Is the "Rising Yuan" going to help?

FROM a global perspective, the world has every right to expect large surplus savers, such as China, to reduce outsize current account surpluses. At the same time, the world community needs to be fair in putting equal pressure on large deficit savers, such as the United States, to address its saving problem.

Is it wrong to insist that China’s global rebalancing imperatives be addressed by a realignment in a bi-lateral exchange rate with the dollar. What matters most insofar as global imbalances are concerned is China’s broad multilateral exchange rate. China can hardly be accused of manipulation vis-a-vis the rest of the world. In real terms, the trade-weighted renminbi is up 7.5% over the past six months and fully 20% over the past five years. These is good reason to believe that a pro-consumption structural policy agenda, is likely to be a central feature of the upcoming 12th Five-Year Plan, could achieve far greater traction in promoting a timely and effective rebalancing. There is good reason for China to view a tight RMB/dollar relationship as an important anchor for an embryonic financial system. Washington’s China complaint seems especially off base when it comes to the renminbi. Yes, the United States has a large bilateral trade deficit with China. But it turns out that America ran trade deficits with over 90 countries in 2008-09. Given the unprecedented shortfall of US saving—a net national saving rate of -2.5% of national income in 2009—the US must import surplus saving from abroad in order to grow and run massive current account and multilateral trade deficits in order to attract the foreign capital.

Without a fix to America’s saving problem—highly unlikely in an era of trillion dollar federal budget deficits—forcing the Chinese to appreciate the RMB versus the dollar, or imposing trade sanctions on them if they don’t, is like rearranging the deck chairs on the Titanic. It would shift the Chinese piece of the US trade deficit to someone else—most likely to a higher cost producer.

IT ALL sounds so simple. Let the renminbi appreciate and the world's economic problems will be solved. Yet, when you think about it, this is a distinctly implausible claim. The idea that an adjustment in one relative price in the entire global economy will rid the world of imbalances and lead to a new economic nirvana doesn't really make sense.

There are doubts to these and they need to relook at some of the pending events :

The Japanese yen has risen dramatically over the last forty years—from JPY380 against the dollar at the beginning of the 1970s to around JPY90 more recently. Despite this momentous rise, Japan's current account surplus has steadily gotten bigger as a share of its GDP. When the Japanese tried to do in the late-1980s exactly what is now being asked of China—shift away from export-led to domestic demand-led growth—it all ended in tears.

The Japan's experience shows, countries run current account surpluses for structural reasons that may have nothing to do with the value of the nominal exchange rate. Inadequate social security provision and a poorly-developed consumer credit system undoubtedly play a big role in boosting savings relative to consumption in china's situation. China uses a currency target partly because of a lack of credible alternatives. No one has any idea of what is really going on with Chinese money supply while an inflation targeting regime is highly problematic for any country with low per capita incomes, where the typical consumer basket is heavily weighted towards food and energy, the prices of which are highly volatile from year to year.

Discussion of the nominal exchange rate ignores the obvious point that it's the real exchange rate that ultimately matters. Let's face the fact, China was cut off from the rest of the world for over 500 years. Now that it's opening up, it can flood the world with workers who are prepared to accept wages a tiny fraction of those being paid in the West. Western workers have enjoyed a "monopoly" on access to global capital for most of the 20th Century, rewarding themselves with wages well above the market-clearing price. Nominal exchange rate adjustment won't prevent Chinese workers from undercutting their Western equivalents.

Admittedly, the terms of trade will likely move in China's favour whether or not there is nominal exchange rate adjustment. But the way that's playing out at the moment is through some hefty wage increases in China accompanied by deflationary pressures in the West. Whether through nominal or real exchange rate appreciation, however, this simply means that China's buying power over the world's scarce resources will slowly improve and, by implication, the West's will diminish, most obviously through rising commodity prices in dollar or euro terms. A rising Chinese real exchange rate will lead to a redistribution of income from commodity-consuming to commodity-producing nations.

"Developing Economies" overtaking Developed Nations with Innovations.....

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In the 80s’ US car producers were shock to find that Japan had replaced the United States as the world’s leading carmaker. How the Japanese beat the Americans on both price and reliability and how did they manage to produce new models so quickly. The answer was not industrial policy or state subsidies but business innovation. The Japanese had invented a new system of making things that was quickly dubbed “lean manufacturing”.

Developing countries are becoming hotbeds of business innovation in much the same way as Japan did from the 1950s onwards. They are coming up with new products and services that are dramatically cheaper than their Western equivalents: $3,000 cars, $300 computers and $30 mobile phones that provide nationwide service for just 2 cents a minute. They are reinventing systems of production and distribution, and they are experimenting with entirely new business models.

Why are countries that were until recently associated with cheap hands now becoming leaders in innovation? The most obvious reason is that the local companies are dreaming bigger dreams. Vietnam or Cambodia—they are relentlessly climbing up the value chain. Emerging-market champions have not only proved highly competitive in their own backyards, they are also going global themselves. There are now around 21,500 multinationals based in the emerging world. The best of these, such as India’s Bharat Forge in forging, China’s BYD in batteries and Brazil’s Embraer in jet aircraft, are as good as anybody in the world. The number of companies from Brazil, India, China or Russia on the Financial Times 500 list more than quadrupled in 2006-08, from 15 to 62. Brazilian top 20 multinationals more than doubled their foreign assets in a single year, 2006.

At the same time Western multinationals are investing ever bigger hopes in emerging markets. They regard them as sources of economic growth and high-quality brainpower, both of which they desperately need.

China produces 75,000 people with higher degrees in engineering or computer science and India 60,000 every year.

The world’s biggest multinationals are becoming increasingly happy to do their research and development in emerging markets. Companies in the Fortune 500 list have 98 R&D facilities in China and 63 in India. Some have more than one. General Electric’s health-care arm has spent more than $50m in the past few years to build a vast R&D centre in India’s Bangalore, its biggest anywhere in the world. Cisco is splashing out more than $1 billion on a second global headquarters—Cisco East—in Bangalore, now nearing completion. Microsoft’s R&D centre in Beijing is its largest outside its American headquarters in Redmond.

Knowledge-intensive companies such as IT specialists and consultancies have hugely stepped up the number of people they employ in developing countries. For example, a quarter of Accenture’s workforce is in India.

Both Western and emerging-country companies have also realised that they need to try harder if they are to prosper in these booming markets. It is not enough to concentrate on the Gucci and Mercedes crowd; they have to learn how to appeal to the billions of people who live outside Shanghai and Bangalore, from the rising middle classes in second-tier cities to the farmers in isolated villages. That means rethinking everything from products to distribution systems. These islands of success are surrounded by a sea of problems, which have defeated some doughty companies. Yahoo! and eBay retreated from China, and Google too has recently backed out from there and moved to Hong Kong. Black & Decker, America’s biggest toolmaker, is almost invisible in India and China, the world’s two biggest construction sites.

But the opportunities are equally extraordinary. The potential market is huge: populations are already much bigger than in the developed world and growing much faster ( chart1), and in both China and India hundreds of millions of people will enter the middle class in the coming decades. The economies are set to grow faster too ( chart 2). Few companies suffer from the costly “legacy systems” that are common in the West. Brainpower is relatively cheap and abundant: in China over 5m people graduate every year and in India about 3m, respectively four times and three times the numbers a decade ago.

This combination of challenges and opportunities is producing a fizzing cocktail of creativity. Because so many consumers are poor, companies have to go for volume. But because piracy is so commonplace, they also have to keep upgrading their products. Again the similarities with Japan in the 1980s are striking. Toyota and Honda took to “just-in-time” inventories and quality management because land and raw materials were expensive. In the same way emerging-market companies are turning problems into advantages.

Until now it had been widely assumed that globalisation was driven by the West and imposed on the rest. Muscular emerging-market champions such as India’s ArcelorMittal in steel and Mexico’s Cemex in cement are gobbling up Western companies. Brainy ones such as Infosys and Wipro are taking over office work. And consumers in developing countries are getting richer faster than their equivalents in the West.

Old assumptions about innovation are also being challenged. People in the West like to believe that their companies cook up new ideas in their laboratories at home and then export them to the developing world, which makes it easier to accept job losses in manufacturing. But this is proving less true by the day. Non-Western companies are becoming powerhouses of innovation in everything from telecoms to computers. [ Our company, a world-class rig builder,   has produced quite alot of innovative ideas in the IQC intiative producing feasible "short-cuts" and leading to more productivity and output and thus saving quite a substantial sums each year in building major offshore oil rigs, and it is such motion of getting all the thinking hats together coming out with workable ideas, some could have been overlooked to be day-to-day chore but when look deeper, you could save few hundred thousands especially in rig building business involving the need to take the "economy-of-scale" advantage ]

Re-invent innovative ideas

The very nature of innovation is having to be rethought. Most people in the West equate it with technological breakthroughs, embodied in revolutionary new products that are taken up by the elites and eventually trickle down to the masses. But many of the most important innovations consist of incremental improvements to products and processes aimed at the middle or the bottom of the income pyramid: eg.Wal-Mart’s exemplary supply system or Dell’s application of just-in-time production to personal computers.

The emerging world will undoubtedly make a growing contribution to breakthrough innovations. It has already leapfrogged ahead of the West in areas such as mobile money (using mobile phones to make payments) and online games. Microsoft’s research laboratory in Beijing has produced clever programs that allow computers to recognise handwriting or turn photographs into cartoons. Huawei, a Chinese telecoms giant, has become the world’s fourth-largest patent applicant. But the most exciting innovations—and the ones this report will concentrate on—are of the Wal-Mart and Dell variety: smarter ways of designing products and organising processes to reach the billions of consumers who are just entering the global market.

China and India say their country’s current economic situation is good (chart 3), expect conditions to improve further and think their children will be better off than they are. This is a region that sees opportunities in every difficulty rather than difficulties in every opportunity.

Now the emerging markets are developing their own distinctive management ideas, and Western companies will increasingly find themselves learning from their rivals. People who used to think of the emerging world as a source of cheap labour must now recognise that it can be a source of disruptive innovation also.