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When the world was reeling from the global recession, China was the leading the global economic rebound. The Shanghai Composite Index surged ahead by 80%, and companies like China North East Petroleum (NYSE: NEP ) and China Automotive Systems (Nasdaq: CAAS ) rose by more than 600%.
The country’s massive stimulus package spurred investment in infrastructure and boosted demand for equipment and commodities, helping companies like Caterpillar (NYSE: CAT ) and Freeport-McMoRan (NYSE: FCX ) . But as China attempts to cool what officials feel is an overheating economy, concerns swirl around what those actions will mean for the sustainability of the global economic recovery, and companies like Diana Shipping (NYSE: DSX ) that rely on global revenue streams.
Mark Edwards, vice president and portfolio manager for T. Rowe Price Emerging Market Stock Fund (PRMSX), weighed in on these topics in an interview, as well as discussing how the global recession has initiated a rebalancing of the global economy.
Here is an edited transcript of our conversation:
Jennifer Schonberger: Given that China is taking steps now to rein in lending and cut the amount of capital sloshing around in their economy, what do these actions mean for the global recovery? Is it premature to pin global economic recovery hopes on China?
Mark Edwards: I think last year China definitely led the rebound in terms of demand for commodities, which helped areas like Brazil [and] Australia. We think that China is cooling its economy very gently. So while it’s taking its foot off the accelerator, it’s certainly not putting its foot on the brake yet. So I think demand will remain very strong in China.
Secondly, ultimately, the West will need to recover on its own steam, and China isn’t going to be able to drag the west out singlehandedly. I don’t think Western economic recovery will suffer because China is trying to gently cool its economy.
Schonberger: Incidentally, economists at JPMorgan (NYSE: JPM ) are projecting that consumers from emerging markets will account for 33.6% of the world’s consumer spending, compared with 27.1% from the U.S. Have we entered an era where the emerging-market consumer replaces the U.S. consumer as the world’s consumer?
Edwards: For the last few years, the BRIC economies, led by Chinese consumption, has been replacing [the U.S. consumer]. The drop in U.S. sales has almost exactly been replaced by the growth in Chinese sales. Previously, the world was over-reliant on the U.S. consumer. We think it’s much healthier now that there are some big emerging nations, which are going to supply good drivers of demand.
Schonberger: The Chinese government has talked about driving economic growth for China internally rather than through exports. How long before that happens?
Edwards: It’s a process that’s actually been ongoing for a while that’s driven really by urbanization, infrastructure, the consumer, and the strong rural economy. [Pre-crisis,] the Chinese export boom was so strong ... because U.S. demand was very strong, and the Chinese economy was too heavily weighted toward exports.
... The export machine did collapse, but domestic demand more than compensated. In 2009, the economy grew at 8% to 8.5%. Net exports actually were a negative 4%, consumption was a positive 4.5%, and investment and fixed capital formation made up the balance.
So last year was proof that China isn’t actually totally reliant ... So in a way, the global financial crisis has helped that process of rebalancing, and has enabled the shift to encourage domestic demand.
Schonberger: There's talk of China allowing the Yuan to appreciate. What are the chances of that in your view, and what does it mean for China's economy?
Edwards: ... I think they’re waiting to make sure the Western recovery is really going to happen and not double dip. So as soon as they are convinced the U.S. and Europe are recovering in a sustainable way, and therefore that their export machine will see some demand, then I think they will have the confidence to allow their currency to go back to the pattern of a gentle appreciation.
... Now, they don’t like being told by the U.S. to change their currency. If President Obama gives them lectures, then they won’t do anything.
Schonberger: What are your expectations for China politically, and what does that mean for how you invest there?
Edwards: One has to remember it is an unusual model. It’s a capitalist-communist economy where the government is extremely involved, both in terms of setting policy and because they own a lot of the companies. They own some 65% of the listed companies on the stock market.
So, Rule No. 1: You never invest in a stock that seems to be against the general tide of government policy. Also, in areas such as the media, you have to be careful that you’re not going to invest in stocks that are going to cause political unhappiness. So, for example, from time to time they crack down on what’s going on with the Internet, or in terms of TV programming.
The third theme you have to remember is that they’re not elected democratically, but their power comes from enabling the people to become richer over time -- delivering a better quality of life.
In particular, the next generation of leadership will change in 2012. So we’re already starting to see a generational change on the horizon, which means decision-making may become more cautious. The retiring premier and president will not want their legacy tarnished, and they will want to hand over an economy that is in good shape.
For more from Edwards on where to invest in China, click here.