South-South trade: Challenges to the global economic revolution

The emergence of ‘south-south trade’ has the potential to revolutionise the global economy. In 2014, the World Trade Organisation (WTO) projected that 30% of all global trade would be between emerging markets by the year 2030, nearly doubling its current figure.

According to HSBC, south-south trade “will be norm, not novelty” in the future and already the International Monetary Fund (IMF) believes that it accounts for nearly half of China’s total trade and nearly 60% of the total trade of India and Brazil.

However, there are challenges that threaten to slow the further advance of south-south trade, of which the greatest is trade protectionism.

The inclusion of China and India has muddied the “Southern Countries” term as it applies to emerging economies. Essentially assembly lines for advanced economies in the past, both nations have emerged to play a major role in global markets. These two countries in particular are still undergoing a process of rapid industrialisation and are relatively under-developed compared to economies such as Germany, the UK, Japan and the United States.

The growth of emerging markets over the past two years has been unprecedented, as multi-national corporates (MNCs) moved various processes of their business to these nations to benefit from the competitive advantages offered. Generally this was unskilled primary work, with the lower wage costs presenting as a major attraction.

East 1Signs of slowdown

Economic growth has inevitably led to an increase in wealth and resulted in a burgeoning middle class within these populations. Consumer-led economic growth is rapidly gaining pace. East & Partners (E&P) Asian Wealth Index, which tracks the wealth of corporates throughout the Asian region, reveals that the majority of respondents are captured from emerging markets.

The index indicates that investment wealth has risen by 27.7% since 2013 and the increase is a key driver for trade in these nations – particularly among other emerging markets, which typically establish industries in which they have a comparative advantage.

The trend has seen south-south trade expand to represent approximately one quarter of the world’s trade volumes at US$4.7 trillion, according to United Nations figures in 2013. However, it is now showing signs of faltering, heavily impacted by slowing Chinese economic growth slipping below 7% for the first time since the first quarter of 2009.

Imports have dropped 18.8% year-on-year (YoY) n 2015 with China signalling a decline in demand. The shift in rhetoric to that of “lower for longer” growth is a major concern for many economies, particularly the emerging markets which have been the beneficiaries of the country’s rapid growth.

As international trade flourished in these markets, the establishment of agreements between various nations and regions as a means to promote trade became a common occurrence. Generally these were strategic alliances via partnerships, aimed at reducing tariffs and encouraging the free movement of goods and services across borders. These partnerships are now being threatened by protectionist measures used to prop up local industries and negate the benefit of the aforementioned tariff reductions.

Although most prevalent in under-developed economies, evidence suggests that the policy is not restricted to these regions. Economies such as Japan provide subsidies of anywhere up to 700% for local agricultural sectors, costing Japanese tax payers more than US$8bn.

Implementing a policy to this extent has seen businesses switch industries to take advantage of the subsidies and exit areas where they are no longer competitive. As a result, protectionism is not sustainable in the long term. As inefficiencies further embed themselves within such a market, any future winding back of these subsidies becomes a more complicated and economically costly venture.

Rather than gravitating towards the minimisation of trade barriers, many countries are increasing measures to obstruct new entrants into a market as a response to the current global downturn. This is aimed at artificially protecting local industry and jobs, propping up areas of the economy that are unproductive as a political manoeuvre.

While this may result in a short-term reprieve, countries that maintain a stance of moving towards an open market will achieve additional long-term growth opportunities. Closer economic integration is moving markets closer together than ever before, due to the ease of doing business and the subsequent competitive advantage that this environment encourages 

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Conclusion

Over the past year, fickle markets have soured on emerging economies as a result of economic downturns and the increasing conjecture of a US Federal Reserve interest rate hike in the near future. This has led to substantial cross border capital flows and widespread currency depreciation.

China has the benefit of being partially pegged against the US dollar (USD), but even the renminbi (RMB) is at its lowest levels in six years and currency liberalisation is expected to be implemented as a priority sooner rather than later. The Malaysian ringgit, Indonesian rupiah and Brazilian real (MYR/IDR/BRL) are all trading at their lowest levels in more than two decades. While this will provide a price advantage for local producers as imports become more expensive and rule out the necessity to adopt protectionist policies, it is not a long-term solution.

Transition towards a more efficient economy will provide long-term stability and jobs growth. The alternative offers nothing more than continued economic underperformance at best and further financial market crises and currency volatility at worst.

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