Transcript China

NS4054
Fall Term 2015
China Scenarios
Background: Emerging Market Crisis I
• Experts disagree about whether China faces a hard
landing, but emerging markets pose a growing risk to the
global economy
• Global markets very jittery now
• August 11, 2015, Chinese currency devaluation rattled
global markets
• Since that time Chinese yuan has weakened – then
strengthened with government support
• Currency now just 2.5% lower than in August
• Global stock markets have had much bigger changes
• Dow Jones Industrial Average down 6.5%
• Shanghai Composite Index down 22%
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Background: Emerging Market Crisis II
• Crisis reflects long-standing concerns over Chinese
economy including
• Overinvestment and excess capacity in manufacturing,
• Real estate and stock market bubbles fueled by easy money and
leverage and
• An incomplete reform process that failed to place hard budget
constraints on state enterprises
• The initial policy response by government was chaotic and
opaque
• So those predicting a hard land landing have some
support for their assessment
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China: What Kind of Landing?
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Background: Emerging Market Crisis III
China’s Growth Story
• IMF forecasts China’s growth rate at 6.8% (2015) and
6.3% for 2016 well below government's 7.0%
• This is well above many private forecasts
• High forecast based on several assumptions
• First, the nearly double digit growth in services and retail
sales will continue– confirming the rebalancing is
occurring
• Second, policy will be better coordinated and
communicated going forward
• Also monetary and fiscal stimulus will provide meaningful
support to activity later this year
• Third the sharp slowdown in manufacturing will not
cascade to the broader economy
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Background: Emerging Market Crisis IV
• Most likely the truth in China lies somewhere between
hard landing and muddle through scenarios
• Other indicators of growth including sales, energy consumption
and international trade tell a mixed story
• Many forecasters have marked down their China
forecasts – but still room for optimism
• What happens in China will have a significant impact on
many commodity exporters
• Strong growth in Chinese services and a jobs supporting
government stimulus package will not help commodity exporters
• Slow-down already being felt in Australia, Brazil and Argentina
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Background: Emerging Market Crisis V
• In countries where policies have been weak, markets
have been brutal
• In Brazil which is also experiencing a political crisis, currency
down 30% against the dollar since July
• Other countries such as South Africa and Indonesia also face
significant currency pressures
• Even greater risks come from financial contagion
• There has been a rapid buildup in corporate debt and warnings
of a banking crisis as a result of rapid credit growth in some
emerging markets.
• Nonbank corporate debt has increased 500% over past decade
to $23.7 trillion or around 90% of the GDP of these countries
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Rising EM Debt Levels
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Background: Emerging Market Crisis VI
• Corporate debt defaults weigh directly on economic
growth and can damage balance sheets of banks and the
countries that stand behind the banks
• Much of this debt is linked to trade with China and
• Falling profits as well as
• Losses that could result from added currency volatility which is
likely to dramatically add to burden of servicing this debt
• Could create financial distress throughout the emerging
world
• Could lead to deflationary pressures which in turn would
depress returns on investment
• Some worried that situation is similar to the collapse of
2008
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Background: Emerging Market Crisis VII
• On top of these concerns the most striking change in the
IMF’s outlook is an increased concern over the
• Sharp downward revision to the long-term growth prospects for
emerging markets
• End of the commodity super-cycle and
• A reversal of capital inflows
• Signals a period of lower investment and weaker fiscal
positions
• Results in reduced capacity to support growth
• Many cases optimism that existed following 2008-09
recession that emerging countries would rapidly see
incomes converging with advanced industrial counties is
gone.
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Background: Emerging Market Crisis VIII
• For the United States fragility in emerging markets is the
critical risk
• By itself, softer Chinese growth and the 2.5% decline in the yuan
since August 11 would only reduce growth by 0.1 or 0.2%
• However if other countries depreciate their own currencies
against the dollar in response to pressures the broad based
appreciation of the dollar could be significant
• Rough rule of thumb is that a 10% move in the traded weighted
dollar reduces U.S. GDP by around 0.5% after a year
• Risks appear to have been an important factor in the
Federal Reserve September decision to delay raising
interest rates from zero
• Situation not likely to change anytime soon
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Currency Depreciation in Emerging Markets
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EM Country Vulnearabilities
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Policy Environment
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China: Main Trends I
• Commission on Energy and Geopolitics, Oil Security
2025, Sub-Saharan Africa Scenarios
• China facts
• China already the world’s second largest oil consumer
• Even low to moderate levels of economic growth will spur
continued Chinese oil demand growth
• Will be underpinned by the transportation sector and
• Consumer mobility demand
• Between 2000 and 2009 the transportation sector
accounted for 60% of China’s oil demand growth
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Changing Global Oil Demand
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Forecast: Oil Demand 2035
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China: Main Trends II
• Trend likely to increase as vehicle ownership increases
• In 2008 there were only 37 vehicles per 1,000 persons
compared to nearly 800 in the US
• By 2035 the Chinese vehicle ownership rate projected to
increase four-fold
• In 2010 China passed the US as the largest market for
passenger vehicles
• To counteract the growing oil demand and the possibility
of physical supply disruptions China has pushed to
increase oil production
• Production increased from 3.3 mbd in 2000 to 4.2mbd in 2012
• Increases have come largely from enhanced extraction and
recovery at mature fields.
• China not a top five oil producer behind Saudi Arabia, Russia
and the United States
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China: Main Trends III
• Increases in domestic demand are expected to continue
vastly outpacing domestic supply
• Development of new resources both within and outside
China considered an important national priority
• Domestic possibilities are challenging
• China has proposed to produce in the East China Sea
• Contains an estimated 60 to 100 million barrels of oil, and
• One to two trillion cubic feet of natural gas
• Some of this territory also claimed by Japan
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China: Main Trends IV
• The South China Sea is another potential source of new
oil
• Estimated to hold 11 billion barrels of oil and 190 trillion feet of
natural gas reserves
• Similarly claimed by several Southeast Asian countries
• Development of domestic shale resources
• Estimated at 32.2 billion barrels of undeveloped, technologically
available oil and 1,115 trillion cubic feet of gas
• Faces significant coat and logistical challenges
• Remains a longer prospect
• However have 1,2000 drilling rigs more than any country besides
the U.S.
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China: Main Trends V
• Imports
• As a result of flattening oil production and booming
demand imports increasing rapidly
• Were more than 6 mbd by end of 2012,
• Accounted for 56% of consumption over the year
• By 2035 China could import more than 75% of its oil
• Political instability in the Middle East and Africa and
potential for supply disruption
• Prompted China to seek to diversify its sources of imports
• An additional 17% originated from Russia, and
• 15% from sub-Saharan Africa
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China: Main Trends VI
• China also promotes exploration and development
through its NOCs
• Purchased equity stakes in energy companies in 31
countries – Middle East, North Africa, Latin America, subSaharan Africa and Asia.
• Investments in overseas oil and gas assets in 2011 topped $18
billion
• Overseas equity oil production reached 1.5 mbd.
• China also provided resource backed development loans
to major oil producing countries including
• Russia, Kazakhstan, Venezuela, Brazil and Angola
• Deals totaled about $100 billion since 2008
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China: Main Trends VII
• Oil-for-loan deal between China and Venezuela
guaranteed $32 billion in exchange for 430,000 barrels
per day of oil
• Chinese access to Canadian oil sands assured by
• Recent $15 billion takeover of Canadian company Nexen
• Also smaller investments in Canadian oil resources
• China currently building up a strategic oil reserve
expected to hold 500 million barrels by 2020
• Country’s commercial stockpiles are
• between 170 and 300 million barrels of crude oil and
• 400 million barrels of refined products as of 2010
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China: Main Trends VIII
• Other areas
• China has been greatest obstacle to efforts to increase
economic pressure on Iran over its nuclear activates
• Rising U.S. oil production providing China more supply
options to meet growing demand
• Nigeria and other oil exporters already turning east with
China and India most promising
• However due to new refining capacity brought online
since 2006, Chinese refiners currently prefer sweet,
medium, diesel rich crudes over the light types
commonly found in Africa
• A potential influx of U.S. shale technology and knowhow
could also aid China develop its own resurces in the
longer term
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China: Main Trends IX
• Main Trends
• Trend I
• China’s demand for oil as well as other sources of energy
will continue to grow at a dramatic pace
• Solidifying the country’s recent role as the most
important demand-side factor globally
• China leads world demand growth
• By increasing by about 50% to 14.7 mbd (baseline) or
16.5 mbd (high)
• Increase should be around 40% of the increase in global
demand.
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China: Main Trends X
• Trend 2
• China’s increasing demand for oil will far outstrip
domestic production leaving it much more reliant on
imports and strengthening the focus on
• Import diversification,
• Foreign engagement, and
• Investments in efficiency improvements and other fuels
• By 2015 China as well as India and Southeast Asia are
forecast to import more than 75% of their oil needs
• Increase from 60% in 2013
• China’s overseas efforts to secure oil supplies via longterm contracts, investments, and loan for oil deals will
only intensify
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Scenario Assumptions
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China: Scenarios I
• The Four Scenarios
• In each scenario, China is a major driver of global oil
demand growth.
• Although China will make efforts to
• further exploit domestic resources including shale, and
• diversify its sources of oil abroad
• Country will remain increasingly reliant on imports from
the Middle East
• Particularly true in the Flush and Hypergrowth scenarios when
the Middle East producers account for the majority of global
production growth.
• China’s reliance on imports will also damage its trade
balance creating tension as China must simultaneously
rely on exports revenue and shift to an economy more
focused on the domestic economy.
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China: Scenarios I
• Scenario A Reference -- baseline demand/constraind
supply
• With slower Middle East oil production growth, China
sources more oil from Sub-Saharan Africa, South
America and other locations
• China’s constrained oil demand growth at a time of
relatively stagnant Western demand leads oil-exporting
nations to court China as a long-term customer
• China continues to encourage the adoption of alternative
transportation fuels and other policies to reduce oil
demand
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China: Scenarios I
• Scenario B Flush– Baseline Demand, Abundant Supply
• Although China increases its consumption of Middle East
oil, the increases in supply provide it more flexibility to
source oil from other locations.
• Abundant oil supplies and lower oil prices allow China to
strike more favorable deals and improve import diversity
• China likely decreases purchases of Iranian oil if
international sanctions persist.
• Diminished urgency for China’s efforts to foster greater
energy efficiency in the transportation sector
• China’s trade balance is improved due to lower oil prices,
despite continued strong oil demand.
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China: Scenarios II
• Scenario C Grind High demand/constrained supply
• With slower Middle East oil production growth, China
sources more oil from sum-Saharan Africa, South
America and other locations
• Despite improved prospects for development of shale,
the additional demand over the Reference Scenario
means even deeper reliance on imports
• Higher global prices increase competition for investment
opportunities abroad.
• China strongly incentivizes improvements in
transportation sector fuel efficiency and development
and use of alternative transportation fuels
• Higher oil prices and high levels of oil demand negatively
impact China’s trade balance
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China: Scenarios III
• Scenario D hyper growth – abundant supply/high demand
• China’s reliance on Middle East oil increases
substantially
• Despite continued investments to diversify import
sources – due to higher domestic demand than in the
Flush Scenario
• The additional demand over the Flush Scenario results in
even deeper reliance on imports
• China’s role as the world’s largest importer and biggest
contributor to global oil demand growth make it a highly
sought after customer
• Lower oil pries result in less drag on the trade balance
than the Grind Scenario
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China: Flashpoints I
Flashpoint I
• Increasingly vulnerable to oil supply disruptions, China
could grow more assertive as a global power
• China projected to become increasingly reliant on oil
imports
• So far China has pursued a “no strings attached” policy
• Minimal attempts to turn its foreign investments into influence
and
• Traditionally has only used its armed forces to defend its territory
and regional interests
• China is developing armed forces with more global reach
• China’s actions likely to be most assertive when their oil
demands are greatest
• The Grind Scenario (especially), and
• Hyper-growth Scenario
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China: Flashpoints II
• Flashpoint II
• Chinese oil demand growth could falter as economic
growth fails to meet expectations
• China’s export and investment-oriented growth relies on
strong global demand and easy access to cheap capital,
labor and energy. Problems arise wiwth
• Spreading labor unrest
• Steady increase in labor costs, or
• A significant tightening of either the official or shadow banking
systems
• Could tip China’s economy closer to a “hard landing”
with growth rates in the low single digits.
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China: Flashpoints II
• In addition to these factors, higher energy prices could
be an ingredient in any economic slowdown
• The economic and political problems of failing to
transition to a more domestic and consumption oriented
economy could lead
• To slower than expected growth in Chinese oil demand
• Which would lead to slow global oil demand
• Many implications for the global oil market’s major
participants
• Investment
• Prices
• Stability
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