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US-China Reset Key to Brighter Global Economic Prospects

Feb 08, 2021

In the United States, the third wave of the COVID-19 peaked with 250,000 confirmed cases daily after the holiday period. Following the catastrophic mishandling of the pandemic by the Trump administration, total cases are approaching 26 million and the 430,000 deaths exceed U.S. military fatalities in World War II. 

After relatively effective containment, confirmed cases in China remain below 90,000. With the Spring Festival holidays just days away, recent resurgences have renewed concerns about outbreaks and people have been urged to avoid travel. Despite some unease, Chinese public health authorities believe a major outbreak is unlikely.

The key question is will China’s recovery prevail amid the dire global landscape and will U.S. recovery begin later in the year. Due to the great size of the two economies, the former is vital to many emerging and developing countries, while the latter is critical to major advanced economies.

Both require restoring US-Sino trust after years of devastation. 

US: growth in return for debt             

In the past year, the U.S. economy suffered a -3.5% contraction despite ultra-low interest rates, low inflation, a weak dollar and huge fiscal injections.

The CARES Act has kept the economy humming between lockdowns, which varied among different states. However, exports have continued to contract. Industrial production has begun to recover, but even more slowly than consumption. Last November, the U.S. trade deficit in goods jumped to record high levels. Better days won't return before a critical mass of vaccinations, likely around the 3rd quarter of the year.

Here's the caveat: the consumption-led recovery is leveraged to the hilt, relying on costly stimuli and rapidly-rising debt. In the past four years, U.S. national debt has soared to more than $28 trillion, which puts U.S. federal debt-to-GDP ratio at 128%.

How will the Democrats cope with the debt burden?

Instead of focusing on the size of U.S. debt, says Jason Furman, President Obama's former lead economic adviser, “policymakers should assess fiscal capacity in terms of real interest payments, ensuring they remain comfortably below 2 percent of GDP.” That would ensure adequate fiscal support and needed public investments, while maintaining a sustainable public debt.

As a share of GDP, the cost of servicing U.S. debt has fallen since 2000, even as federal debt has increased. Low interest rates have made it easier to pay off debts. However, deficits will more than double from 2010-19 to 10.9% percent of GDP in 2041-50, according to the nonpartisan Congressional Budget Office. By 2050, debt as a percentage of GDP will amount close to 200% of GDP, as net spending for interest as a share of GDP could quadruple over 2031-50.

That's a ticking time bomb. 

China: key indexes signal broad recovery         

In 2020, China’s real GDP growth of 2.3 percent exceeded expectations. It was the only major economy to avoid negative economic growth. The performance relied on fiscal and monetary support, but as recovery is accelerating, monetary easing no longer seems warranted.

Although consumption is still constrained, investment is likely to be buoyed by government-financed infrastructure projects and solid performance in the property market. In November, the indexes for manufacturing, service, trade and consumption were encouraging, while growth in the 4th quarter of last year rose to 6.5 percent year-on-year as consumers returned to malls, restaurants and cinemas.

Thanks to across-the-board recovery, the yuan has surged in strength against the U.S. dollar and other major currencies.

Despite U.S.-China tensions, foreign companies continue to pour money into China, thanks to China’s new foreign investment law which is intended to further open up the economy. In real terms, inbound foreign direct investment hit a record high of $144 billion in 2020.

In November, China signed the Regional Comprehensive Economic Partnership (RCEP) agreement with the 10 ASEAN member states, plus Japan, South Korea, Australia and New Zealand. That will boost regional trade and boost recovery as well.

The impressive increase in China’s exports pushed the trade surplus to a record high in December, with soaring demand for medical equipment to fight the pandemic. Thanks to the effective containment of the epidemic in the 2nd quarter of 2020, Chinese factories were able to respond to the global demand for such products, while other countries struggled with quarantines and lockdowns.

Importantly, the integration of the Chinese financial market and global financial markets has accelerated, thanks to China’s regulatory reforms. Consequently, foreign ownership of onshore Chinese stocks and bonds is likely to increase in 2021. 

From Cold War to partners and rivals    

The United States and China witnessed impressive progress in the bilateral relationship during the last few decades. While instability in the relationship became more common during the 2010’s as China developed, it was under Trump that high-level dialogues regarding diplomacy, security, the economy, and cultural affairs began to breakdown. These multi-level dialogues, which took four decades to build and four years to kill, should be restored.

After the Phase One trade deal, China agreed to buy $200 billion in additional U.S. imports over two years on top of pre-trade war purchase levels. Completing that was near impossible amid the global pandemic. Because of the Phase One agreemnt’s unrealistic goals, what is needed now is a reset on the trade agreement, in order to re-build a new appropriate path of dialogue in bilateral trade and advanced technology.

Before the trade wars, U.S. investment to China averaged $15 billion per year, whereas Chinese investment in the U.S. stood at $45 billion. U.S. investment to China has persisted and most U.S. companies plan to stay there. Yet, Chinese investment in the U.S. has plunged. It is time to restart bilateral investment talks to facilitate a new rapprochement.

Despite political differences, U.S.-China military exchanges used to feature high-level visits, exchanges between defense officials, and functional interactions. As these engagements fell by roughly two-thirds in the Trump era, bilateral tensions have surged in South and East China Sea and a major conflict may be just a matter of time. What’s needed is a restart in military dialogues, at all levels and in all arenas. 

China fueling over a third of global growth prospects        

China’s economic growth this year is expected to rise further to 7 to 8 percent, followed by stabilization to 5.5% in 2022. Rapid recovery has brought the Chinese economy closer to the U.S.’s economic output, which China could surpass by the late 2020s.

Assuming the Biden administration can avoid new economic and pandemic pitfalls, U.S. growth could rise to 5 percent, followed by stabilization to 2.2 percent in 2022.

In both cases, positive spillover effects would support global economic recovery.

The question is whether the Biden administration will opt for cooperation. A scenario in the vein of cooperation would likely result in some tariffs, moderated protectionism, and efforts to avoid redundant conflicts, which would ultimately facilitate U.S. recovery and global economic prospects. A reverse scenario would push those very same prospects back to the edge of global depression.

In December, the Organization for Economic Co-operation and Development (OECD) forecast that global GDP will reach pre-pandemic levels by the end of 2021. In this view, China will account for over a third of world economic expansion.

That contribution is critical to global economy.

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