Time to rebalance

Posted on 19 Aug 2009 by The Manufacturer

EEF’s chief economist Steve Radley's monthly economics briefing...

.The right conditions for rebalancing the UK economy will eventually emerge and these will benefit manufacturers. But with global trade forecasted to shrink 10% this year, be prepared to wait. Meanwhile look for opportunities in Asia.

Over the past year, there has been a lot of talk about rebalancing the economy. Under this scenario, spending by households and government would grow more slowly as these groups looked to reduce their debts, with exports taking up the slack. This would create a growing role for manufacturers who would be able to take advantage of the more competitive exchange rate.

This sounds highly attractive but a quick glance at the economic statistics raises questions about how soon this is likely to happen and the challenges involved in sustaining a significant rebalancing. World trade is forecast to shrink by 10% this year, the largest fall in 60 years. The reality therefore is that a weaker pound and a more productive manufacturing sector can gain a larger share of the pie but the actual size of that slice is unlikely to be growing given what has happened to the overall pie.

Look east

Recovery in Europe is some way off and any upturn in the United States still in its early stages. However, we can take some encouragement from the fact that China and other parts of emerging Asia are showing signs of life. Some estimates suggest that industrial production grew by 30% in this region in the second quarter of this year, while China’s economy grew at an annualised rate of 16% in the last three months compared with the previous three. Growth in China is being encouraged by a combination of measures to encourage bank lending and a very large stimulus package of tax cuts and infrastructure spending.

Looking beyond this recession, we can be confident that this region will continue to lead the rest of the world and in ways that will create significant opportunities for manufacturers that have the strategy to exploit. Countries like China are in the catch-up phase where they are absorbing technological advances from other parts of the world and also have substantial scope to improve productivity. In most cases, the working populations of Asian countries are set to continue expanding in contrast to much of Europe. China is an exception to this but even here the decline doesn’t start to set in until the end of the coming decade.

Chinese consumers can spend too

There are also signs that many of the emerging Asian countries are looking to rebalance their economies away from relying on exports to drive growth. Indeed, it is something of a myth that trade has been the major engine of growth. With the exception of China, consumer spending has taken a growing share of economic output in this decade. But given its size China is an important exception and the evidence that its government is seeking to stimulate consumer spending is therefore significant. This is being driven by sizeable tax cuts for rural households and an expansion in their welfare state which is reducing the need for households to save for a rainy day. The government is also using its significant reserves to invest in China’s infrastructure. In the coming years, a significant proportion of this funding is likely to be directed towards reducing the carbon emissions associated with rapid economic growth.

These factors are behind forecasts of a return to rapid growth in many Asian economies. We believe that China is likely to expand by about 8% next year and, alongside India, growth by just under an annual 10% in the following three years. The Emerging Asian area as a whole is likely to be close behind at about 8% per year. The question, though, is whether enough of our manufacturers have the strategies to exploit these opportunities. We have seen a significant increase in the number of companies viewing countries like China as a major opportunity in recent years but our trade with these fast-growing markets remains fairly limited. Between 2001 and 2008, EEF surveys showed that the proportion of members viewing China as a major growth market rose from a quarter to about 80%. But sales to China and India combined still only represent 3% of our total exports and exports to Asia as a whole only 14%. However, this may underestimate our penetration in these markets, given that some companies will have established a presence there rather than relying on sales from the UK.

Operating in these markets, though, remains complex and it will always be important to be close to the consumer to understand and to respond to changing tastes. For UK manufacturers, growth opportunities are likely to be greatest for those that can maximise their offshore presence to tap into the growth in these markets. However tough the current recession may be, it is vital that manufacturers have strategies in place to take advantages of the major opportunities that the upturn will bring.

Steve Radley, chief economist at EEF, the manufacturers’ organisation