2013 MI H1 Econs CSQ2 Mark Scheme

1 Question 2 The Chinese Economy Extract 4: China and Currency Manipulation The subject of whether China undervalues its currency to gain a trade advantage on the United States is a longstanding point of contention between Washington and Beijing. Critics in the U.S. claim that currency manipulation has cost about 2 milli on U.S. jobs and hurt manufacturers. China claims that its exchange rates are not the reason for the trade gap and has accused the U.S. of using Beijing as a "scapegoat" for its greater economic woes. A wide coalition of US trade unions and members of Congress is stepping up pressure on President Barack Obama to confront China over alleged illegal currency manipulation. Source: Adapted from The Guardian, 20 May 2009 and http://worldnews.about.com Extract 5: China’s Exchange Rate Reform China’s fixed exchange system was discontinued from 2005 and a managed float system was adopted. A move that would increase the value of the Chinese Yuan against the dollar and help ease a trade imbalance, which has cost U.S. jobs. The move would come amid growing complaints that China’s undervalued Yuan has made it difficult for manufacturers in the United States and other countries to compete with China’s exports. However, He Weiwen in the Global Times news arti cle states that the US trade woes shouldn’t be blamed on the Yuan. He points out that from 1998-2004, the Yuan was fixed at 8.28 to the dollar and China's exports to the U.S. varied from year to year stressing that the Yuan exchange rate doesn't play a significant role in affecting US exports. China also continued to record trade surpluses against the United States after it initiated exchange rate reform in 2005 to allow the renminbi to appreciate 20 percent against the US dollar. Source: Adapted from http://www.epi.org/news/china and EPI News, April 9, 2010, "China Reportedly Close to an Agreement to Revalue Yuan" Table 1: Growth of U.S. trade in goods with China (%) Before Chinese Yuan’s reform 1999 2000 2001 2002 2003 2004 Growth of China Exports to US (%) 14.9 22.3 22.3 22.4 21.8 29 Growth of US Exports to China (%) 7.9 23.4 18.5 15.4 28.2 21.4 After Chinese Yuan’s reform 2005 2006 2007 2008 2009 2010 Growth of China Exports to US (%) 23.8 18.2 11.7 5.1 -12.3 23.1 Growth of US Exports to China (%) 31.3 30.3 17.3 10.8 -0.3 32.3

2 Extract 6: China’s Economic Growth to Benefit All of Asia? Foreign direct investment (FDI) into the mainland saw its strongest surge in more than two years last month with the US$14.4 billion of capital committed leaving the world's second biggest economy firmly on track to meet the government's target of US$120 billion of inflows this year. It is one of the principal drivers of mainland's breakneck economic growth in the past three decades. But foreign investment has grown elsewhere too. The ten ASEAN countries saw a record $37 billion of investment in 2005. For some manufacturers, Sout h-East Asia (or India) serves as a hedge against something going wrong in their China operations – be it social unrest, economic problems or a business climate that turns against foreign investment. However, much investment outside China is in fact dependent on the China boom. So supercharged has the Chinese export machine become that it has sucked in vast quantities of parts and components for final assembly from other parts of Asia – Thailand, Malaysia, Singapore, the Philippines and Indonesia, as well as richer Taiwan and South Korea. Everybody has benefited by Chinese demand for top-notch components and capital goods. In China, the processing and assembly of imported parts and components now accounts for more than half of all exports. It has recently recorded phenomenal growth in exports of high -tech products, principally notebook and desktop computers, DVD players, mobile phones and the like. For South Korea, Taiwan, Hong Kong and Singapore, trade has also turned from the rich world towards China. So has Philippines and Thailand. Their export to China has increased and that the country at present enjoys surplus trade balance with China. Meanwhile, Chinese tourists made 83 million overseas travels, of which more than 90 perc ent were to other Asi an countries, among which Malaysia, Singapore, Thailand and South Korea were their favorites. However, the economic growth is not only relying on export. Instead, domestic consumption is going to drive the economy, which will provide other countri es with numerous business opportunities. Wang Chuanfu, chairman and president of China's largest rechargeable battery maker, said that his company is a good example of China's vigorous economy. Wang's company had only 20-odd persons when it was first founded but now has more than 30,000 workers. When China becomes rich, the country will create a large amount of business oppor tunities and make inconceivable contribution to the world economy, said Wang. With China’s rising consumption in recent years, this huge domestic demand is now growing at 9% a year and starting to act as a regional engine of growth, sucking in imports to feed its increasing consumption for products it has no comparative advantage in. The World Bank forecasts that this will be the first year in which China's imports will be growing and becoming the biggest source of import growth in the world. Goldman Sachs, an investment bank, reckons that China's imports for domestic use are now roughly the same as those used in assembling exports, whereas five years ago they were only half as big. China's reform and opening-up drives over the past two decades have produced one of the most dynamic economies in the world, offering the rest of the world a huge potential market. Source: Adapted from The Economist, “The export juggernaut” and http://www.china.org.cn

3 Table 2: Singapore-China Bilateral Trade (S$ Thousands) Source: IE Singapore Table 3: Exchange Rate of Singapore Dollar (SGD) vs. Chinese Yuan (CNY) Year 2008 2009 2010 2011 SGD/100CNY 21.09 20.55 19.53 20.61 Source: Monetary Authority of Singapore Figure 3 2008 2009 Imports from China 47,594,565 37,585,345 Exports to China 43,817,922 38,125,119 US Trade With China Imports from China Exports to China Annual data from 1986 through 2009

4 (a) (i) Explain the meaning of balance of payments of a country.  The balance of payments is a record of all economic transactions between residents of an economy and the rest of the world.  It comprises transactions in goods and services, income flows, transfers, as well as capital and financial flows.  It is very useful for assessing the external performance of an economy and for formulating policies connected with it. [2] (ii) Explain the impact of foreign direct investment on China’s balance of payments. Foreign direct investment (FDI) is a direct investment into production or business in a country by an individual or company in another country, either by buying a company in the target country or by expanding operations of an existing business in that country. BOP comprises mainly the current account and the capital account. Capital and financial account : - Long-term capital flows refers to investments that has maturity of 1 year or more. Such capital flows can be in the form of foreign direct investments (FDIs) and portfolio investments. - Short-term capital flows refers to investments that has maturity of less than 1 year. Such capital flows are also referred as ‘hot’ money flows. - FDI comes under direct investment and it is a credit item i.e capital inflow to China - Improves BOP. (In the short run) Current account: – Record trade in goods, services, income flows and transfers – When profits made by the foreign firms (FDI) are sent out to their parent company abroad, it will be reco rded