China is Australia number one trade partner, but China is also the number one trade partner of over 100 other countries. Yet, over the last two decades, the Australian and Chinese economies have been enjoying a very complementary relationship, as Australia has been a stable and reliable supplier of high quality, high volume natural resources (including iron ore, copper, coal, and gas) that are much needed as China’s urbanization trend continues and the country attempts the slow shift to cleaner energies.
As a result, trade and investment between the two countries are substantial and have developed well beyond its modest beginnings in the 1970s. According to Australian trade statistics, two-way merchandise trade (imports + exports) has grown from Australian dollar (A$ thereafter) 113 million in 1973, just after the establishment of diplomatic relations, to A$118 billion in 2012. China is now Australia’s largest trade partner, accounting for 29.5% of Australian exports. In this article, we will analyse the trade relationship between the two countries, its recent evolution and its future.
A bilateral trade boosted by mining boom (2006-2012)
In late 2008, Chinese leaders launched an unprecedented stimulus of 4 trillion Yuan (about $630bn, or about 8% of China’s GDP) to keep the economy away from the global recession. The major part of this stimulus went into infrastructure building and real estate. The charts below show the steady rise of Australian exportations to China and the rapid acceleration in recent years, which coincides with the Chinese massive stimulus and building frenzy.
The breakdown by products shows how dependent Australia is to the Chinese spending on Fixed Assets Investments (which includes machinery, land, buildings, vehicles…). In 2012, Iron ore & concentrates, other metalliferous ores & concentrates, anthracite & bituminous coal, and crude petroleum accounted for 74.4% of Australian exports to China. Iron ore & concentrates represent 56.6% of Australian exports to China, or 16% of total Australian exports.
Without a doubt, the last decade has seen Australia enjoy a strong economic growth thanks to China’s appetite for hard commodities. During this period, Austalia’s GDP structure slightly shifted towards more investments and less household consumption, and unemployment fell below recent average.
However, according to some economic indicators such as PMI, GDP, new loans issued and interbank market, China is slowing down rapidly. This is partly due to the new leadership desire to curb real estate price and move toward a more sustainable growth paradigm. This leads us to ask: what does the end of the mining boom imply for Australia? In this article, we will focus on the relationship between China and Australia, and especially Chinese investments in Australia.
Cross borders investments
Source: KPMG report, Demystifying Chinese Investments in Australia
First of all let’s see which countries invest the most in Australia. China is the 5th biggest one but the amount invested in Australia has increased in the past few years. China has accumulated 3% of total Overseas Direct Investments in Australia at the end of 2011. While this may seem low, we should remember that China only began to invest significantly in Australia in the last decades, unlike the USA and UK.
Now let’s have a closer look on China. China is facing overcapacity issues in industries related to infrastructure and real estate, such as steel, cement and various metals processing activities. As we have seen previously, Chinese reliance on Fixed Asset Investments to boost growth is set to wane on the longer term. This combination of overcapacity and rebalancing towards more household consumption will necessarily decrease Chinese needs for more hard commodities.
However, China keeps investing in other sectors such as agriculture and renewable energy. China holds 20% of the world population and only 6.44% of the world’s landmass, compared to the United States, which has 6.15% of the world’s dry land with only 4.47% of the world’s population. In addition, arable land -the total land that is used for crop production- is only 11.6% (compared to 16.3% for the US) and an estimated 1/5 of agricultural land has been lost to soil erosion and urbanization since 1949 (all data from CIA Factbook). Needless to say, pollution and desertification are also creating tremendous pressures on the ability of the country to feed its citizens. On top of it, China’s population is expected to reach 1.6 bn inhabitants by 2040.
Recent Merger & Acquisitions transactions (such as Shuanghui/Smithfield) in the food industry show China’s ambition to secure its food supply in the long run: M&As in the agribusiness exceeded M&As in mining & steel in 2013. China is already accounting for 60% of world soybeans imports and both represent more than 50% of world pork production and consumption, and this demand is expected to hold over the long term.
The opportunities for Australia to supply safe, high quality food and agricultural products (dairy, meat, grains, wine, cotton, wool etc) are plentiful. Australia utilises only 40-50% of domestic food production capacity and should make every effort to ensure that it remains the preferred supplier for China in the long run.
Source: KPMG report, Demystifying Chinese Investments in Australia
First of all, China total investment in Australia in 2012 has exceeded the average yearly investment over the period 2006-12 by 34%. A closer look indicates that investment in mining was USD 5.5 bn in 2012 compared to USD 6.4 bn per year on average between 2006 and 2012. The same year, China has invested USD 4.8 bn in gas compared to USD 1.5 bn per year on average between 2006 and 2012.
Regarding investment in agriculture and renewable energy, they have been marginal but steady so far. Yet, the trend might change in the few next year. Indeed as detailed previously, China’ commodities needs will decline due to the slowdown and reforms of the economy while the imperative to secure enough supplies to feed its population remains pressing. Moreover, the Chinese population has a growing appetite for foreign products including meat, which Australia produces.
A closer look of the components of exportation indicates a slowing in metals exportation. For instance, in 2009, China bought 10 times more coal in terms of amount than 2008 (due to infrastructure stimulus plan) but since then it has been quite steady. On the other hand, meat and wheat exportation to China have drastically increased since 2006 by more than 1000% (in terms of AUD). Cotton exportation is also significant.
On 18 April 2005, Australia and China agreed to initiate negotiations on a Free Trade Agreement (FTA). This agreement would bring significant economic benefits for both Australia and China. The negotiations are complex, covering an array of issues, including agricultural tariffs and quotas, manufactured goods, services, temporary entry of people and foreign investment. Some crucial point are:
- The removal or reduction of the tariff and non-tariff barriers affecting bilateral trade in goods, which could reduce transaction costs and improve efficiency;
- Reduction or removal of regulatory barriers which restrict services in order to support improved trade flows across goods and services of interest to both economies;
- Implementation of measures to encourage more foreign investment between Australia and China, providing a firm foundation for the future economic relationship.
However, Sino-Australian trade is still subject to further improvement issues. According to this article, discussions about a Free Trade Agreement between China and Australia are complicated and no agreement has been reached yet:
“Under the current rules, companies or individuals from China and most other countries are subjected to FIRB approval for investments of $248 million or more. It’s believed China wants this increased to the $1 billion threshold that applies to US and New Zealand investors. China is also believed to be seeking an end to the automatic referral of all state-owned entity investments to the FIRB regardless of value.
Negotiations on an FTA began in 2005 in the hope that Australia’s exporters could break free from the quotas, tariffs and red tape imposed by Beijing, but the talks have failed to result in a deal. The original feasibility study found an FTA could boost gross domestic product in Australia by $US18 bn over 10 years and GDP in China by $US64bn over that period.“
Another recent significant aspect is tourism. The Australian tourism market is now benefiting hugely from the 600,000+ Chinese tourists coming to our country every year, representing A$4.2 bn in revenue. Clearly, it won’t offset mining activities, but it will still positively contribute to Australian growth. Moreover, Chinese buys more and more property in Australia. Australia is seen as a good place to invest compared to China of USA and more Chinese send their children in Australia to study.
China economic boom has called for high demand of commodities such as coal, iron ore and copper. Australia has enjoyed being one the largest metals supplier of China. In the recent years, Australia has based its economy largely upon commodities. Indeed, about 30% of Australian GDP is based on investments, a large part of it being dedicated to mining or related activities. As China slows down faster than anticipated, this economic model is put into question. There are high uncertainties about China reforms and their results will directly impact metals consumption in the coming years. Therefore Australia needs to adjust. But it will take time to shift away from mining, and for the time being unemployment will inevitably increase. On top of it, Australia’s housing market and private debt are two other critical issues which need to closely monitored. Australia’s boom in the last decade was directly related to Chinese’s rapid expansion and thus China’s slow down must necessarily take Australia’s economy in its wake.
About Steve Nguyen
Analyst based in China for 4 years, with significant analytical skills in Macroeconomics, Financial Markets and the Chinese economy.