The global economic crisis has hit many people hard, affecting people’s daily life in most countries. As more countries are faced with job losses, company failures, and stagnant sales, new trade disputes are commonplace. The current decline in purchasing power has triggered an escalating trade war in the international arena and China has been the major target.

For China, exports during the past two to three decades have played an increasing role in its economic development, accounting for about one third of its GDP. As many have said, China has essentially become a manufacturer for the world.

In the past several years, European countries, the United States, and Japan have protested China’s policies such as dumping, currency undervaluation, and export subsidies. They have repeatedly urged China to raise the value of its currency, which had been pegged to the U.S. dollar for a decade, and which was widely considered undervalued by 40 percent in 2005.

Under international pressure, the People’s Bank of China (the central bank) decided to switch its exchange rates from a dollar-pegged system to a currency basket system. In July 2005, the yuan started a managed-float, appreciating slowly against the U.S. dollar, which has been declining since early 2002 due to its huge deficits. However, the yuan was pegged again to the declining dollar in July 2008. In other words, the yuan has started depreciating against all major currencies along with the dollar for the past year, allowing Chinese exporters greater advantage in the global competition.

Consequently, China this year has attracted more complaints from its trading partners. Between January and August, 17 countries had trade disputes with China on its export policies, including dumping, subsidies, and currency undervaluation. As a matter of fact, ever since its economic reform in 1978, promoting exports has been China’s development policy. The Chinese government has been using export subsidies and currency undervaluation to open up its international markets. Now the global economic recession has only highlighted such a stress that these policies have caused to other countries.

Resistance and complains from other countries can damage the prospects of China’s exports. In fact, China’s exports have already declined significantly for the past year due to the global recession. Even in September, China’s exports still declined over 15 percent from the previous year. The trend is expected to continue. A table in the Shanghai Securities News (Sept. 29, 2009) lists 70 large publicly traded companies. All the 70 companies have at least 60 percent of their revenues from exports. Obviously, these companies and their business partners will be largely influenced by the slowdown in exports. Related sectors, such as transportation companies, ports, airlines, etc. will also be affected. If products cannot be exported, they will be sold in China instead, causing extra inventories and more competition, particularly for goods already in excess supply.

The poor prospects of its exports will likely impact the Chinese economy in the following four ways. First, the slide in exports will likely continue till the end of the year or next year. Second, since exports consisted of a large percentage of the GDP (around 30 percent) in the last five to ten years, the drop in exports will also negatively affect the GDP. China’s current account surplus reached its peak in 2007, accounting for 11 percent of its GDP, which declined to 9.8 percent last year. It is expected to further decline to about 6 percent in 2009 (7.8 percent by IMF and 5.6 percent by the World Bank). Third, shares of companies that rely heavily on exports will likely fall. Data from the Shanghai Stock Exchange showed that from the end of July to the end of October, the Shanghai Securities Composite Index dropped from 3,500 to 3,100, while the Dow Jones Industrial Average was hovering over 9,500 and slowly rising to around 9,800 during the same period. This may have been a result of the reduction in exports. Fourth, greater competition for the domestic market and over-supply will continue to exert downward pressure on domestic prices. Prices for industrial and agriculture goods in China have already been declining since the end of 2008.

By Tianlun Jian

Tianlun Jian, Ph.D., writes regularly on the Chinese economy.