Chinas disorderly shift to a consumption-driven economy will trigger a sharp drop in commodity demand within the next five years that will serve as a wake-up call for South American exporters, a leading China analyst has warned.
Michael Pettis, Beijing-based finance professor at Peking University, and a renowned expert on Chinas growth model, told Emerging Markets: All imbalances eventually rebalance, and there is absolutely no question that in five years China will have to rebalance consumption will be a much higher share of GDP.
He added: By definition, a rebalancing must involve a collapse in investment growth. This means that Chinas demand for non-food commodities will drop sharply, even if its demand for manufacturing and food rises.
His comments come as China trade deficit hit $31.5 billion in February, underscoring fears that vanishing exports would derail growth in the worlds second largest economy.
Chinas low-cost, investment-led growth model that has propelled its rapid rise over the past two decades has fuelled distortions, sowing the seeds of a major investment bubble, which will burst in five years time, he said.
There is a long history of investment-driven growth miracles [in emerging markets]. They always end in debt crises or lost decades of growth. This wasted investment began happening in China a decade ago, and I think the outcome has been quite predictable.
His bearish comments were echoed by Barry Eichengreen, professor of economics and political science at the University of California, Berkeley. I am concerned about growth prospects in China, he said.
Weakness in the property market in China is mounting. Chinese policymakers have enough flexibility in to ease fiscal and monetary policy to avert a collapse in growth. But I still think it is possible growth could drop to 6%.
Chinas expected shift to a less commodity-intensive, consumption-driven economy and projected annual growth in the region of 7-8% in the coming decade raises the spectre of fiscal and current account weakness in South American exporters.
Former IDB chief economist Guillermo Calvo told Emerging Markets: I am much more worried about the potential impact of a hard landing or weak growth in China on Latin America than I am about ongoing eurozone crisis.
According to Bank of America Merrill Lynch, a drop in Chinese growth to 7.5% would reduce commodity prices and Latin American exports to China by up to 10% and 3%, respectively. Raw materials, oil, iron ore, copper, would bear the brunt of this price correction rather than agricultural exports.
But if Chinese annual growth averaged 7.5% over the longer run, we assume LatAm would find other markets for those exports, in which case exports would decline 1.6% , economist Oscar Munoz said.
Chile and Peru would underperform their regional peers in this scenario, given their trade openness and commodity dependence. Meanwhile, Brazil would be hit by a double whammy of lower commodity prices and reduced portfolio flows given the correlation between commodity prices and foreign purchases of domestic securities.