China's soaring trade surplus

Trade relations between Beijing and the West will continue to sour, despite the second anniversary this month of China's currency reform initiative.  The widening gap between the monetary value of China's exports and imports reveals that the political pressure on Beijing to address its mushrooming trade surplus has been largely ineffective.

Surging exports have increased excess domestic liquidity and added upward pressure on the country's currency, the renminbi (RMB). Meanwhile, an increased reliance on net exports has further exposed China to a future global slowdown. The trade surplus is increasing friction with China's main trading partners, leading to louder calls from the US Congress for a strengthening of the RMB to offset its 'unfair' trade advantage. While Beijing officially unpegged the RMB from the US dollar in July 2005, it has only risen by about 8% against the dollar.

The situation is not helped by the continuing shift of manufacturing and assembly from South-east Asia to China. As Chinese imports from Thailand and the Philippines continue, China is continuing to displace other Asian economies as a source of US imports, increasing regional friction.

Beijing has made a few adjustments aimed at suppressing overheated export growth, such as cutting tax rebates for exports of certain commodities. The new tax rules, which took effect last week, will affect 37% of all export products, according to the Ministry of Finance.

Potential cool-down?

China is likely to post a trade surplus of around 300 billion dollars by the end of 2007, up more than 60% on last year. From January to May this year, exports expanded by 27.8% year-on-year to 443.5 billion dollars. However, the first-quarter surge may be a result of firms trying to export before the new VAT adjustments kick in.

China can redress the balance in other ways. The alternative to reducing exports, of course, is boosting imports. China has made a few moves aimed at boosting domestic demand and increasing imports -- including the large buying mission that preceded May's Strategic Economic Dialogue (SED) between the United States and China -- but these have had negligible effect.

The country's State Information Centre expects trade surplus growth to slow in the second quarter because of a stronger RMB, a slowing US economy, and the VAT rebate adjustments. However, given the numbers through April, this looks like wishful thinking. China's trade surplus, and its tensions with US, EU and Asian partners, will continue to grow.