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China: They're just not that into us any more

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by April 15, 2016 General

“Sheep, iron mine and Sydney Opera House,” writes Yongyu Ma, a student, on the online forum Quora in response to the question “What do Chinese people think of Australia?”

Prime Minister Malcolm Turnbull this week headed a 1000-strong delegation of business people to China in an attempt to convince them we have more to offer.

Malcolm Turnbull raises South China Sea dispute

Malcolm Turnbull urges the Chinese leadership to settle territorial claims peacefully and lawfully. Courtesy ABC News 24.

Events and banquets were held across 12 Chinese cities, with Austrade officials acting as cupids, of sorts, setting up speed dating sessions for Australian businesses to tout the full diversity of our economic wares to Chinese buyers.

There’s more to us than sheep and iron ore, was the key message.

Australia had a clear comparative advantage in exporting iron ore, but it's less clear what can replace it. Australia had a clear comparative advantage in exporting iron ore, but it’s less clear what can replace it. Photo: Michele Mossop

It was Tony Abbott who in 2014 oversaw the inaugural “Australia in China” week, flying over with a similarly high-powered delegation of business people who, combined, were responsible for about half the value of Australia’s sharemarket.

In diplomatic terms, we’re coming on pretty strong.

Why the sudden stench of economic desperation?

The slowdown in China’s rapid economic expansion and “rebalancing” away from resource-intensive construction activity towards domestic consumption has dramatic ramifications for Australia’s quarter century of uninterrupted economic growth.

In the official lingo, Australia is being forced to “transition” away from the mining boom. But to what?

Julia Gillard began grappling with the “challenges and opportunities” presented by China’s maturing economic development in 2012 when she released Treasury’s ‘Australia in the Asian Century’ white paper.

It too extolled the opportunities that would flow for Australia to replace record iron ore exports with shipments of health and financial services, meat, wine and dairy.

Add to this list cherries from Tasmania and crayfish from Geraldton, Mr Turnbull this week told a “gala lunch”, while extolling the virtues of the recently signed China Australia free trade agreement. “The early export gains have been extraordinary,” he claimed.

It’s a nice idea that we could replace our mining boom with a services-driven export boom.

But it’s time for a reality check.

The Economics Society of Australia recently asked a panel of economists whether they agreed with the following statement: “As the Chinese economy makes its transition from investment-led to consumption led growth, the Australian service sector which currently accounts for around 20 per cent of total exports, will produce a second ‘Chinese economic windfall’ for Australians.”

A majority agreed, but most rejected the notion that the resulting services boom would be anything near the size of the commodities boom.

How could it?

China is Australia’s biggest trading partner, with about $150 billion of goods and services changing hands each year. Australia exports about $90 billion to China, and they send us $60 billion of goods and services.

Last financial year, our exports of iron ore accounted for more than half of our exports to China, followed by followed by coal ($7.5 billion) and gold ($7 billion). 

Our service exports, by contrast, pale in comparison, earning us $5 billion from educating Chinese students and $2.5 billion from travelling Chinese holidaymakers.

In the economists survey, emeritus professor at the Curtin Business School, Margaret Nowak, raised the obvious elephant in the room: Australia’s lack of a comparative advantage in services.

“In the case of consumption-led growth in China, there will be opportunities for Australian services providers in many fields, such as education, health and tourism. However, Australia does not have the obvious comparative advantage in these sectors that it had in the resources sector,” she wrote.

“Australian service providers will need to be competitive with other developed economies, including newer developed economies in our region such as Singapore. Australian suppliers will need to work hard and smart to be competitive in this market,” she concluded.

Despite the government’s rhetoric about all the “opportunity” that flows from a burgeoning Chinese middle class, in reality our major China boom is over.

While not many countries had the iron ore China needed to fuel its steel furnaces, there plenty of other suitors lining up to supply them with food, holidays and an education.

Australia can be as nimble, agile, innovative and excited as we like, but just because we’re good at providing services, doesn’t mean we’ll necessarily sell lots of them.

Economists make an important distinction between a country’s “competitive” and “comparative” advantage when it comes to trade.

Illustration: Glen LeLievre.

Illustration: Glen LeLievre.

Global trade makes all countries richer when countries specialise in producing what they are relatively best at: what they can produce at relative lowest cost. Cost, here, includes not just upfront costs of production, but the “opportunity cost” of not producing other things that we could be producing.

So, country A might have a “competitive advantage” at producing both widgets and ice-creams. It produces the best widgets and ice-creams at the lowest cost. But rather than trying to produce both, it makes sense for country A to specialise in what it is relatively best at, and leave country B to make the other.

A country’s “comparative advantage” is what should ultimately drive its export strategy. And in doing so, it is impossible to ignore relative costs.

It is far from clear that Australia has a natural comparative advantage in the sale of services. Australia is, after all, a high wage and high cost country. Unlike our rare deposits of iron ore, there are many other developed nations who can compete with us in the provision of services.

Indeed, the Chinese themselves, who may have lacked iron ore deposits, will increasingly provide their own services.

Australia must look to which services it can provide that others can’t.

If we’re looking for a comparative advantage to replace iron ore, we must find something similarly rare hidden on our own shores.

It is closer to home that Australia’s true comparative advantages lie: in our beautiful natural environment and safe political system.

Rather than gallivanting around Chinese provinces, government officials would serve Australia’s export prospects better by focusing at home in our areas of obvious comparative advantage: beaches and teachers.

In his response to the Economics Society’s poll, economist Max Corden, who co-authored an important paper on ‘Dutch Disease’ in Australia and the hollowing out of non-mining sectors of the economy, stressed the importance of investments in cities to boost service exports.

“We will have to ensure that our cities remain safe and foreign-friendly, and with adequate public transport,” he wrote.

Ensuring that our public transport systems are fast and easy to use, that our housing is affordable for international students, that our universities remain world class will do more than any trade expo could to boost exports.

Build it, and the Chinese will come to us.

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