Paul Horne Nov 0905

Europe’s View Of China -- A Triangular One Comments By

J. Paul Horne Independent International Market Economist To

Global Interdependence Center Philadelphia, 9 November 2005

China is for Europe a Triangular not Bilateral Problem • Most Chinese-EU issues involve key U.S. interests and reactions • Arms, trade, out-sourcing, energy supplies, capital flows, interest rates, FX – have vital implications for all 3 • EU defense, fiscal, labor, social policies increasing influenced by China • EU’s own problems make dealing with CH difficult, and often earns US enmity 2

Europe … the “Old World”

3

Issues Facing EU and € • Demographics – aging = resistant to change • Institutional – how to govern 25 countries ?

• Fiscal – EU and national budget limits • Monetary - € + ECB success = constraints • Structural – fear of J curve pain before joy • Int’l. – Doha, NATO, Mid-East, China, U.S. • Cultural – European model(s) vs. U.S. • Political – keeping power while coping 4

EU vs. Global Economy • EU-25 economy out of “synch” : – Limited business opportunities, labor constraints, low Rate Of Return on capital = – FDI outflow to U.S., China developing world = EUR appreciation = slows export growth – EU is No. 1 U.S. trade - investment partner – China-India labor force direct threat to EU = EU policy makers get more protectionist – EU-15 Geezer Land but immigrants unwelcome 5

Real GDP to ‘06 By Region (%) • EU 2% growth trend lags US, CH, Emrg. Mkts.

• China leads Asia and Emrg. Mkts.

• Source: IMF World Economic Outlook, Sep05 6

Top Importers of Merchandise, Commercial Svcs In 2004 30.0

% of World Total

25.0

20.0

15.0

10.0

5.0

0.0 U.S.

EU

China Merchandise

Source: WTO Statistics, Nov05

Japan

Canada

Services

7

S. Korea

EU-25’s Principal Trading Partners (USD bn in 2004) 600

500

400

Expts.

300

Impts.

200

100

0 U.S.

China (exHK)

Russia

• Source: Eurostat, Oct05

Japan

Switzerland

8

Europe’s Competitors For Oil

• Source: The Economist, 27aug05

9

Intl. Oil Demand Growth Eases (Citigroup, GEOS, 26 Oct05)

10

U.S. – China Oil Output Forecast Trend – 2002 - 2025 12

Mm. bbl. per day

10

8

U.S. China

6

4

2

4 2 02

22 2 0

20 2 0

8 2 01

6 2 01

4 2 01

2 20 1

0 2 01

8 20 0

6 20 0

4 20 0

2 0

02

0

Source: U.S. Energy Information Administration, Oct05 11

U.S. – China Oil Consumption Trends Forecast - 2002- 2025 30

Mm. bbl. per day

25

20

U.S. China

15

10

5

20 24

20 22

20 20

20 18

20 16

20 14

20 12

20 10

20 08

20 06

20 04

20 02

0

Source: U.S. Energy Information Administration, Oct05 12

Saving, Investment, C/As (%GDP)

•

Source: IMF World Economic Outlook, Sep05

13

Saving, Investment, C/As In China, East Asia (%GDP)

• Source: IMF World Economic Outlook, Sep05

14

China Saving By Sector (%GDP) • Gross domestic saving near 50% • Business unable to invest enough • Consumer spends and saves less • Even govt. saves • Source: IMF World Economic Outlook, Sep05 15

Interest Rate Differentials Fed funds vs. ECB -- 10-yr Treas. vs Bund Ylds 7.0

6.0

4.0 Fed funds ECB

3.0

2.0

1.0

0 5 O c t-

A p

J a n -0 5

r0 4

0 3 J u l-

O c t0 2

J a n -0 2

r0 1 A p

J u l0 0

9 9 O c t-

J a n -9 9

0.0

6.0 5.5 5.0 4.5 U.S. 10-yr.

German 10-yr.

4.0 3.5 3.0

5 e S

n -0 J

a

y M a

• US-EUR yields diverge since May 2004 • China policy to track U.S. ?

p -0

5

4 -0

3 S

e p

-0

3 J a

n

-0

-0 y M a

p -0 e S

a

n -0

1

1

2.0

2

2.5

J

Percent

5.0

• Fed tightens since June 2004 • ECB at 2.0% since June 2002

16

Dollar – Euro Waltz – 1999 – 2005 USD:EUR (red) – EUR:USD (blue) 1.40

1.30

1.20

1.10

1.00

0.90

0.80

0.70

17

5 -0 ct O 4-

4 -0

3

05 nJa 4-

pr A 4-

l-0

Source: Federal Reserve daily data to 21oct05.

Ju 4-

2 -0 ct O 4-

1 -0

0

02 nJa 4-

pr A 4-

l-0 Ju 4-

9 -9 ct O 4-

99 nJa 4-

•

As long as they focus on each other…

• Source: Financial Times, 28sep05

18

EUR TW Indices & Bilateral FX 1999 - 2005

Source: ECB, Monthly Bulletin, Oct05

19

Euro Area FDI, Portfolio Flows

• Source: ECB Monthly Bulletin, Oct 05

20

EU’s Declining Growth Potential

Source: CrĂŠdit Agricole, Nov 05. EU potential per Oct 05 Consensus Forecasts. ECB production function estimate, for its monetary policy, is 1.75% vs. 2.0-2.5% in 1980-2000.

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Current EU – CH Issues: • Trade (textiles, arms), capital flows and FX • Energy & metal supplies – CH competes • World labor force with China + India = structural changes forced on Europe • China lowers EU prices = disinflationary, slowing economic and job growth • FDI: CH may rival US as future pot of gold • Security issues: arm sales vs. cordon 22

EU’s Medium-Term Challenges • Economic growth of 1.5% to 2.% to 2007 • UR stabilizes at 9% • EUR deficit = 3.2% • EUR slips vs USD • Biz confidence up if Merkel produces • EU budget squabbles • Trade protectionism sentiment rises

• No new constitution until French vote 07 • Accession talk delay • EU process slows • Politics move right • Anti-immigrant trend worsens • Disputes with U.S. grow in number, tone 23

Do Euro-Leaders have a clue ?

• Source: Internet, late 2004

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Special EU – US - CH Issues • • • • • • •

H5N1 – do CH farmers get paid to cull ?

Counterfeiting, patents, copyrights Corporate, tax and property law Human rights … for 1.4 billion Environmental issues … for everybody Demography – EU grays, US ages, CH ?

China’s competitors tomorrow : India, Burma and … TN ?

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