Bloomberg: BRICs Biggest Currency Depreciation Since 1998 To Worsen
CNNMoney: Will China’s Real Estate Bubble Burst?
FT: China Manufacturers Face Fall in Demand
FT: Chinese Manufacturing Hits Nine-Month Low
FT: China Moves to Lift Property Market
FT: Chinese Property Market Rebounds
FT: Fate of China Property is Global Concern
HSBC: HSBC China Manufacturing PMI
National Bureau of Statistics of China: Sales Prices of Residential Buildings in 70 Medium and Large-sized cities in July
Reuters: China Factor Surveys Signal Economic Growth Easing into Q3
WSJ: Murky Outlook for Dim Sum Market
WSJ: Wage Rises in China May Ease Slowdown
WSJ: Yuan is Luring Bets of a Drop


China’s Economy Shows Signs of Strain

Recent economic indicators show that China’s economic growth was much slower than expected in the first half of this year, and analysts predict that gross domestic product (GDP) growth will slow again next quarter to somewhere below 7.5%—GDP grew 7.6% in the second quarter. Two important issues affecting the Chinese economy are: (1) increased government restrictions in the housing industry, and (2) decreased demand for Chinese products. These relatively poor economic numbers have led the Chinese government to engage in economic stimulus measures such as interest rate cuts and increased spending on investment projects.


Concerns about a housing bubble (rapid increase in housing prices) in China’s developed cities have led the government to clamp down on the housing sector by prohibiting purchases of second homes, toughening mortgage qualifications, imposing residency restrictions, and increasing down payments on property. The housing market in China’s most developed cities, where housing prices are high, accounts for only 25% of the market as a whole. In the rest of the country (the other 75% of the market), however, housing prices are relatively affordable. Yet, government policies designed to correct housing prices in China’s largest cities are discouraging developers from building houses in the rest of the country because the policies lower developers’ profit margins, particularly in rural areas. Moreover, people are discouraged from buying homes due to purchasing restrictions, and many investors do not want to purchase new real estate when property values are on the decline. Decreases in home construction and sales hurt the Chinese economy because property construction accounts for 15% of China’s GDP, and about 10% of economic growth last year is directly attributable to the housing sector. Furthermore, reduction in property construction has a domino effect upon other industries, including steel, heavy machinery manufacturers, and the energy sector.

China’s manufacturing sector already faces tough challenges because demand for Chinese products is decreasing. In the first half of the year, wages for Chinese workers went up 13% from last year, and analysts expect wages to double by 2015 from 2011 levels and triple by 2017. Companies must increase the prices of their products to account for these wage increases. Consequently, many foreign consumers now order these goods from other Asian countries where wages and prices are lower. For example, Euro zone, American and Russian demand for Chinese exports dropped 30% this year. HSBC’s purchasing manager’s index (PMI) (number that is calculated based on purchasing executives’ responses to questionnaires regarding new orders, output, employment, suppliers’ delivery times, and stock of items purchased) for China’s manufacturing sector was posted at 47.6 in August, its lowest level since March 2009, and down from 49.3 in July. Any number below 50 indicates that the manufacturing sector is contracting. HSBC also reported that new orders for goods had declined along with the number of manufacturing jobs. If low demand for Chinese products continues, many more Chinese workers will lose their jobs, which could strain China’s domestic market because these workers will purchase fewer goods.

The Chinese government is introducing various policies to help address the problems in the housing and manufacturing sectors. To help the housing sector, the government has been subsidizing the construction of millions of apartments. However, somewhere between ten and sixty-five million apartments remain empty due to the government’s purchasing restrictions. Chinese Premier Wen Jiabao has also promised to give exporters a tax rebate to help ease the pressure on the manufacturing industry. Furthermore, the government has cut interest rates twice this year, approved numerous investment projects, and lowered the amount of money that Chinese banks must keep on hand. Such measures should encourage lending and development projects. Many analysts also predict that the Chinese government will employ monetary easing policies such as lowering interest rates on loans even further and increasing the money supply. This will make Chinese exports more affordable on the world market because the value of the yuan against foreign currencies will decrease.

U.S. Economic Growth Slows Down

Sources:
FT: U.S. Consumers Cautious on Spending
FT: U.S. Factory Orders Increase in May
FT: U.S. Factory Output at Three-Year Low
FT: U.S. Manufacturing Activity Drops Sharply
NPR: “This Is Not Good”: Factories Show Signs Of Slowing
WSJ: Factory Slump Reaches U.S.

In the beginning of July, the U.S. government released reports showing signs of economic growth slowing down in the country. First, U.S. manufacturing shrank in June for the first time in three years. The Institute for Supply Managements (ISM) said that its index of manufacturing activity fell from 53.5 in May to 49.7 in June. A reading below 50 is an indication of contraction—a decline—in the economy. Anything above 50 signifies an expansion of the economy, or an increase in the level of economic activity and of goods available in the marketplace. This is the lowest reading on the index since July 2009, a month after the recession officially ended. Manufacturing accounts for 12% of the U.S. economy and has been at the forefront of the country’s recovery.

There are many reasons for the contraction in U.S. manufacturing. Americans have cut back on spending which has led to lower demand of manufactured goods. In addition, Europe’s economy is in a recession, which has hurt U.S. exports, because Europeans are buying less goods in general and thus less American-made goods. A recession is a general slowdown in economic activity occurring when the country’s gross domestic product (GDP) declines for two or more consecutive quarters.. It also appears that U.S. manufacturing is likely to stay weak for the next few months as the ISM’s new order index plunged from 60.1 to 47.8. The new order index reflects the levels of new orders of goods and products from customers of manufactured goods. Although this measure is traditionally volatile, such a sharp decline could signal a downturn in the demand for U.S. products overseas. It is the first time this index number has fallen below 50 since April 2009, when the economy was in a recession.

The fewer amount of new orders in manufacturing has left many businesses concerned that U.S GDP growth will further decline. This fear stems from the recent decline to a 1.5% GDP growth rate in the April-June quarter from a 1.9% rate found back in the January-March quarter. U.S. businesses are also concerned about Europe’s financial crisis and the possibility that U.S. lawmakers will not extend a package of tax cuts at the end of the year. Thus, U.S. companies are cutting back on manufacturing and purchasing as well as not increasing their hiring to prepare for a downturn of orders from Europe and higher taxes. Another concern of U.S. businesses is that European manufacturing has remained at its weakest level in three years and continued to decline in the month of June. Meanwhile in other parts of the world, a recent survey shows that China’s industrial sector expanded at its slowest pace in seven months.

U.S. consumer confidence decreased to its lowest level of the year at 73.2% in June, which was another reason for the slowing in manufacturing. Consumer confidence is an economic indicator, which measures the degree of optimism that consumer’s feel about the overall state of the economy and their personal financial situation. In a recent survey given to 5,000 U.S. households, it showed that consumers are concerned about slowing job growth and increasing unemployment. The unemployment rate in June was at 8.2% up from 8.1% in April, with the U.S. economy adding only 69,000 jobs in the month of May and only 80,000 in June. The sharp drop in the ISM index will not help the situation, as it will trigger speculation that the U.S. economy may fall into recession.

In an effort to kick-start the economy, the Federal Reserve extended “Operation Twist,” in which the government sells short-term bonds while buying long-term bonds. The aim of the program is to lower long-term interest rates. By selling shorter-time bonds and using the money from the sale to purchase long-term bonds, the government will increase demand for the longer-term bonds, which in turn will drive up the price of those bonds, and lower the rate of return (yield) of such bonds. The relationship between bond price and yield is inverse, thus as bond prices increase, yield decreases.

Additional signs that America’s economy is feeling the impact of slower growth in China and continued unrest in Europe could cause the U.S. central bank to take more aggressive action , including purchasing financial assets (such as bonds and stocks) as a way to inject more money into the economy. Injecting more money into the economy means that banks will have more cash to lend to each other, to companies, and to any consumer making a large purchase like a car or house. The fall in manufacturing will be of concern to Barack Obama’s re-election campaign as well as his rival Mitt Romney.

China to Test Freer Yuan in Financial Zone

BI: China is Experimenting with a Truly International Currency
China Offshore: Central Bank Allows Chinese Businesses to Settle Trade Using the Rmb
FT: China to Create Special Currency Test Zone
Reuters: China to Experiment with Freer Yuan

On June 28, 2012, China announced plans to create a special financial test zone. The financial test zone is to be located in the city of Shenzhen on mainland China and will allow China to determine how easily Chinese currency can convert into gold and other foreign currencies. This new measure will allow Hong Kong banks to lend renminbi, the official currency of China, directly to companies on mainland China, particularly in the new economic zone of Shenzhen.

The currency experiment aims to increase the flow of the Yuan (the primary unit of the renminbi), between Hong Kong and mainland China. Prior to the announcement, Hong Kong banks could only lend to Chinese clients in Hong Kong, and if the Chinese clients wanted to bring that money into China, they needed approval from the foreign exchange regulator. The Chinese foreign exchange regulator limits the amount of renminbi that can leave and enter mainland China. The Chinese government also has regulations in place to ensure the renminbi cannot travel without restriction across the border for pure financial transactions, like loans. The currency experiment in Shenzhen allows renminbi held by bank lenders overseas to flow back to China because banks in Hong Kong can lend to Chinese clients in Hong Kong, but with the currency experiment, they can also lend to those on mainland China.

China’s currency experiment could prove important to the eventual undoing of capital controls in the country as well as increase the Yuan’s presence overseas. Capital controls are mechanisms the Chinese government uses to regulate the flow of Yuan in and out of the country. For instance, the Chinese government limits the amount of Yuan companies can take out of mainland China for trading and lending as well as the amount they can bring back in. The experiment follows a series of other steps taken by the Chinese government to make the renminbi a more globalized currency that could eventually compete with the U.S. dollar in global markets. A global currency refers to a currency in which the vast majority of international transactions like sales and trades take place, (e.g., the U.S. dollar and the Euro). China’s drive for financial reform includes the goal of making the Yuan convertible to foreign currencies as early as 2015.

Over the past two years, large amounts of Chinese currency have moved abroad for the first time because Chinese companies could settle their international trade in renminbi, rather than first exchanging renminbi to dollars prior to doing business with foreign companies. The allowance of settling international trade in renminbi meant the Chinese Central Bank allowed all businesses that trade with China to use the renminbi in their trade exchanges and in business transactions, such as sales, with each other. Thus, a Chinese company can now pay a European company in renminbi, allowing the outflow of Chinese currency to foreign hands. The Chinese government has also allowed foreign investing institutions a limited but growing selection of investment options for their renminbi holdings, which includes Hong Kong’s dim sum bond market. Hong Kong’s dim sum bond market is a market that sells bonds denominated, or valued, in Chinese Yuan.

Shenzhen, designated as the country’s first special economic zone in 1980, helped to bring foreign investment and free trade to China. This economic zone was the first city that experimented with China’s broader economic reforms that were later rolled out across the country and helped China on its way to becoming the world’s second-largest economy. If the Chinese government follows through with its announced plans in globalizing the Yuan, Chinese currency could be more easily convertible to foreign currencies very soon.

Samoa Celebrates 50 Years of Independence and Development

Sources:
ADB: Samoa, Building a More Resilient Economy
IMF: Enhancing Resilience to Shocks and Fostering Inclusive Growth in the Pacific Islands
New Zealand Herald: Samoa's Statesman
Radio Australia: China a Better Pacific Friend than US: Samoan PM
The University of Waikato: Samoa and New Zealand’s Special Relationship: More than a Neighbour?
U.S. State Dept.: Samoa Independence Day

On June 1, 2012, Samoa celebrated 50 years of independence from New Zealand. A group of islands halfway between New Zealand and Hawaii in the South Pacific, Samoa was the first modern Pacific country to receive independence. The first half-century of Samoan independence is a prime example of the challenges faced by island nations in the Pacific region and has been marked by improved economic growth and increased stabilization.

As Samoa transitioned to independence during the 1960s and 1970s, it focused on establishing a stable government and economy. To assist in Samoa’s transition to independence, New Zealand maintained control over Samoa’s foreign affairs under the Samoa-New Zealand Treaty of Friendship until Samoa determined it was ready to handle its own foreign affairs. At first, the Samoan government struggled with internal unity among its own officials, but this changed with the introduction of political parties, which encouraged government officials to focus on the unified goals of the party rather than their own individual interests. Samoa also expanded its connections with the global community very early on in its independence by joining the Asian Development Bank, the International Monetary Fund, the World Bank, the Lome Convention (an international trade and aid agreement between the European Community and African, Caribbean, and Pacific countries), and the United Nations. Becoming a member of these organizations allowed Samoan to receive development aid, enabling the country to utilize such funds in critical areas such as infrastructure and education.

Currently, Samoa’s economy centers largely on tourism, remittances—sums of money sent to Samoa by the country’s nationals who are living and working abroad— and an increased amount of aid from China. Tourism and remittances together make up roughly half of Samoa’s annual gross domestic product (GDP). In addition, Samoa has recently seen an increase in aid from China. The government of Samoa has sought out aid from China because the Chinese have proven to be more flexible regarding project plans and more forgiving regarding loan repayment than other sources of aid, including Australia, New Zealand, and the United States.

While Samoa has achieved a level of stability, the recent global financial crisis demonstrates that the country needs to develop further. The financial crisis negatively affected all three of Samoa’s main sources of income (tourism, remittances, and aid) because foreigners, Samoans working abroad, and foreign governments all saw their discretionary income—income remaining after necessary expenses are paid—reduced. To reduce the negative effects of the financial crisis, the IMF has suggested that Samoa and other Pacific countries increase diversification of domestic industries and increase investment in education. Regarding diversification, the IMF suggests creating a set of laws and regulations that make domestic industries more conducive to foreign investment. In addition, the IMF suggests improving access to credit for the domestic private sector to encourage local business development. Concerning education, Samoa has already placed a high priority on educational achievement. For instance, the government spends roughly a third of its budget on education. As a result, Samoa has seen signs of success in a near 99% literacy rate and gender parity in primary education. However, secondary education still needs improvement as there is a 40% drop-out rate during the last two years of high school.

With 50 years of independence, Samoa has much to celebrate and many opportunities to ensure a bright future of continued economic growth.

 

The "BRICS" Propose a New Multilateral Bank

Sources:
BRICS Joint Statistical Report: Economic and Social Indicators Comparison of BRICS Countries
International News, The: World Bank Chief Backs BRICS Idea
Macau Daily Times: Rising Powers Mull Bank for Developing Nations
Telegraph, The: Robert Zoellick Calls for BRICS Bank

Brazil, Russia, India, China, and South Africa, collectively known as the “BRICS,” are five of the most important emerging economies. At their joint financial summit in New Delhi during the week of March 27, 2012, the BRICS officially proposed a new developmental bank, which would serve as an alternative to other development banks such as the World Bank. The outgoing World Bank president, Robert Zoellick, said that he would support a World Bank program to work with the BRICS to make their plan for a new bank a reality. Such a move would not be unprecedented, as the World Bank has previously assisted in the creation of the Islamic Development Bank and the OPEC Fund.

Zoellick does not believe that ignoring the BRICS is a good economic decision, as the countries are already serious players in the world economy. Collectively they account for 18% of the world’s GDP, 40% of the world’s population, 15% of global trade, and 40% of global currency reserves. Many financial experts expect the BRICS’s economies and political influence to continue growing in the future.

Some political experts view President Obama’s nomination of an American to lead the World Bank (instead of a person from the BRICS or another emerging economy) as adding momentum to a BRICS bank. The BRICS believe that the World Bank does not effectively address the unique needs of developing countries. They believe that a World Bank president from an emerging market economy could help address this issues. However, Obama’s nomination of an American is in line with past practice, as an American has always been the leader of the World Bank. The BRICS bank would focus on middle-income countries and be largely free from the political influences of advanced economies.

However, political experts are concerned that because the BRICS do not have one coherent foreign policy, it will be difficult for the countries to pool their economic resources and settle on an aid strategy. The lack of agreement was recently demonstrated when the BRICS failed to unite behind one nominee for World Bank president. Political experts are also concerned about the vast difference in economic power between the BRICS. For example, Brazil’s GDP was $2,090 billion in 2010, while China’s was $5,879 billion, India’s was $1,293 billion, Russia’s was $1,465 billion, and South Africa’s was $363 billion. China also has $3.2 billion in foreign currency reserves, an amount much higher than any of the other BRICS. Because China has the largest economy and currency reserves, it will likely want to permanently lead the bank—a proposal that India and Russia would likely reject. Additionally, unlike the World Bank, where the leadership generally consists of democracies, the BRICS bank would represent an authoritarian government (China), a quasi-democratic government (Russia), and several democracies (India, Brazil, and South Africa).

With the fast-growing economies of the BRICS, the countries have the funds and political will necessary to create their own development bank. However, the exact structure of that bank and the World Bank’s potential role in its creation remain unclear. While the BRICS have numerous differences, both political and economic, a developmental bank backed by the five countries’ immense economic power would have the ability do much good in the world.

Strong Currency Limits Australian Economic Growth

The Australian: Markets See Light at End of Tunnel

FT: Strong ‘Aussie’ Puts Damper on Mining Boom

WSJ: Food Could Be an Aussie Problem Now

On March 21, the Australian dollar (commonly referred to as the “Aussie”) traded at US$1.0537, the highest value with respect to the U.S. dollar in three decades. The Aussie exchange rate has risen over the last three years primarily because Australia has higher interest rates than other advanced economies. A higher interest rate attracts foreign investors who are able to get higher rates of return on their investments than they can elsewhere. The influx of investment to Australia creates a demand for Aussies, which raises the currency’s value relative to other currencies. Another reason why the value of the Aussie has risen is that in the wake of the European sovereign debt crisis, investors have viewed Aussies as a safe investment, which leads investors to buy Aussies, thereby increasing demand and raising the currency’s value. Furthermore, developing countries such as China are looking to diversify their holdings of foreign currency away from the U.S. dollar to minimize their exposure to a potential downturn in the U.S. economy, and the Aussie is viewed as a good alternative given the relatively higher growth rate in the Australian economy compared to the United States.

The higher value of the Aussie has limited the country’s exports (which are a primary driver of economic growth) as Australian products are more expensive for foreigners. Australia’s economy grew by 2.3% in 2011, but only by an annualized growth rate of 0.4% in the fourth quarter—both of these figures are much lower than the average growth rate of 3.25% over the last several years. Furthermore, Australia’s economic growth has been limited because Australian households have increased their savings over the last two years to pay down household debt. With less money being spent in the local economy, businesses are discouraged from expanding their operations which limits economic growth.

Perhaps more concerning to the Australian economy is that demand from China for Australian commodities has decreased and is likely to continue falling. Mining is the main economic sector in Australia and will account for over 40% of total business investment over the next few years. Much of Australia’s mining exports go to China. However, Chinese food and oil prices have been rising over the last several months, which has created inflationary pressure as producers pass on higher costs to consumers in the form of higher prices. With higher inflation, China may tighten its monetary policy by raising its interest rates, thereby encouraging Chinese to save instead of spend, which could decrease demand for Australian goods.

China to Continue Investing in Europe

Sources:
Bloomberg: China to Get 'More Involved' in Europe Rescue, Holds Euros
China Daily: Hu Vows to Further Cooperation with EU
Forbes: China Gets on Board with Euro Bailout, Stocks Jump
Reuters: China to Keep Investing in Euro Zone Debt: China Central Bank


Europe is currently in the midst of a deep financial crisis. In the past, China (and other emerging markets such as Brazil and Russia) has contributed money to help fund the European bailouts with the hope of alleviating the European sovereign debt crisis. On the heels of new austerity measures in Greece that led to intense rioting and projections that Greece could face a prolonged and severe economic recession, China made an announcement that it plans to continue investing in Europe and contribute to future bailouts, which is positive news for Europe.

In recent international discussions, the Chinese government has indicated that it is ready to play a larger role in solving the sovereign debt crisis, which would ease the burden on the European Financial Stability Fund (EFSF) and the International Monetary Fund (IMF) to raise funds for future bailouts. China also noted its support for the measures the EFSF and IMF have taken thus far, and that it will continue coordinating with these organizations in the future.

The Chinese Central Bank, which holds approximately $800 million in euro-denominated financial instruments, recently reiterated its belief that the future prospects for the euro as a currency are strong—a statement that strongly increased market confidence in the euro. As evidence of that belief, China will not seek to reduce its exposure to changes in the euro exchange rate by selling its euro-denominated holdings.

Observers believe that China, with $3.2 trillion in foreign exchange reserves, may have the financial power to single-handedly bail out some troubled European governments. China, however, is reluctant to make economic decisions simply to help struggling economies. It is willing to invest in Europe, but only if the investments are liquid, secure, and will increase in value. For example, China currently believes that “hard assets” (buildings, businesses, inventory, etc.) are more appealing than European government bonds because hard assets can be sold in a worst case scenario to recover some of the initial investment, an option not available for government bonds.

China, however, is not suggesting that it will invest in “hard assets” to the complete exclusion of European government debt. China is committed to investing in European governments and will continue to encourage its companies to invest throughout Europe. European leaders hoping that China will use its vast foreign exchange reserves to fund a very large percentage of future European bailouts will likely be disappointed, as China views the risk associated with such a bailout greater than the potential monetary reward.

While some are disappointed in the role China has decided to play, China’s recent support of Europe is a positive sign. China’s willingness to invest in European assets and contribute some additional funds to future bailouts (if European countries send a clear message that they are working to get their finances in order) gives hope that Europe will be able to avoid a financial catastrophe. While China may not solve the European sovereign debt crisis on its own, the signal that China is prepared to work with Europe to solve the crisis should alleviate some European fears.

China’s Future President Xi Jinping Visits the United States

Sources:

NYT: Chinese Vice President Urges U.S. to Respect ‘Core Interests’

USA Today: China’s Xi Jinping, Obama Exchange Polite Warnings

WSJ: Xi Takes Time for a Reunion with Old Friends in Iowa

On February 13th, Chinese Vice President Xi Jinping began a five-day tour of the United States with a visit to Washington D.C. Mr. Xi is expected to succeed Hu Jintao as China’s president this fall, and this visit provided him an opportunity to comment on China’s future diplomatic and economic relationship to the United States—to Americans and Chinese alike. The visit comes just days after tensions arose between the two countries when China (along with Russia) blocked a United Nations Security Council resolution to condemn Syria.

In an address to business leaders, elected officials, and Chinese diplomats on Tuesday, Mr. Xi asserted that the U.S. and China must respect each other’s “core interests,” while working to promote trade with each other and cooperation with regard to how the countries address issues in Iran and North Korea. The phrase “core interests” has become a standard term for Chinese officials in recent months, meaning respect and support for China’s territorial sovereignty. Over the past year, more than two dozen Tibetan clergy have self-immolated and many Tibetans have been killed by the Chinese military in recent months during mass protests demanding independence. Another issue is Taiwan, an island China claims is part of the People’s Republic of China, which controversially purchased arms from the United States in March 2010. Mr. Xi urged the United States not to support either Tibet’s or Taiwan’s efforts to gain independence.

On a lighter note, Mr. Xi did acknowledge the strong economic ties between the U.S. and China, noting that trade between the two countries was expected to grow to $500 billion by the end of this year. He also noted that China is the United States’ fastest growing export market, despite the United States’ trade deficit with China reaching a record $295.5 million in 2011.

Mr. Xi’s speech came one day after Vice President Biden addressed Mr. Xi and business and political leaders in Washington. Mr. Biden told the leaders that China needs to: (1) lower trade barriers, including ending subsidies for its manufacturing industry so that China does not have a competitive advantage in the global marketplace; (2) allow its currency to appreciate so that Chinese exports are priced more competitively with American goods; and (3) enforce intellectual property laws to stop Chinese companies from exploiting the advances of U.S. technology companies.

Although no one knows for certain how Mr. Xi’s presidency will change China–U.S. relations, some are hopeful that his familiarity with the United States will usher in a more cordial relationship between the countries. Mr. Xi spent time in the U.S. early in his political career, his daughter attended Harvard University, and he regularly deals with U.S. officials and business leaders, giving him more interaction with the U.S. than any prior Chinese president.

Europe Seeks Chinese Support

NYT: China Considers Offering Aid in Europe’s Debt Crisis
Spiegel: Merkel Seeks Euro Zone Investments from Beijing
WSJ: Wen Rejects Fears China Is Out to 'Buy' Europe

Last week, during her visit to China, German Chancellor Angela Merkel sought to persuade the Chinese government to increase its investment in Europe. China has approximately $3.18 trillion in foreign exchange reserves, putting the country in a strong financial position to make significant contributions to help alleviate the European debt crisis. European leaders want China to purchase bonds from economically weaker countries in the Eurozone. An increase in Chinese bond purchases could help restore investors’ confidence in Europe as it would signal that a financial powerhouse (China) believes that European leaders are on the right path to overcoming the crisis. China already has been acquiring bonds from the economically stronger European countries.

Chinese officials are currently examining whether the country should increase its participation in Europe by investing in the region’s two rescue funds—the existing European Financial Stability Facility and the newly created European Stability Mechanism. In addition, Prime Minister Wen Jiabao also stated that China is considering working with the International Monetary Fund (IMF) to channel contributions to Europe. In other words, China would lend funds to the IMF, which in turn would relend the money to European countries in need. This lending scheme would effectively transfer a significant portion of the risk of any European debt default to the IMF—allowing China to shield itself from the risk of lending to unstable European economies. It would not be the first time countries have used such a lending approach to aid Europe. In December 2011, Russia lent the IMF $20 billion to assist Europe, while Britain is also currently considering sending more money to the organization to help with the region’s troubles. Lending through the IMF is attractive to these countries because of the conditionality and oversight powers of the institution. An IMF loan is provided under an “arrangement” which specifies conditions and measures that the country must implement to receive the entire loan. The country receives the loan in installments and the IMF oversees the implementation of the conditions before each installment is disbursed. Thus, the IMF ensures that European countries are implementing the necessary measures to combat the crisis.

It is in China’s best interest to help Europe overcome the debt crisis. Europe is China’s largest export market and China imports the vast majority of its technology from Europe. However, due to the European crisis, Chinese exports have decreased. As instability in Europe worsens, the demand for Chinese goods will continue to decrease with consumers further cutting down on spending. Lower demand will in turn negatively affect the Chinese economy—which relies heavily on exports to Europe. Thus, by aiding Europe in its debt crisis, China is also helping its own economy by maintaining a stable import and export sector.

Tensions Rise Between Hong Kong and Mainland China

Sources:

BBC: Surge in Anti-China Sentiment in Hong Kong

FT: Hong Kong Rages at Wave of Pregnant Chinese

WSJ: Hong Kong-Mainland Tiffs Worry Beijing

Hong Kong residents are growing wary of the increasing numbers of mainland Chinese some of whom are travelling to the island for tourism, and some to take advantage of Hong Kong’s social programs. The number of mainland Chinese travelling to Hong Kong peaked at twenty-eight million in 2011—an amount four times the Hong Kong population of seven million—and anti-Chinese sentiment has culminated in a group of Hong Kong residents raising money to publish a full-page color advertisement in a Hong Kong paper depicting Chinese tourists as a locust overlooking the Hong Kong skyline. Moreover, the number of Hong Kong residents identifying themselves as Chinese fell to 16.6% in 2011—a twelve-year low—down from 38.6% in 2009.

Hong Kong passed from British colonial rule to Chinese control in 1997, and has been operated under a “one country, two systems” policy. Under this policy, Hong Kong is free to determine its own internal affairs, but Beijing controls Hong Kong’s foreign and defense policies. In 1997, Hong Kong residents mostly welcomed the transition as it ended 150 years of British rule and rescued Hong Kong’s struggling economy by opening its borders for increased trade with China. While Hong Kong still generally benefits from trade with China, travel to Hong Kong—primarily from some of mainland China’s wealthiest residents—has increased tension between the mainlanders and Hong Kong residents, as well as the Hong Kong government and Beijing.

Many mainlanders go to Hong Kong to shop for luxury goods because there is no sales tax. In many of Hong Kong’s shopping districts, the mainland Mandarin dialect is heard more often than the local Cantonese dialect, and Hong Kong residents are becoming resentful of seeing the conspicuous consumption of mainlanders who thirty years ago Hong Kong residents viewed as country folk. In January, this resentment came to a head when Hong Kong residents protested and forced a luxury store (Dolce & Gabanna) to close after hearing it permitted mainland tourists to take pictures in front of the store but not local residents.

This relatively minor episode highlights Hong Kong residents’ concerns that mainland Chinese are getting special treatment in Hong Kong in more important ways. Increased wealth, coupled with China’s one-child policy (which is not in effect in Hong Kong), has led a surge in birth tourism (mainland Chinese traveling to Hong Kong to give birth). If a child is born in Hong Kong, the child automatically receives the right to live and work in Hong Kong, carry a Hong Kong passport that eases international travel, access Hong Kong’s health-care system, and twelve years of free education. Over the past ten years, the number of newborns of mainland parents has risen from about 700 in 2000 to over 34,000 in 2011, or 38% of the newborns in the city.

Hong Kong residents complain that mainland Chinese are able to take advantage of the social programs that Hong Kong residents have built through hard work, without contributing to the funding of the social programs themselves. The Hong Kong government worries about access to schools and hospitals, and has already taken action to reduce the quota of hospital beds allocated to non-local mothers to 34,000 annually. In response, Chinese officials in Beijing have assured Hong Kong residents that it will ramp up its efforts to curb mothers travelling to Hong Kong to give birth by imposing heavy fines on those who skirt China’s one-child policy by travelling to Hong Kong.

These ongoing tensions between Hong Kong and Beijing will become more important in the coming years as Hong Kong braces for its first democratic election in 2017. If Hong Kong residents remain resentful of mainland China, it could boost a political party hostile to Beijing’s interests into power and threaten relations between Hong Kong and Beijing.

The IMF’s Assessment of the Chinese Financial Sector

Sources:
Bloomberg: IMF Sees 'Buildup' of China Bank Risk Needing More Oversight
Hindustan Times: China's Financial System Vulnerable, Warns IMF
The Independent: IMF Alert on Banks Adds to Fears About Dangers in China
Irish Times: IMF Warns China Must Relax Grip on Banks and Rates
NYT: IMF Warns China on State Control of Banking
Xinhau Net: IMF Reports on China's Financial System "Generally Objective": PCOB

The International Monetary Fund (IMF) recently completed its inaugural evaluation of the Chinese financial sector as part of the IMF’s periodic look at the twenty-five most important economies in the world. While the report found that China’s financial sector is sound, it also noted several vulnerabilities that need to be addressed and reforms that need to occur.

The report identified many things the Chinese financial sector is doing well, including a trend towards policies the IMF favors. Among these strengths is the Chinese Government’s trend away from state-controlled economic decisions towards a regime where market forces have a greater effect on the economy’s direction. The IMF also applauded China’s increased legal regulation and additional safeguards placed on the financial market, such as interest and exchange rate reforms. Despite the positive movements, the IMF warned that additional regulations are still required.

Chief among IMF concerns is the lack of risk management and regulation in the financial sector, which makes the country vulnerable to asset bubbles, especially within the housing market. Adding to this problem is the artificially low interest rate set by the Chinese Government through the People’s Bank of China. The artificially low interest rates have resulted in increased loans to Chinese citizens giving them more access to money. The increased availability of capital has increased consumer demand, which leads to higher prices in many markets, especially the housing market. This bubble will likely burst when interest rates for consumer loans increase because fewer people will be able to afford the higher loan payments associated with higher interest. Demand for houses will then decrease based on a reduction of potential buyers, and ultimately the price of houses will fall. The IMF is also concerned that extending credit to Chinese consumers will result in loans to less credit-worthy individuals who have a higher chance of default.

The Chinese financial sector also suffers from “shadow banking,” which is unregulated and lightly supervised distributions of capital that occur outside the formal financial market. These transactions, which the Chinese Government cannot adequately track or tax, can lead to financially risky investment decisions that the Government is not aware of and, therefore, cannot prevent or later correct. China also needs to improve its financial accounting oversight system to recognize and proactively stop accounting scandals. Finally, the IMF is concerned that China’s banking system favors state-owned companies over private and foreign corporations by giving Chinese companies easier access to capital—often at lower interest rates. The sum of the above problems has led to inefficiencies in the Chinese financial market.

According to the IMF, China should address these issues by first increasing privatization of the banking system, which the IMF believes will allow the financial sector to react to market trends faster and make more efficient capital allocation decisions. China is likely to retain more state control than the IMF would prefer, however, as state control is the basis of the Chinese financial model. This belief is furthered by China’s relatively successful past operation of state-run companies.

China’s response to the IMF report stated that it believes the report is objective and generally positive, but that the suggested timelines and priorities of certain projects do not reflect the reality of the Chinese economy. As China’s economy continues to move forward, many investors and countries will be following whether China implements the IMF’s recommendations.

Countries in Asia Prepare for European Debt Crisis Fallout

Sources:

Agence France-Presse: Asian Countries Cut Rates amid Global Economic Woe

FT: Indonesia Slashes Interest Rates by 50 Basis Points

WSJ: Asia—Pacific Economies Gird for Turbulence

WSJ: Some Asian Economies Reflect Strains

Countries throughout Asia and the South Pacific have responded to the European debt crisis and waning global demand by lowering their benchmark interest rates. Australia, China, Indonesia, Pakistan, and Thailand have all decreased benchmark interest rates in recent months, and Malaysia, New Zealand, Singapore, and South Korea are considering other policies to inject more money into their economies.

The use of monetary policy to spur spending and economic growth represents a shift in policy for many of these countries. In recent years, these countries have experienced robust economic growth and have been primarily concerned with curbing high inflation. This concern has led them to maintain high interest rates to decrease the money supply—and thereby inflation—by making saving more attractive and borrowing more expensive. However, the once-rising inflation rate is now falling in many of these countries and economic growth has also decreased. It is this reversal in growth that has convinced many of the countries to change course.

The benchmark interest rate is the rate of return on new government-issued bonds. In theory, lowering the benchmark interest rate can decrease the value of a country’s currency and spur its export industries, which is an effective way to generate economic growth. For example, if Indonesia lowers its benchmark interest rate, demand for Indonesian bonds will fall because they are not as profitable as before. Since investors use the Indonesian currency (rupiah) to buy government bonds, when demand for the bonds falls so does demand for the currency, which lowers its value in accordance with supply and demand principles. If the rupiah costs less on the foreign exchange market, it will be cheaper for businesses in the United States, for example, to buy the rupiah required to pay Indonesian manufacturers for their goods. The lower currency value will, therefore, jumpstart Indonesian export industries and generate economic growth.

A lower benchmark interest rate also has an effect domestically. When interest rates are lower, saving is less attractive and borrowing is cheaper, which encourages people to spend their money rather than save it. The additional spending increases overall demand and economic growth.

Some analysts question whether policies aimed at increasing economic growth at the risk of increased inflation are necessary. Although economic growth rates have fallen of late, a recent Asian Development Bank report indicated that Asian countries are still on pace for 7.5% growth in 2011. These analysts believe that this level of growth is appropriate given the global economic downturn, and think that preventing the potentially destabilizing effects of inflation on food and commodity prices should be the countries’ priority.

Whether this policy shift represents a temporary response to worsening conditions in Europe or a more prolonged transformation of Asian monetary policy remains to be seen. There is no doubt, however, that Asia’s path forward will be closely observed and scrutinized by the global community.

Minimum Wage and Labor Costs Rise in China

Sources:
BBC: China Minimum Wage Up by 21.7% Despite Economic Cooling
Bloomberg Businessweek: China Had Best Third-Quarter Urban Job Creation in Years
FT: China Labour Costs Soar as Wages Rise 22%
People’s Daily: 21 Regions Across In China Raise Minimum Wage

The minimum wage in twenty-one of China’s thirty-one provinces has increased by an average of 22% in 2011, according to a recent government report. This increase comes on the heels of similar minimum wage increases over the past two years.

The rising minimum wage has been primarily driven by government policy. At the provincial level, twenty-five of China’s thirty-one provinces aim to increase the minimum wage by 14% annually. Nationally, the government’s Five-Year Plan (2011-2015) targets a minimum wage increase of 13% annually. Both policies aim to decrease inequality while increasing domestic demand for Chinese goods.

China’s economic growth over the past three decades has been heavily dependent on exporting manufactured goods to Western countries. The global recession, however, has decreased demand for China’s exports and has slowed China’s overall economic growth rate. Although the Chinese economy grew by 9.1% during the third quarter of 2011, this was the lowest growth rate in over two years. Chinese officials hope that an increased minimum wage will boost domestic spending which will help to offset lower exports across the globe by expanding the market for those products at home.

Another objective of China’s minimum wage policy is to push manufacturers toward producing higher-end goods (e.g., cars and computers), which will enable China to better compete with global economic leaders. The theory is that manufacturers will not be able to earn enough money selling lower-end items (e.g., clothes and toys) to cover the increased wages, which will encourage them to produce higher-end (and higher profit) products to cover the additional costs. With a larger profit margin, the manufacturers could pay higher wages while still retaining a profit similar to that which they made while manufacturing low-end goods and paying lower wages.

Market forces have also played a role in increasing China’s wages. An increasing number of China’s young adults are college graduates and are either reluctant or unwilling to work in the country’s manufacturing industry. This has led to a labor shortage that forces manufacturers to offer higher wages to attract workers because of supply and demand principles. Still, increased wages in the manufacturing industry have not attracted the 6 million annual university graduates, who are struggling to find skill-appropriate jobs.

Although many Chinese workers have benefited from higher wages, some Chinese are skeptical of the country’s policies. Already, many smaller companies have felt the pressures of increasing labor costs and have sought financial support from banks and government to avoid bankruptcy. Furthermore, the higher cost of labor has contributed to the decline of China’s export industries while other countries with lower minimum wages—in particular Bangladesh, Vietnam, and Indonesia—have cut into China’s market share. Some experts also worry that rising minimum wages have contributed to a three-year high inflation rate. Higher wages can cause inflation if manufacturers pass their increased production cost (in this case, higher labor costs) onto consumers in the form of higher prices. Likewise, increased wages create more consumers to buy the same amount of goods, which pushes prices up—again due to supply and demand principles.

The wisdom of China’s decision to rapidly increase its minimum wage is debatable, but with minimum wage increases of at least 13% planned for the next 4 years, the Chinese people will soon be able to evaluate the results.

China’s New Marriage Law Interpretation: One Step Forward or Two Steps Back?

Sources:

Asian Correspondent: New Marriage Law Sparks Debate in China

China Digital Times: China’s New Marriage Law May Exacerbate Gender Wealth Gap

Finance Asia: China’s New Marriage Law Set to Stoke Home Sales

NYT: Chinese Law Could Make Divorced Women Hopeless

Sydney Morning Herald: China Hits Hip Pocket in a Blitz on Divorce

Times of India: In China, Wife Loses Right to Property After Divorce

On August 13, China’s Supreme People’s Court changed its interpretation of China’s marriage law and shattered China’s traditional notion of marriage. Before the ruling, divorced couples split their property evenly, unless either had committed bigamy, domestic violence, abandoned the family, or lived with a lover for more than three months. Under the new interpretation, the person whose name is on the deed will receive the property. The ruling has the potential to have an enormous effect on gender-based wealth-distribution in the country, as Chinese tradition dictates that the groom-to-be should provide housing for the couple. Because the man has to bring property to the marriage, his name is already on the deed. Unless he agrees to add his new wife’s name to the deed, he will now receive the property if they divorce.

The Supreme People’s Court’s ruling came in response to Chinese women’s growing emphasis on material wealth in choosing a husband. Real estate prices have risen 500% since 2000 in some parts of China, which has made it more difficult for young men to afford housing and become truly eligible bachelors. Many observers speculate that the increased importance of finances in courtships led to a recent dramatic increase in divorces, as women have been more willing to marry the few men that actually own property regardless of whether those men will make good husbands. The new interpretation is supposed to encourage women to seek husbands based on love, not money, and thus preserve what the Court sees as an important cultural value.

Not surprisingly, the reaction to the Court’s ruling has been mixed. After the ruling, many couples have taken measures to add the woman’s name to property titles. Some observers say that the move is proof that the ruling encourages marital equality while also encouraging women’s financial independence. Many women’s rights groups, however, say that the ruling is a huge hit to gender equality. Marriage experts believe that the ruling will do little to change the tradition of keeping deeds in the man’s name, meaning the investment the wife makes in the marital home – whether monetary or otherwise – will be valueless if the couple divorces. Some critics have even gone so far as to suggest that the ruling strips women of their right to divorce their husbands, as they would risk losing everything. At the same time, the threat of the wife being left penniless after a divorce may be unsettling enough to cause marital problems even among otherwise happily married couples.

Only time will tell what effect the Supreme People’s Court’s ruling will have on gender equality in China. Real estate experts in the country have noted an increase in the number of women buying homes, a trend that suggests the ruling has increased women’s desire to be financially independent. Because women will often receive no assets after a divorce, the ruling may encourage more women to enter the workforce as a way of ensuring their own financial stability. If that were the case, these newly employed women could become a new class of consumers that could help China grow economically by increasing domestic consumption and demand for goods – a change the government thinks is necessary to help China move away from its dependence on exports. Needless to say, the ruling’s effects could go far beyond the divorce rate.

China in Win-Win Position as Europe Nears Collapse

Sources:

Bloomberg: China Willing to Buy Bonds From Crisis Nations: Zhang

Bloomberg: Yuan Advances on China’s Resilience, Easing Europe Debt Crisis

Bloomberg Businessweek: China must Avoid Lending to ‘Troubled Nations, Yu Yongding Says

Business Insider: What China Really Hopes to Get in Exchange for a European Bailout

CNBC: Is China Headed for a Crash? Not Yet, Say Observers

FT: Wen Sets Preconditions to help Europe

NYT: China Ties Aiding Europe to Its Own Trade Goals

The Telegraph: China Warns Eurozone Leaders ‘Get Your House in Order’

Voice of America: China Renews Calls For Western Governments to Cut Deficits

The urgent need of a growing number of European countries has put China in a position to gain financially and politically. Chinese Premier Wen Jiabao and National Development and Reform Commission Vice Chairman Zhang Xiaogiang recently stated that China is open to buying bonds from European nations facing sovereign debt crises including Italy, Spain, Greece, and Portugal. Zhang believes that increased global coordination is necessary to prevent the global economy from sinking into a second recession. Nevertheless, China urged the U.S., Europe, and Japan to address their debt and deficit problems instead of relying on China to bail them out.

Each day Europe looks closer to needing external financial support. Greece is nearing default. French banks have invested heavily in Greece, meaning if Greece defaults, France’s banks will face catastrophic losses. Ireland, Portugal, Italy, and Spain are all facing debt crises thanks, in part, to their close financial ties with Greece and each other. Without corrective action, the debt crisis is likely to spread to other European countries. A large scale European default would devastate Europe’s trade partners, specifically China, which is one of the EU’s largest trading partners. China can help Europe avoid such a doomsday scenario by buying bonds from countries in need, thereby providing them with the cash they need to continue to pay their debts.

Though helping Europe during its economic struggles is China’s main objective, China itself could benefit economically from buying European bonds. China’s economy has grown by an average of nine percent per year since 2008 in the face of a global recession. Growth is good, but some economists believe that China is growing too quickly. By buying European bonds, China could slow its domestic growth by investing its excess capital (money) overseas instead of using it to push domestic growth. Slowing growth would relieve some of the inflationary pressure that threatens China’s entire economy by making its exports more expensive and, therefore, less competitive globally. The shift could delay China’s goal of transitioning from an export-based economy to a more sustainable economy based on domestic consumption, but only temporarily.

Buying European bonds may also help increase China’s exports by opening new markets. In return for its support of Europe, China wants the European Union (EU) to recognize China as a “market economy” immediately. Currently, China is classified as a “non-market economy” under the World Trade Organization’s definition, which has significant trade and legal implications under WTO rules. The WTO defines market economies as economies in which prices are determined by the forces of supply and demand. Because the EU does not recognize China as a market economy, WTO rules allow EU countries to place tariffs on Chinese goods, nearly doubling the cost of those goods and making them less competitive in the EU. The tariffs allow the EU to protect its own industries that would not otherwise be able to compete with China’s low production costs. The WTO will require all member countries to recognize China as a market economy by 2016, so the EU’s refusal would only serve to delay the inevitable. However, if the EU agrees to China’s demand, the cost of China’s exports to the EU would fall overnight, likely resulting in increased export revenue. With such large potential benefits, it is easy to understand why China is open to the idea of helping Europe.

China Emerges as Latin America’s Biggest Trade Partner

Sources:
FT: New Trade Routes: Latin America
FT: China demand drives road and rail traffic
China Daily: China to Increase Trade with Latin America

Over the past decade, Latin America has been hard at work focusing on infrastructure and promoting trade with some of the world’s fastest growing economies in an effort to shed the image of financial instability that marked the region in the 1990s. Fortunately, the effort has paid off as poverty is diminishing in many Latin America countries and the middle class is increasing, all largely in part due to the vast expansion of commodity-based trade.

One of Latin America’s biggest trade partners is China. The fast growth of the Chinese economy has increased demand for many Latin America commodities such as Argentine soya, Brazilian iron ore, Chilean copper, and Peruvian gold. Trade between Latin America and China has increased tremendously in the past ten years. For instance, in 1999, trade between the two regions totaled $8 billion. However, by 2009, this total had increased by sixteen times to $130 billion.

The Chinese government is especially supportive of the trade partnership as it encourages more Chinese businesses to invest in Brazil, Peru, and other Latin American countries in an effort to induce these countries to export more goods to China. Likewise, China has also signed free trade agreements with Chile, Peru, and Costa Rica, and is the largest importer of goods and services from Brazil and Chile. Out of all the Latin American countries, Brazil is by far the largest trading partner China has in the region. In 2010, the value of trade between the two countries increased by 47.5% from the year before, totaling $62.5 billion.

The main commodities China imports from Latin American countries include agricultural products, minerals, copper, and other raw materials. In turn, China exports electronic goods, machinery, garments, and shoes to Latin America. Equally important is that Latin America has become the second-largest destination for much of Chinese direct investment. Although, the majority of this investment goes only to certain countries such as Brazil, Peru, Venezuela, Mexico, and Argentina, the investment of Chinese companies is increasingly creating many business opportunities all throughout the Latin America region.

Banks in Hong Kong Told To Conduct Stress Tests

Sources:
Bloomberg: Hong Kong Banks Told To Hold Stress Tests Assuming $89 Billion In Outflows
ChinaDaily: HKAB: Banks May Slow Credit Growth
FT: Hong Kong Tests Banks’ Ability To Survive Outflows
Market Watch: Hong Kong Banks Asked to Conduct Stress Tests

Hong Kong banks will conduct another stress test to see whether they could withstand capital outflows of HK$650 billion ($83.52 billion) in customer deposits. Since late 2008, the amount of deposits in Hong Kong banks has grown rapidly by HK$1.38 trillion ($177 billion). As liquidity is tightening and the United States may soon raise interest rates, the Hong Kong Monetary Authority (HKMA), the de facto central bank, requested banks to test whether they could survive if customers withdrew half of such new deposits in six to twelve months. “When the US ends its quantitative easing, monetary policy and global liquidity will tighten, and this may cause more fund outflows in Hong Kong,” said Paul Lee, an analyst at Haitong International Group.

The request for stress tests reflects the HKMA’s concerns about the health of Hong Kong banks as banks have rapidly expanded lending. Loans have grown by 30 percent from January to March this year. The loan growth has also driven the loan-to-deposit ratio up from 71 percent to 81.7 percent in a year since early 2010. In the case of smaller banks, the loan-to-deposit ratio has grown up to 90 to 100 percent. High interest rates in mainland China has contributed to the loan growth in Hong Kong banks as more Chinese firms have borrowed loans from Hong Kong banks at lower interest rates. The central bank in China has increased interest rates four times since last October in an attempt to control inflation and reduce loan growth. It also has raised reserve requirements eight times during the same period.

It is notable that recently, the portions of renminbi deposits and loans in US dollars in Hong Kong banks have surged, reflecting the expectation that the value of the renminbi will likely go up against the US dollar in the future. During the last two quarters, renminbi deposits have increased three times up to 452 billion yuan ($69 billion). Loans in foreign currency, mostly in US dollars, have increased by 54 percent during the first quarter this year.

The HKMA will receive the test results from banks in a month. While some predict that banks that fail the test will reduce lending, others say that the test results will not immediately change banks’ lending policy as the bank’s “risk management policy, regulatory requirements and the cost of capital of different banks” determines the banks' lending criteria.

China and Uzbekistan Agree to Trade Deals

FT: China-Uzbekistan: Gas diplomacy
Hu Jintao Holds Talks with Uzbek Counterpart
Bloomberg: China Supports Uzbek Gas Pipe to Boost Central Asia Deliveries
Central Asian Newswire: Uzbekistan, China Agree to $5B in Joint Projects

Uzbekistan President Islam Karimov traveled to China to meet with Chinese President Hu Jintao to discuss a series of business and trade agreements. The two leaders signed on to over 25 separate projects totaling $5 billion of Chinese investment in Uzbekistan. The deal includes $1.5 billion in the form of loans to Uzbek banks in order to finance joint investment projects such as transportation and chemical production projects.

The bilateral cooperative agreements will build on the already growing relationship between China and Central Asia. Beyond financial agreements, the two nations agreed to increase trade in technology, communication and enhance cooperation in social programs focusing on culture, education, sports, tourism and environmental protection. The two countries will also work to improve Uzbekistan’s infrastructure and diversify imports and exports. The deal includes a commitment from Uzbekistan to provide 25 billion cubic meters of natural gas per year to China, which is more than twice what the two nations had previously agreed upon and more than one third of Uzbekistan’s current total gas production. The high promised output may be a challenge for Uzbekistan, but the investment gains should accommodate the increase in output. In return, China’s loan will be partially invested in building a China-Uzbekistan natural gas pipeline alongside existing pipelines running from Turkmenistan to China.

China continues to look for energy providers in the region after rejecting, due to cost, an offer from Russia to provide all of China’s gas needs. China has been developing its energy partnership with Central Asia since 2009. Both parties benefit from reducing Russia’s monopoly in the energy market. With more competition in the gas market, Russia will find it harder to increase its market share in China. Russia will also continue to lose its leverage to charge inflated prices to China or undercut the Central Asian countries when purchasing their energy resources. The result will be more favorable prices for both China and Central Asia. The energy deal was accompanied by several diplomatic agreements. The nations vowed to increase cooperation in regional security, calling on both nations to fight extremism and separatism, as well as organized crime. The breadth of the two countries’ talks signals a developing regional attitude. This attitude may be based on energy policy but extends to a deeper social and financial cooperation that can only increase with China’s rising energy needs and commitment to regional infrastructure projects.