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Reappraising China's "Staggering" Growth

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It's difficult to measure the true impact of declining exports -- but it's undoubtedly dramatic.

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I'm not writing this under duress: Neither my family nor I were kidnapped by the Chinese government. I simply made a mistake in my last note about China called Simple Math Disproves China's "Staggering" Growth, and I'd like to correct it.

The Chinese non-export economy isn't growing at a 23% rate. This figure would have been right if China only exported and did no imports, which is obviously not the case: imports are about 25% of GDP (exports are 35%, leaving net exports at about 10%).

If we were to assume that exports and imports are declining at the same pace of 20%, then the impact of declining net exports on the growth of the total economy would be about negative 2% -- a much lower number than the negative 7% I used in my misguided note.

Also, the non-net-export economy (about 90% of the total) would have to grow at about 11% (not 23%) to offset declining net exports, and for the total economy to grow 8%. I'm assuming that exports and imports declined at the same rate. But Chinese imports declined at a slower rate than exports in June, and were dropping at about the same rate as exports in May.

China, as any other country, imports 2 sorts of goods: finished goods (i.e., earth-movers, planes, etc.) and raw materials. I'd break the latter into 2 categories,, as well: the obvious ones -- commodities, like oil, copper, etc. -- and parts -- the goods that go into finished products assembled in China and then exported or consumed internally.

There's little or no value added to finished goods, but there's a lot of value created in raw materials. Sorry to be going economist on you (I'm not one). But to understand the import/export relationship, let's take a closer look at this example: A contract manufacturer who makes cell phones.

The manufacturer imports a lot of parts that go into the phones (the processor, wires, sensors) from other countries, and sources some parts (maybe memory) in China. It assembles these parts into a final product and exports the product to the US and Europe. The value-added component here is, for the most part, assembly -- i.e. cheap labor.

If exports of cell phones drop by 100 renminbi, does it impact the economy proportionately by 100 renminbi? No. If, let's say, 70 renminbi worth of components were imported from Taiwan, the impact on the Chinese economy is only 30 renminbi (Taiwan's exports suffer a 70 renminbi loss). As you can see, if we ignore imports and focus solely on exports, we overstate the impact exports have on the economy. I did just that. Wrong!

Things get even more complicated because of the multiplier effect: Though net exports are only 10% of the Chinese economy, there's a large number of additional jobs created around them. Plus, don't forget the capital investment that growth of exports brings to the country: Factories are built, and infrastructure (roads, airports, etc.) is needed to support these factories.

Capital investment and export manufacturing-related infrastructure projects will decline with plummeting exports. To make matters worse, we have overcapacity in China. Huge factories were built to accommodate demand that won't actually be realized for years.

Developed-world economies are readjusting to a "new normal"; consumption of many products will readjust to lower levels; fewer goods will therefore be produced. Listening to the conference calls of large multinational companies reveals this: They're cutting their production in China at a very fast pace.

Finally, a very large portion of imported commodities likely goes to support a non-export economy; the true impact of imports on the export economy is hard estimate.

The inconvenient truth is that it's very difficult to measure the true impact declining exports have on the Chinese economy -- it's lower than I estimated in Simple Math Disproves China's "Staggering" Growth, but likely higher than the number I came up with above. The bottom line is that the growth of non-net-export economy is lower than I originally estimated -- but it's still staggering, considering its significant acceleration on top of already high growth.

All in all, though I am not glad I made the net-export mistake; at least, it sent me on a mental refresher course of economic concepts that I'd unfortunately forgotten.

P.S. More stories are coming out about outrageous real estate projects in China. This video of empty skyscrapers in China reminds me of empty condo buildings in Miami.
No positions in stocks mentioned.

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