Tim Harcourt

The recent death of former prime minister Gough Whitlam at the grand old age of 98 was a significant event in Australian history, but also in China. After all, it was Whitlam who took the risk of visiting Peking (now Beijing) as leader of the Opposition in 1971, despite domestic pressure to shun China.

At the time, Whitlam took a lot of heat from the incumbent McMahon government – but only for about a week, when it was revealed that US secretary of state Henry Kissinger had been in Peking, too, paving the way for president Richard Nixon to recognise China.

After winning the 1972 election, Whitlam returned to Peking as prime minister in 1973 when he and his independent and equally charismatic wife Margaret were feted as great friends of China. It was a triumph. In many ways Whitlam was the first Western leader to recognise China. When talking to him – and, later, his chief of staff John Menadue – it was explained that the decision to recognise China was part of the Whitlam vision to engage Australia more comprehensively with the Asia-Pacific region.

Whitlam and South Australian Labor premier Don Dunstan had already fought hard to get rid of the White Australia Policy from their party’s platform. For most of the 20th century, Australia restricted immigration to ‘white’ people (that is, mostly the British and northern Europeans) despite its proximity to Asia and the presence of an indigenous population who were not white.

Whitlam and Dunstan took the principled view that if you wanted to trade and invest with people, or sell education services to them, you shouldn’t prevent them from immigrating because of the colour of their skin or racial origin.

It was part of the big picture, diplomatically to engage with Asia, and to allow the exchange of ideas, art and culture as well as goods and services – to feel more confident in the region, particularly after the difficulties of the Vietnam War.

Since 1971, China and Australia have gone from strength to strength and China is now our number-one trading partner, number-one export destination, and number-one import source (the two-way trade relationship alone is worth almost A$142 billion). China and Australia have gone through different phases in our economic partnership. First, we had the trade of commodities phase, where we exported ‘rocks and crops’ (resources and agriculture) to help China’s industrialisation and urbanisation as it pulled millions of people out of poverty. For Australia, this was both a ‘mining boom’ and a ‘dining boom’.

Then we developed advanced manufacturing and professional services, and foreign investment started to flow both ways. The second and third-tier cities of China, such as Chengdu, Chongqing and Wuhan, began attracting Australian builders, architects and designers as it invested in infrastructure for its rapid rural-urban migration and growing middle-class consumerism. Brisbane planning and design consultancy Place Design has a Chengdu office to build landscape gardens for the urban middle class. It’s a long way from the rice paddies of the poor rural areas.

We are seeing a new phase with the development of financial services and other forms of co-operation, such as the conversion of the Chinese currency to Australian dollars, a new free trade agreement (FTA) and potential Australian support for a Chinese development bank, following on a tradition of strong Australian support for China on major international issues, such as support for China to join the WTO, and support in APEC and the G20.

But what of the future? Recently Australia was surprised to see China, under pressure from local producers, put through tariff hikes on coal targeting  Australia exporters. While this won’t derail the FTA, it does warn foreign observers how many decisions can be made by fiat in China, regardless of the economic logic.

Some have called for the Australian government to leverage its support of the Chinese development bank to try and reverse the tariff decision but it’s likely the two issues will remain separate. There are also more controversial measures to allow ‘purchase’ of permanent Australian residency via real estate investment which may pressure the local real estate market and provide incentive for party officials to invest (which could entice corruption).

On the other hand, Australia has supported the strong anti-corruption stance taken by the Fourth Plenary of the Party Congress and has vowed to co-operate with China on extradition of corrupt officials. These measures are directed at strengthening mutual trust between Australia and China because China now knows that to succeed in the 21st century, the country’s future progress is as much about corporate governance as it is about growth.

Whitlam was often criticised for his lack of interest in economics, compared with his interests in foreign policy, constitutional reform, urban issues, equal pay, the rights of Aboriginal Australians, and his support for Asian immigration.

But ironically, his brave call to go to China in 1971 was perhaps the most important economic decision made in Australian history during the past half century.

Tim Harcourt is the J.W. Nevile fellow in economics at UNSW Business School.

Tim Harcourt

We get a lot of free advice from billionaires on how to deal with Australia’s largest trading partner, China. First, we had gaming mogul James Packer saying we didn’t “bow enough” or treat our trading partners with sufficient deference. At the other end of the spectrum is Mineralogy owner Clive Palmer.

The two billionaires’ remarks, especially Palmer’s reference to “mongrels” and “bastards”, created ripples in Beijing and Canberra. Palmer has since apologised. But do either Packer or Palmer really have an impact on the long-term trading relationship between China and Australia? And what’s the future of Sino-Australian trade ties?

While iron ore and coal are a big part of the story, Australia will move from the mining boom to the dining boom, as its food exports grow rapidly and it sees more agricultural delegations visiting China to build up domestic farm capacity.

But will the trade relationship move beyond rocks and crops? It won’t and probably doesn’t have to.

Primary industry brings with it associated services in mining equipment, agricultural technology, human capital and education resources that China needs. In this regard, the proposed China-Australia free trade agreement (FTA) should help reduce agricultural tariffs and subsidies and smooth away tight services regulations.

According to the latest DHL survey, most exporters would welcome an FTA with China. Up to 61% of exporters think an agreement would benefit their business, 31% think it would be neutral and only 8% think it would have a negative impact.

In some ways, China’s development is as much about urbanisation as it is about globalisation, and Australia will play a big role in servicing China’s second and third-tier cities, such as Chongqing, Chengdu, Wuhan and Qingdao, which my Chinese friends tell me are “country towns” with more than or close to 10 million residents.

This means opportunity for Australian architects such as Place Design, which has moved its office from Brisbane to Chengdu to meet the insatiable demand for landscape gardening in Sichuan province, and Sunshine Coast horticulture company Bassett Barks, which has found China to be a happy hunting ground.

But the story of China’s structural reform is not only about rural-urban migration; it is also about transforming itself from being a nation of shippers to a nation of shoppers. It wants to rely less on exports and more on domestic consumption and investment.

Middle-class incomes are on the rise along with the demand for consumer goods, which were once considered a luxury in China. That’s why water-heater manufacturer Rheem is now based outside Chengdu to service the domestic market and BlueScope Steel is based outside Shanghai to transfer steel locally, free of tariffs.

Add to this the opportunities in the professional services sector, such as architecture, landscape design, education and financial services and the win-win picture becomes clear.

In fact, Australia’s export relationship with China is more broadly based than people think at first glance. According to Australian Bureau of Statistics data, more than 5,600 Australian small and medium-sized enterprises (SMEs) now export to China (plus another 4,900 via Hong Kong) and more than 3,000 are based in China and are flourishing.

More Australian businesses lose money in the US than in China, and more SMEs export to China than to the whole of Europe. Australian SMEs have battled their way into China and over time many have forged a reasonable business through enduring relationships.

Maybe we should listen more to the little Aussie battlers in the SME sector and less to our billionaires on how to succeed in China in the long run.

Tim Harcourt is the J.W. Nevile fellow in economics at UNSW Australia Business School. A version of this post appeared in China Daily.

Vic Edwards

Chinese Premier Li Keqiang may have slid comfortably into the spotlight in his rousing speech to Beijing’s Great Hall of the people on Wednesday, but there is another spotlight that needs to shine for China to maintain sustainable growth – and that is on the country’s inadequate economic infrastructure.

China has high saving rates, an ageing population and lack of welfare safety nets – and will have to build a sophisticated wealth management sector to support healthcare, aged care and education.

Unfortunately the expectations of some of its political and financial leaders seem to be that educational institutions around the world should have detailed knowledge of its economic systems and provide a quick fix.

Sending hundreds of thousands of students overseas to study may help them to gain an insight into how the rest of the developed nations work – but overseas universities cannot   undertake all facets of research and teaching to remediate weaknesses in the future development of the Chinese economic, financial and socio-political system.

Among G20 nations, the US and China wield the greatest economic power. In China’s case, it combines massive purchasing power and the sort of can-do attitude (perhaps minus the personal freedoms) that characterised the building of the US economy during the 20^th century.

But China’s desire to succeed is racing ahead of the economic infrastructure essential to realise its ambitions – and of the education and training needed to guarantee the effectiveness of the systems it puts in place to solve ageing, welfare, taxation, environmental and other issues.

International Accounting Standards Board member Dr Wei-Guo Zhang said recently that Australian universities were not capitalising on China’s desire to learn from our experience. Not enough research was being done to adapt Australian laws and institutions to China, while graduates’ were returning with western qualifications not useful or relevant, he said.

 However, China needs to drive more research and education itself.

Most of the students that come to the first tier Australian universities enrol in business or engineering. Very few enrol in law or economics where they teach tax, public finance or social welfare issues. So Chinese students are not seeking knowledge in some of the crucial areas in which China needs to develop knowledge and skills.

China also needs to fund research in areas of need. It has largely thrown the onus of funding for research back upon foreign universities. Foreign universities are cash strapped enough after the global financial crisis. They are increasingly less likely to come up with funds for solving Chinese economic, financial and social problems, particularly so as China was only a minor casualty of the global financial crisis and has not missed a growth target since 1989.

Linked to this is the fact that, until very recently, research on China issues were not considered relevant to top rate academic journals (mainly American or European).

Chinese databases are generally unreliable. Reasonably accurate data rarely extends back more than 10 or 15 years.  In finance, accounting and economics, there is one central data collection covering the Shanghai, Shenzhen and Hong Kong Stock Exchange databases over 20 years. This database, built up by a single, very dedicated Professor from Tsinghua University, is used by accounting and finance staff from the University of New South Wales.

The official Chinese data from government departments is unreliable, flawed and manipulated – so there are very real concerns about results from research conducted outside China using this data.

And in all likelihood the real worth of many of these foreign-trained students may be going unrecognised. Some returning students have analytical skills their bosses don’t have, but the bosses will sign their names to it as if they did it – so these younger people don’t get the recognition.

The Australian School of Business is doing a considerable amount of research into the issues facing modern China – in ageing and welfare, environmental issues (e.g. emissions trading schemes), finance and revenue, post GFC Issues and Australia-China relations, as well as broader economic, financial and socio-political global-Chinese issues.  UNSW has also given significant assistance to China in medical research, fuel cell and energy research as well as developing biochemical means for mopping up pollution spills etc.

Academics sometimes have to update textbooks (as I have done recently with an American textbook on Bank Management) so that it is “Asianized” to account for the impacts and outcomes of the global financial crisis upon China, but also other ASEAN economies. This involved dealing with the differences in government regulation, competition, as well as the ring-fencing of Asian economies from external bubbles and weak but significant financial institutions of western nations. There is no equivalent text coming from China.

Chinese Premier Li Kerbang has acknowledged the “deep-seated and structural problems” facing their economy, saying there was a need to build an “upgraded version of the Chinese economy, focusing on improving the quality and efficiency of development.”

“While growing the economy, our top concerns are raising personal income in tandem with economic growth, strengthening the social safety net and continually improving people’s livelihoods,” he said.

At his Great Hall speech on Wednesday he foreshadowed “painful structural adjustments” needed for the economy to meet the 7.5 per cent growth target.

If the country does not tackle the structures needed to channel private wealth into adequate health care, aged care and education, many in the nation will also have to wear some long term pain.

 Vic Edwards is a Visiting Fellow at the Australian School of Business

Geoff Weir

There is no doubt China wants the renminbi (RMB) to become a major global currency. While there is no public timeframe, one thing is clear: the ongoing move towards internationalisation of the RMB will have a huge influence on global volumes, currency denomination and location of financial flows and financial market activity over the coming decades.

China will within the next decade be both the world’s largest economy and the single most important driver of global trade.  The move towards internationalisation of the RMB will require ongoing relaxation of capital controls on China’s inward and outward investments, and full currency convertibility.

These factors will see a massive increase in investment and trade-related flows into and out of China, and in the associated provision of RMB denominated financial products and services in trade financing and investment.

There will be winners and losers. For instance, local and offshore investors have used Australian dollar and Australian dollar denominated assets as proxies for exposure to the Asian growth story. As the RMB becomes fully convertible and capital controls are gradually eased, these “proxy” trades will decline.

So how is Australia positioned to ensure it benefits from these enormous changes?

To date the process of building up RMB liquidity offshore has focused on encouraging RMB trade invoicing. While only a small proportion of Australia’s trade with China is currently invoiced in RMB, a recent Bank Customer Survey of Australian companies trading with China showed that it is likely to increase, potentially resulting in a build-up of RMB liquidity and RMB-denominated financial products and services in Australia.

Looking beyond trade invoicing, there are good reasons why Australia has the potential to become an important part of the offshore RMB network. For starters, Australia is ideally positioned, being the first major financial market to open after the US closes, before Singapore, Tokyo and Shanghai, and remaining open for much of the Chinese trading day.

Australia has a world class payments settlement system and a predictable, efficient and well-regarded legal framework and regulatory regime, with strong prudential oversight.

Australia already has critical mass and liquidity in funds management, and equities, derivatives and foreign exchange markets.  This is allied with a robust banking system and efficient distribution platforms, providing both liquidity and confidence.

While the extent to which in practice Australia develops as an offshore RMB hub is very much in the hands of the Chinese authorities, Australia has reasons for optimism. Firstly, in 2012 China and Australia entered into a bilateral currency swap agreement. The swap facility is the fourth largest after Hong Kong, Singapore and South Korea.  Last week it was announced the AUD has just become the third major currency outside of USD and JPY to have direct trading against CNY. And perhaps most importantly, the recently announced strategic partnership between China and Australia will provide an annual forum at which policy issues can be discussed.

So there are encouraging reasons for thinking that China may be willing to encourage and support Australia’s development as a location for the expansion of the network of offshore RMB hubs.

Nonetheless, more work needs to be done on understanding the key issues, drivers and impediments for developing RMB business in Australia. They will be the subject of a joint research project to be conducted by the Centre for International Finance and Regulation (CIFR) and the Shanghai University of Finance and Economics. This important project was announced last Friday by the Treasurer at the RMB Trade and Investment Dialogue in Sydney. It will incorporate a survey of both Chinese and Australian companies regarding constraints to RMB invoicing; the implications of RMB internationalisation for regional and global financial markets; and the market conditions and policy framework that may need to be in place to encourage development of an offshore RMB market in Australia.

Australia benefits enormously through its trade links with China. We now need to ensure that we have both the market conditions and the policy framework in place to also benefit from the massive changes that are just beginning in global financial markets as China eases its capital controls and moves towards a more market determined exchange rate.

Geoff Weir is a consultant for the Centre for International Finance and Regulation. A version of this article was previously published in The Australian Financial Review.

Rosemary Howard

Not the big end of town, but not small either, Australia’s  mid-market (defined by companies with revenue of $10-$250mil)  makes up just 1.4 percent of Australian businesses yet contributes more than a third (37 per cent) of Australian business revenue, contributes 21 per cent of deposit and borrowings and employs one in five Australians (23 per cent).

These businesses contribute around $425 billion in added value, compared to large and small businesses – which contribute $393 billion and $373 billion respectively.

The mid-market is the fastest growing sector in our economy, yet it often flies under the radar. By focusing on this sector, we can support its growth — not only here but into Asia, which is where the growth lies.

Recently, the Australian Government released the “Asian Century” whitepaper which addresses how to ride the wave of Asia’s continual growth. This is about government investment in education, infrastructure, workplace change and assisting companies find bigger markets for 2020+.

For mid-market businesses in Australia, the Asian Century whitepaper signifies the need to network and be open to the world, particularly to Asia. Geographically, Australia is intrinsically linked to Asia and we are in an enviable position given the tremendous growth of China and the Asian tigers.

Australia is now at a very important point in its history.  The world is changing dramatically and a strong Asia focus is required.  This applies at the general economic and society level as well as at the company level.

Let’s have confidence and stay positive.

Leadership. Innovation. Collaboration. Openness. Investment.

These areas are critical to the future of Australia’s mid-market sector.

Rosemary Howard is the Executive Director and Conjoint Professor of Executive Education at the Australian Graduate School of Management.

Rosemary has over 30 years experience in senior management with executive leadership positions in public and private sectors. Prior to joining AGSM, Rosemary was CEO at TelstraClear and inaugural Managing Director, Telstra Wholesale. Previously, Rosemary was Executive Director, NSW Department of State Government.

Rosemary holds a Bachelor of Science from Sydney University, Masters of Science and Society from UNSW and Graduate Diploma of Management from AGSM.  In 2003, she was awarded an Australian Government Centenary Medal for ‘Service to Australian Society in Business Leadership’.

From the Knowledge@Wharton today blog.

When Burberry recently reported that sales at stores open a year or more were flat, and suggested that profits are likely to be on the disappointing side, some people began to wonder if Burberry might be the canary in the coal mine – a harbinger of lower sales in the luxury sector over the coming months.

A Wall Street Journal article today supports that theory, noting that diamond sales in China are expected to grow more slowly this year than last, while Daimler AG has announced that its Mercedes-Benz division would miss its profit target in China and expects lower sales for its Porsche division.

Is London-based Burberry indeed an example of what we will see in the luxury goods market? What are the implications for the global economy and, equally important, for the upcoming holiday season?  

Burberry suggests that its slowdown is “a sign of an upcoming trend in the luxury segment,” says Wharton marketing professor Barbara Kahn. “Although it is hard to know for sure, there is some indication that this might be a correct analysis.”

Much of the ability of the luxury segment to maintain steady growth has been due to strong performance in China, she adds, and “recently, this growth has slowed down for several reasons. First, as the Chinese luxury consumer gets more sophisticated, [his or her] need for purchasing high-end visible status symbols slows down. Many of Burberry’s products are high status — and visibly so, due to the famous ‘check’ [design].” Now that consumers are gaining more confidence “in their own positions of wealth, these types of purchases may decrease.”

In addition, Kahn says, China’s economy is slowing down, “and there are indications that the government will not provide substantial stimulus mechanisms, as they have in the past, to keep up the growth levels.”

Burberry, a luxury fashion house that sells accessories and clothing for men, women and children, has approximately 235 stores and outlets, and can be found in more than 200 upper-end department stores worldwide.

An article in The New York Times noted that Burberry’s main customers, “known in the industry as traveling luxury consumers, [include] just over a third in Asia, a quarter in the Americas and a little less than a third in Europe.”  The article, published shortly after the disappointing figures were announced by the company, quotes Burberry CEO Angela Ahrendts acknowledging that “the external environment is becoming more challenging,” and suggesting that Chinese consumers may be slowing down their luxury purchases only temporarily, waiting to see how the upcoming leadership changeover in China affects their purchasing power. 

Wharton marketing professor Z. John Zhang has a slightly different take. “I don’t believe that the overall consumption of luxury goods in China is going down, and even if it is, it will not last for long,” he says, adding that economic downturns typically do not affect many luxury goods consumers, “especially in a country where the income disparity is huge. If anything, in a downturn, you need to look even better to impress your peers.”

Burberry’s lower sales could be due to a number of reasons, according to Zhang. “First, more and more people in China are going abroad for shopping. The people who could afford to travel abroad are those who could afford to buy luxury goods, and there will be a substitution effect. Second, there may be more fake luxury goods in the Chinese market. After all, during a downturn, you do what you must to survive. The supply of fake goods may have increased considerably now that the economy is getting tougher.”

The worst outcome for Burberry in China, he adds, is that “it is no longer on the top of the Chinese customer’s list of luxury goods [to purchase]. These consumers are constantly looking for new ways to distinguish themselves and to stand out in a crowd. It is an arms race [among] luxury brands to find new ways to provide exclusivity to their customers.” The disappointing news from Burberry could reflect the fact that the company “is losing favor with exacting Chinese consumers.”

So what’s ahead for Burberry and other luxury goods retailers?

“The luxury retail sector was the first to recover after the recession, partly due to strong demand from China,” says marketing professor Stephen Hoch. “Maybe they are now at a pausing point.” Any weakness that is evident, he adds, “would be due to Europe and China rather than the U.S., where the rich seem to be doing just fine relative to everyone else.” In China, if the new stores — where you would expect the biggest increase in same store sales since they are new — showed any weakness, “then this could be a big contributor,” he points out. “It is hard to predict whether Burberry is a harbinger of anything else. I tend to doubt it, but we will see.”

Kahn notes that the continuing uncertainty in Europe is definitely a factor in lower luxury goods purchasing. In addition, she has read reports suggesting that the new Chinese leadership team – expected to begin transitioning as early as next month – “is not likely to provide as much stimulus to the economy as they have in the past.”  Finally, if Burberry’s slowdown is indeed a general trend, and not unique to Burberry, “I would expect to see similar slowdowns in other highly visible status luxury purchases, such as LVMH and Chanel.”

And the outlook for the luxury goods sector during the all important holidays? “As usual, it is hard to predict the upcoming holiday season,” Kahn says. “The back-to-school season was reasonably strong — relative to our new, more moderated expectations — so people are cautiously optimistic. I think the current thought is that we should see a holiday season fairly similar to last year – which is reflecting the slow but steady growth patterns.”

This post was previously posted in Knowledge@Wharton today blog: Is Burberry the Canary in the Luxury Coal Mine?

Vic Edwards

Read virtually any newspaper at the moment, and you’ll be told how China could be about to witness a sharp economic contraction, which could impact on Australia’s AAA credit rating.

New figures show China’s export demand has moderated and orders in construction and real estate have contracted. That has compounded fears China is mirroring a slowdown in the global economy.

Many commentators have indicated that China will have a hard economic landing. My view is that this is wrong, and China is more likely to have a soft or cushioned landing provided that the USA does not slip into a steep recession or depression.

A sharp slowdown in China would cause problems in Australia because of its large exports in minerals, pushing Australia’s current account into deficit.

The ratings agency Standard & Poor’s has warned that Australia’s AAA credit rating could be at risk – and losing ­Australia’s top sovereign debt rating would threaten banks ability to borrow offshore. These concerns have seen the Australian dollar falling almost one US cent, and the ASX trading below 4,000.

I attended the Fitch Ratings Credit Forum, and found its assessment of China’s future outlook was much more pessimistic than my view. I am optimistic about the future for China, and while the rate of growth may slow down, any threat to Australia’s credit rating is unlikely to come from the booming Middle Kingdom.

The Chinese purchasing managers’ index fell to 55.2 in May from 56.1 in April, according to new figures from the China Federation of Logistics and Purchasing. A reading above 50 still indicates expansion.

On my visits to China over the past few weeks it has become clear that China is successfully making the transition from an export oriented nation to one that is much more based on domestic consumption. Certainly, this will cause a drop in its growth rate from 11% per annum to around 8%, but this is still a favourable outcome.

The change to a domestic economy is one that is good for Australia, with China still importing many raw materials. A factor not accounted for in most of the recent analytics of China is the fact that the enormous effort in developing infrastructure has been greatly misinterpreted. Western analysts and some of the investment banks have pointed to what seems to be excess capacity in having empty office blocks and highways leading to nowhere.

However the massive construction projects that are going on in the second tier cities such as Qingdao, Tianjin, Changsha and Chengdu are pulling people back from Beijing and Shanghai and providing a future base for decentralisation. New very fast trains are now permitting rapid and cheap transport. This is a real plus for China’s future. It will decongest the cities of Beijing and Shanghai and lead to future growth and development of the poorer western regions. Throughout my latest visit, I have seen that the investment in infrastructure is paying off.

Vic Edwards is a Visiting Fellow in Banking and Finance at the Australian School of Business.