Stewart Beck is president and chief executive officer of the Asia Pacific Foundation of Canada.
China's response to its recent stock market crash has been described as fumbling or clumsy, with many in the Western media deriding Chinese policy-makers as inept and accusing them of completely losing control, making the market uninvestable. Some have gone even further, describing a country in the midst of a financial meltdown and reeling from an exodus of investment and export flows to Asia's largest emerging economy.
Canadian companies and investors with business ties to China and across Asia must be asking themselves whether they should follow suit and retreat. The simple answer is "No." Rather than overreacting to the recent economic developments in Asia, we should be considering a much longer-term approach when engaging with emerging economies in the region, including China. We need to think long-term, like a value investor. Here's why.
First, despite the hype, the effect of the stock drop will have a limited effect on China's economy as a whole. Yes, in one tumultuous week, the Shanghai market lost more than 20 per cent of its value. But as The Economist has pointed out, it is important to understand that the free-float value of China's financial markets represents just a third of its GDP, compared to more than 100 per cent for exchanges in developed economies. The main reasons that China's stock woes will have little impact on its future economic growth are that most companies in China do not look to stock markets to raise funds, and the sharp increases and declines in the Chinese stock market have been driven by speculation. Investing in Asia requires patience, and we should expect more fluctuations as the markets adjust.
Second, reductions in China's GDP growth estimates should come as no surprise. The Chinese economy, like many a nascent economy before it, will experience hiccups as it transitions from export-driven external growth to more consumption-driven internal growth. That said, International Monetary Fund projections peg Chinese GDP growth at 6.4 per cent over the next five years and 7.3 per cent in 2014, currently triple the projections for the United States and Canada. Even if the real growth figures diverge from estimates by one or two percentage points, the vast size of China's economy, which amounted to $10-trillion (U.S.) in 2014, will ensure that the future global economy will be inextricably tied to Asia. And with some projections indicating the middle class will make up more than half of developing Asia's population in 2030, the region presents a wealth of opportunity for Canadian businesses and investors.
Third, while critics blame Chinese authorities for the mismanagement of the financial sector, it is important to remember the unique challenges China and other emerging economies in Asia face. China's current economy is neither the entirely socialist system of Mao's China nor the burgeoning reformist economy of the Deng Xiaoping era. The country has the immense task of finding a balance between depreciating its currency while still shifting its economy away from export-led growth toward growth fuelled by domestic demand. China has witnessed the sudden market liberalization of former Soviet-bloc economies, and must consider to what extent it will open up its own market through punctuated liberalizations.
We should not be so quick in the West to point out the shortcomings of others when developed economies, with more than a century of capital markets experience, have mismanaged their own financial sectors – the 2008 financial crisis comes to mind.
Fourth, we must take stock in the old adage "putting all your eggs in one basket." Indonesia and Brazil serve as cautionary tales, due to their strong dependence on commodities exports to China. Canada, likewise, is strongly reliant on its neighbour to the south, with 76 per cent of our merchandise being shipped to the United States in 2014. China's recent economic slowdown, while having severe negative effects on countries such as Brazil and Indonesia, should not deter us from engaging further with it and the rest of Asia in terms of trade, especially in services, which make up the backbone of our economy. If anything, this situation highlights the importance of diversifying our trading partners across Asia – with countries such as India, South Korea and the burgeoning economies in Southeast Asia – in order to mitigate our own dependence on the United States.
The take-home message is that it's unrealistic to think that the developing economies of Asia, particularly China, will change overnight. Ultimately, by acting as a value investor, Canada should focus on the fundamentals and develop a long-term, strategic approach to engagement. This requires a better understanding of the region and its unique history and development. We will be better informed and avoid hitting the panic button when short-term events command the headlines.