China: Macro and Micro Aspects of Economy

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This paper examines the macro and micro economic aspects of pursing a new investment strategy in China focused on the selling of our heavy machinery to China. It will detail the high growth potential of this investment while balancing the associated risks inherent in this proposal. It will detail the fundamentals that compel us to pursue markets in the PRC and speak to China’s overwhelming comparative advantages when measured against the rest of the world and particularly other developing nations which also offer greater rates of return. In the past we have utilized China’s currency rates, use of VAT, and lower wages to export cheaper components for our manufacturing. This paper will endorse a change from exporting to importing to remain competitive and reap greater rewards. There are certain facts that lead us to this conclusion. The most prevalent are the huge untapped domestic market, the assured appreciation of the Yuan in the long run and the corresponding depreciation of the dollar, and the inefficiency inherent in China’s present reserve policy. China’s control of it exchange rate by pegging to the dollar has come under greater scrutiny. Critics argue that appreciation against the dollar and other foreign currencies will alleviate its rapid inflation, excessive domestic credit, and rising property prices all of which threaten future economic growth. By making their exports less competitive it would shift the focus of domestic producers toward domestic demand, which is the only sustainable means for continued growth. China’s communist regime has been hesitant to appreciate or float its currency. From July 2005 to July 2008, the central bank of China allowed the YUAN to appreciate against the dollar by about 21%. Once the effects of the global economic crisis began to become apparent, they halted appreciation of the YUAN in an effort to limit job losses in industries dependent on trade. The graph below shows how actual exchange rates have dragged slowly behind China’s expected appreciation based upon trade:

In the short term one of their largest issues is the ever widening income gap between the roughly 900 million rural and the 500 million citizens has reached a 1:4 ratio, with the average rural real income less than 1,900 Yuan (US$230) per year. If not resolved or controlled an appreciating currency could lead to civil and political unrest which could be disastrous for the Chinese economy. Another means for assessing China real purchasing power is to look at its purchasing power parity(PPP) PPP takes into account the relative cost of living and the inflation rates of a countries, rather than using just exchange rates which may distort the real differences in income. According to the world bank china PPP is closer to $6,000 per person almost twice the GDP per capita. In other words, because labor in the U.S. is much more valuable than labor in China, things in the U.S. cost more than things in China. In contrast, Vietnam’s and India’ PPP are closer to $3,000 per person. Thus, even with its issues China still offers a more attractive destination for our products than its neighbors. According to the website Economy watch, China’s economy has averaged a growth rate of 8% per year for the last thirty years. This astronomical growth is not without it dangers and potential pitfalls. Up to now China’s historic growth has mostly been driven by exports to the West, and particularly the United States. Its per capita income of a little over $3,000 is lower than much poorer countries such as Georgia, Ecuador, and even Cuba according to the United Nation Statistics Division. While it has kept its inflation under control mainly through interest rate manipulation and requiring ever higher reserve requirement ratios for its commercial banks, there are definite signs increases will not be avoided totally. With a significant reliance on trade and foreign direct investment, China’s economy is not immune to the...
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