Insight & Analysis

The Asian ‘protectionism hedge’

US and China flags merged together with graphs and data

The ongoing battle of words and numbers between the US and China has its roots in protectionism. What do such strong-arm tactics mean for corporates, and how should treasurers be preparing?

Talk of protectionism is on the rise. It appears to be a shift in a world order that, just a few years ago, favoured more free trade. However, the effect on businesses caught in the crossfire of political posturing is not as straightforward as it may seem.

For Deepan Dagur, Regional Head of Trade Finance & Cash Management, Asia, Commerzbank, as long as a corporate is reasonably agile and has a diversified supplier or buyer base, the issue is certainly containable, and possibly even advantageous.

The war of words and numbers between the US and China has, so far, not seen mass factory shut-downs on either side. Yet in Asia, there have been cases of manufacturers moving some production out of China and into neighbouring countries.

Balancing act

Although Dagur believes the US/China trade war is creating “winners and losers at the margins”, he points out that where production shifts have taken place, these are not necessarily a direct response to protectionist sabre rattling.

Labour costs and GDP per capita in China have been rising strongly for many years. The recent trade spat with the Trump administration may just be an added incentive for businesses to seek arbitrage in other jurisdictions.

China is the world’s largest exporter; the US is a key trading partner. The genesis of this trade war is China’s massive trade surplus with the US. According to the US Census Bureau, as of March 2019, the total trade deficit with China was US$222.6bn. The US has stated this is “unfair”.

To date, only a small number of raised tariffs have actually been imposed by either side; a far greater number have been proposed but are ‘on-hold’, pending further discussions. Nonetheless, Reuters reports that China’s exports to the US fell 2.4% in January 2019 from a year earlier, whilst imports from the US “plunged 41.2%”.

According to US-based website, China Power, China’s trade with the rest of the world is “more balanced” than with the US. When excluding trade with the US and Hong Kong, China exported US$1.68trn and imported US$1.55trn in goods in 2017.

With rising middle-class affluence, the import of western professional services and high-value ‘aspirational’ brands, for example, could see China harbouring a small trade deficit by 2020, notes Dagur. “The relevancy of imports to China clearly should not be underestimated.”

Reaching out

As China moves up the value chain, focusing more on sophisticated technology production and infrastructure development (including the ambitious Belt and Road (BRI)] global project), ASEAN countries, especially Vietnam, Indonesia and Thailand, have, as mentioned, seen their lower labour-costs attract more production from industries such as textiles, consumer electronics and automotive OEMs.

But different spending patterns are also influencing companies’ decisions to move, says Dagur. The largely youthful and increasingly consumerist markets of Greater Mekong (Vietnam, Myanmar, Cambodia, Laos and Thailand, as well as Yunnan Province and Guangxi Zhuang in China), makes locating production of lower-cost consumables conveniently nearby, a natural choice for many. And with the rise of ASEAN as a major trading bloc, wider regional cross-border trade is now relatively easy too.

Agile winners

A business that is neither diversified nor agile “may not come out well from a deteriorating trade relationship”, notes Dagur.

With awareness of trade-based tensions mounting between China and the US well before the flashpoint in June 2018, he says many Asia-based companies were actively developing a “China+1 sourcing strategy”.

By leveraging what Dagur refers to as a “protectionism hedge”, the risk of hostility between bi-lateral trading nations is mitigated to a degree. Many firms previously holding their main production facilities in China began adding capacity in other jurisdictions. This was not only to create the flexibility necessary to ramp production up or down, as the markets dictated, but also soak up cost arbitrage opportunities and the needs created by demographic shifts.

Arguably then, trading hostilities have an upside when considered in the context of the factors referred to above. Poll CFOs and treasurers active in ASEAN today and you would find it “one of the most optimistic regions in the world right now from a growth perspective,” notes Dagur.

Within ASEAN there are “tiers of success”, he adds. Greater Mekong, home to more than 300 million people, offers a clear cost arbitrage story. Individually, Thailand has solidified its position as the regional auto-component production hub. It is using its well-developed auto-related eco-system to attract more players from across the spectrum. Here, auto-manufacturers are exploiting proximity to clustered OEM production facilities. Elsewhere, Malaysia has achieved a similar effect in the higher-end electronics manufacturing.

“Every country in ASEAN has its own story and so most are very bullish about their prospects,” reports Dagur. Intra-ASEAN and intra-Asia trade appears to be growing faster than the global average, he says. “Each country is relatively small on a global trading scale but aggregate the figures and ASEAN becomes the fifth largest economy in the world by GDP.” It is destined to be the fourth by 2030, after the US, China and the EU, according to Singapore PM, Lee Hsien Loong.

Combined effort

It’s an object lesson in the power of collaboration over protectionism. Whilst blocs such as the EU, GCC and ASEAN move forward with varying degrees of success, China’s monumental BRI presents a different take on the collaborative theme.

It is not an economic trading bloc per se, but it is a way for the Chinese economy to further integrate with trading partners along the old Silk Road. “There is a deeper economic inter-dependence with such investments that goes far beyond just the import/export trading relationships,” comments Dagur.

With infrastructure projects (ports, railways, roads, utilities and so on) already constructed or in planning, countries that BRI touches may benefit from its ambitious scope. In south Asia, for example, Pakistan and Bangladesh have suffered a chronic shortage of infrastructure, notes Dagur. “BRI has been a great way for them to make improvements in these areas, as well as build good trading relationships with a major nearby partner.” The oft-delayed China-Malaysia railway link project has also now been re-invigorated under the auspices of BRI, forging deeper regional connections.

Treasury action

Although the ultra-low cost today of sea transport means bulk movement of low-value goods remains mostly economically viable, shifting goods across Asia, and even onwards to Europe, via the kind of rail-link that BRI promises, offers a far quicker way for businesses to convert high-value, high-margin inventory into cash.

From a corporate perspective, having a “reasonably well-diversified sourcing strategy” is clearly a matter of good policy, especially when trade wars loom, says Dagur. Sourcing, of course, is closely linked to functions such as production and procurement, and their related financial strategies. But in currency-controlled markets such as China and Vietnam, he warns that whilst getting the money in is quite straightforward, “getting money out can require planning.”

For treasurers operating in Asia, the bottom line for Dagur is that financial strategy should be linked very closely with production, procurement and sales strategies. This may be seen as a “protectionism hedge”, or more likely as means of leveraging Asia’s trade dynamism, but either way, when ‘discussions’ begin to heat up, business agility is essential.

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