Are we witnessing Decoupling 2.0? China and India rising fastest from the global wreckage

June 26, 2009

     By Duncan Green     

Earthquake analogies and tectonic plates have been one of the most ubiquitous clichés of the global crisis, but they remain apt. The last week has thrown up further signs of the historic geopolitical shifts that are under way.

The Economist has an excellent essay on the back of the first BRICs summit, exploring the sharp economic rebound in China and to a lesser extent, India and Brazil since the turn of the year (the fourth BRIC and summit host, Russia, remains stuck in deep gloom). Some highlights:

‘A study last year by Ayhan Kose of the IMF, Christopher Otrok of the University of Virginia and Eswar Prasad of Cornell University [found that] the business cycles of America and Europe converged. The business cycles of India and China converged. [But] the business cycles of rich and emerging markets had decoupled.’

‘Recovery in the BRICs is coinciding with recession in the developing world as a whole.’

Why are China, India and Brazil rebounding faster than others?
· They were cautious in liberalizing their financial systems, and so avoided contagion from the anglo-saxon meltdown
· A massive (14% of GDP) fiscal stimulus in China, plus a huge programme of state-owned bank lending (ditto Brazil and India, though on a smaller scale)
· Their large size means they have diversified economies and millions of domestic consumers to target in order to boost demand, unlike most other developing countries, which are more dependent on trade

The legacy of this high level of state intervention will be a big rise in the size of the government and large state-owned firms (reversing moves in recent decades towards more market-based economies).

Which all helps to explain the mood music at an International Growth Centre seminar at the LSE on 18 June, where the gallows humour of the European and American speakers contrasted with the confidence displayed by Yu Yongding (Chinese Academy of Social Sciences) and Surjit Bhalla (Oxus Research and Investments, New Delhi).

Yu Yongding summed up his presentation as ‘Chinese economy, so far so good and no big deal’. Even with the fiscal stimulus, China’s fiscal deficit will only be 3% of GDP this year (Britain’s is in double figures), and their debt/GDP ratio will still be less than 20% (much less than Britain’s). But he was worried that some of its longer term weaknesses (eg overinvestment and underconsumption, which aggravates the global imbalances between net consumers like the US and net producers like China) have been exacerbated by the crisis. In the middle of a global slowdown, Chinese investment is growing at 33% a year and has now reached 50% of GDP – an astonishingly high figure that more or less guarantees fast growth and a big surplus (since consumption is suppressed by all the wealth going into investment instead).

Surjit Bhalla took the long view. Over the 500 years up until decolonisation, ‘Chindia’ (China + India) went from having the global average of GDP per capita to having just a fifth of that average. By 2020 they will have rebounded, with 40% of the world’s people and 40% of its economic output.

Oh, and by the way, the world’s two most profitable banks last year were Chinese (Industrial and Commercial Bank of China came first with profits of $21.3bn, followed by China Construction Bank – Britain’s RBS was bottom of the heap with losses of $59.3bn and is now majority state-owned). Can you hear those tectonic plates grinding their way towards the next earthquake?