ince the Covid-19 pandemic disrupted the global supply chain, concern is rising over possible shifts of foreign capital and production activity out of China. The 2020 Government Work Report delivered on May 22 at the third session of the 13th National People’s Congress, China’s top legislature, warned that the pandemic “has sent the world economy into severe recession, disrupted industrial and supply chains, and caused a contraction in international trade and investment and volatility in commodity markets.” The Work Report pledges that China will “stay committed to opening our door wider to the world, keep our industrial and supply chains stable, and make opening up a catalyst for reform and development.”
Before that, the Standing Committee of the Political Bureau of the Communist Party of China (CPC) Central Committee decided at a meeting on May 14 to build a “new development pattern” in which upgrading the domestic supply chain and international coordination match and reinforce each other.
In this context, what should China do to mitigate external shocks to foreign trade and investment? How can China achieve its long-term goal of a new development pattern? In an interview with NewsChina, Zhu Min, director of the National Institute of Financial Research at Tsinghua University and a former deputy managing director of the International Monetary Fund (IMF), gives his insights on these questions.
NewsChina: How has the pandemic affected China’s supply chains?
Zhu Min: The influence is mainly seen in the automotive, electronics and heavy machinery sectors, as their production in China still needs collaboration with products and production lines from other countries. But the actual impact on China’s overall supply chains is limited. Our analysis on the dependency of China’s supply chains on other countries proved that China’s supply chains are more closely linked with those of other Asian countries, particularly Japan and South Korea. These markets are relatively stable thanks to their early containment of the pandemic.
The particular shocks to supply chains during the pandemic were caused by non-market factors. Some far-right extremists, particularly some from the US, for example, preached de-Sinicization in terms of supply chains. This caused uncertainties in global supply chains.
Global supply chains are a natural result of market-oriented resource distribution in the process of globalization and technology development. By 2000, there were two major global supply chain clusters: one is the European supply chain with Germany at the center and the other is the pan-Pacific supply chain with the US at the center. Then China gradually developed into a manufacturing power after carrying out opening-up and market reforms since joining the World Trade Organization (WTO) [in 2001]. Now there are two and a half supply chain clusters. One remains in Europe, with Germany still at the center and at the top, while Central-Eastern countries like the Czech Republic, Slovakia and Poland at the lower end. The other is in Asia, or the Asia-Pacific region, where a global and vertical supply chain has formed around China. Japan, South Korea, Thailand and other ASEAN countries have all been attracted to this chain because China has developed the largest and most complete manufacturing system in the world. The country’s manufacturing output dominates the world and is equal to the total output of the US, Germany and Japan combined. The previous US-centered cluster gradually dwindled into a half chain in North America including the US, Canada and Mexico. The US had expected to join with Mexico to rival China’s manufacturing capacity, but this failed.
NC: What role does China play in the global supply chain?
ZM: As the hub of the pan-Asia and pan-Pacific manufacturing cluster, China is the only country to have all the industrial categories listed in the United Nations industrial classification. It plays a pivotal role in global manufacturing chains in terms of scale and the completeness of product lines. But China is mainly located at the middle and lower end of the global value chain, taking up only a small share in the higher value-added upper end. This is where China’s supply chain falls short.
Science and technology are crucial for future stabilization of the chain and expansion of manufacturing. It is important for China to enhance R&D and catch up on producing upstream products by supporting high-end technologies, basic industries and industrial clusters in key areas. The new infrastructure construction proposed recently, which highlights 5G, smart industrial networks and the Internet of Things is an important beginning.
The US’s lead in science and technology is related to its National Information Infrastructure Act of 1993, which laid the foundation for the development of tech companies in the US. Now China is at a similar phase. The new round of infrastructure, once completed, could make it possible to digitalize and stabilize the supply chain.
NC: The 2020 Government Work Report attaches great importance to stabilizing foreign trade to ensure a steady supply chain. What is your advice for recovering and stabilizing foreign trade?
ZM: The plunge in trade has been the biggest shock to the global economy this year. The IMF predicted this year’s global trade to drop 11 percent. A forecast we made in March tells of a fall of 15-20 percent this year. Stabilizing the supply chain for foreign trade has become an important mission for the world.
First of all, trade financing should be reinforced. In the 2008 financial crisis, global trade dropped 9 percent, although the economy declined only 0.5 percent, because trade financing was cut off when enterprises tried to export. European banks cut trillions of euros in trade financing to their clients in Asia. The arrangements on global trade financing reached at the G20 summits in London and Pittsburgh in 2009 were an important reason behind the strong economic rebound afterwards.
Second, it is important to improve customs clearance efficiency to promote flow of factors [such as capital and goods]. Currently, customs formalities are cumbersome [due to the pandemic]. China could work with the WTO and World Health Organization (WHO) and propose establishing customized sanitary standards for customs clearance in different regions according to the level of pandemic risks. China has pushed forward a lot of trading reforms in the past two or three years which focus on improving customs clearance and reducing trading costs.
NC: The strategy of a “new development pattern” in which domestic development and international cooperation should reinforce each other was proposed by the Standing Committee e of the Political Bureau of the CPC Central Committee on May 14. Why is thisstrategy significant?
ZM: The strategy was put forward taking into consideration labor costs, science and technology development and changes in the international political ecology. It is in line with China’s status quo and the trend of globalization.
China has the biggest commodity market, the largest manufacturing scale and the most complete industrial categories in the world. This makes it possible for self-sufficient domestic circulation of resources in China. The reallocation and adjustment of internal resources is important to stabilize China’s domestic supply chain. But internal circulation must develop in sync with international markets, as China needs collaboration with global supply chains and vice versa. China still relies on imports when it comes to upstream tech-intensive patented products, particularly high-end chips, heavy-duty engines, precision motors, tooth gears and heavy equipment bearings. China needs exchanges with the international supply chain in these areas. Meanwhile, these products have to be combined with China’s manufacturing capacity to keep the supply sustainable.
Foreign capital continues to hold a positive attitude toward the China market. This is why it keeps joining in China’s internal supply chain system and contributes to the construction of the internal and external supply chain systems. At the peak of the pandemic, US$100 billion in foreign capital flowed out of emerging economies, three times as much as that in 2008. By contrast, US$4 billion in foreign capital flowed into China in this period. It proves that foreign enterprises are still confident in the market and the supply chain in China.
The new strategy stresses laying a solid foundation at home based on the huge domestic market while staying connected with the global market. This means a lot for the Chinese people and even the global economy in the future.
NC: There are concerns over the withdrawal of foreign capital and the shift of manufacturing facilities away from China. What is your comment?
ZM: China boasts the world’s largest manufacturing sector with the world’s largest supply chain. This is China’s most important attraction and competitive edge to the rest of the world. When I was formulating an AI development strategy for Shenzhen I found, for example, that the science and technology advantage of Shenzhen relies heavily on the complete manufacturing chain in the city and neighboring areas. The developed, completely market-oriented and flexible manufacturing sector there allows innovative companies to put their ideas into reality quickly, even when the designs are changing constantly. It shortens the response time to the changes in demands and technology and reduces the cost of coordination. It is where the core advantage of China’s supply chain lies.
Several times in the past 10 years or so, the US has called to move their supply chain back, but instead ended up with increasing outflow of manufacturing. It is a result of market competition and the division of labor. Today, some far-right extremists are lobbying to attract enterprises back to their home country and instigating Japanese and European companies to withdraw from China. It’s easier said than done.
Selecting production sites is a business decision borne out of the needs of companies. If a government turns the market-oriented allocation of resources into that of administrative-oriented allocation out of political concerns, global economic efficiency will be impaired. It is the last thing we want to see. Several years ago, the US demanded big tech companies bring their cash back to the US, but with little effect. Business has its own rules. Bringing manufacturing back will be way more challenging than getting cash back.
NC: What can China do to maintain the stability of the international supply chain?
ZM: China needs to further raise the level of opening-up, keep improving its business environment and strengthening intellectual property protection to make its market more attractive.
The services sector has the highest concentration of intellectual property (IP), and there is a lot to do to enhance IP protection. On April 26, Shanghai held its first conference on IP protection, where the government announced its plans to build the city into one of the best in the world in protecting IP within five years. To achieve this, it will improve its legal system, court system and multiple channels for filing IP complaints. There is clear protection for patents. Now many practical issues, like how to hold insiders who leak proprietary IP accountable, also need to be clarified. It is an important indicator of a soft environment.
China was one of the first to get the pandemic under control, giving China a window of opportunity that the country cannot miss. A system should be installed which can do smart testing, track patients and their close contacts and treat patients in time. In the meantime, more efforts should be made to improve the public health system and storage of medical resources. Enhancing the capability to handle another wave of the virus will win support from smart people in global financial and business circles. China can cooperate with other external forces, starting with key fields such as the medical industry, to push forward the recovery and stability of global supply chains.
The Covid-19 pandemic is spreading to emerging economies such as Brazil, India and Russia. Guaranteeing the stability of supply chains and expanding the capacity of medical resources and equipment are necessary for the whole globe. It is a big humanitarian issue which requires cooperation among the WTO, the WHO, China, the US and other countries.