given ongoing sluggish global trade”.

The figures herald a more dramatic pick up this year as prices rise for iron ore and coal, two of Australia’s best-sellers in China.

If the growth trajectory of recent years is any guide, the value of Australia’s trade with China, its biggest trading partner, could top A$100bn (US$82.3bn) in the year to June 30.

The previous year, which encompassed the darkest days of the global financial crisis, two-way trade surged an annual 30 per cent to A$83bn.

China’s need for Australian natural resources is complemented by Australia’s appetite for Chinese-produced clothing, sporting goods, toys and computers.

Australia’s leading services sectors, led by higher education and tourism, are also increasingly dependent on Chinese clientele. Australian schools have enrolled an estimated 130,000 Chinese students, more than from any other foreign country. Based on figures to November, China last year passed Japan to become Australia’s largest source of Asian visitors and an estimated 1m Chinese are expected to visit annually by 2025.

Australia is keen to conclude a free trade agreement with China that would allow its businesses far greater access for financial services and agricultural exports in particular. A 14th round of talks is to begin shortly, but final agreement still seems some way off.

“Both sides want to conclude the FTA as rapidly as possible,” said a spokesman for Australia’s department of foreign affairs and trade. “We don’t put a deadline on negotiations: the key is to negotiate a good outcome.”

A report commissioned by the Australia China Business Council last year estimated that the agreement could boost Canberra’s gross domestic product by A$146bn over 20 years.

“There is much more money coming into Australia from China” than the other way round, says Frank Tudor, chairman of the business council. He points to a string of Chinese investments in Australia’s resources sector while noting that Australia’s investment in China has been relatively static at about A$6bn a year.

Malcolm Cook, east Asia programme director at the Lowy Institute, a Sydney-based think-tank, says China’s response to the financial crisis was to invest in infrastructure and property and that provided a windfall for Australia.

“Australia was one of the biggest beneficiaries of China’s domestic response to the crisis,” he says. “Increasingly, the Australian financial markets follow signals from China and not so much the US. There is still a significant Wall Street effect but there is a growing Shanghai stock exchange effect too. That shows how markets are viewing Australia.”

He adds that the big risk for Australia is if China’s rate of growth falls heavily.

The Chinese economy grew 10.7 per cent in the fourth quarter of last year, giving it strong momentum as it moves into 2010 and most analysts expect this year’s growth rate to be near double-figures.

There are a couple of potential roadblocks, however, which could have negative repercussions on the Australian economy over the course of the year.

The first concerns Chinese inflation, which has started to pick up over the past two months and reached 1.9 per cent year on year. Some economists argue that because of a tightening labour market, strong domestic demand and the rapid expansion in the money supply last year, inflation could start to spike in the coming months. This is not the majority view, but if it did happen it would lead the government to raise interest rates and potentially slow growth quite sharply.

The other issue is China’s demand for commodities. Massive infrastructure investment has been the main driver for the buying of commodities which helped revive prices last year in the aftermath of the financial crisis.

There has been persistent speculation, however, that China has also been stockpiling certain commodities – from the government’s own commodity-buying agencies to pig farmers hording copper.

“Commodity analysts were left scratching their heads last year when trying to determine whether China’s surging commodity imports were related to final demand or speculative stockpiling,” says Ben Simpfendorfer at Royal Bank of Scotland in Hong Kong.

Public investment in infrastructure is likely to remain strong this year, although it could slow a little from last year’s rapid rate. But if stockpiling has been a big factor, commodity demand could weaken.

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