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China-EU Summit rules OK

European officials breathed a collective sigh of relief when they returned to Brussels after the 10th China-EU Summit on 28 November. European expectations were low and many saw damage limitation as their top priority. Frustration had increased over the trade deficit, which is rising at the hourly rate of €15m; the fall in the value of the renminbi as result of the declining US dollar; EU exports to China still being less than those to Switzerland; and Chinese inward investment restrictions. Protectionist talk in Europe is growing.

China was apparently upset with Trade Commissioner Peter Mandelson’s tough words on the trade deficit and currency valuation; and more particularly at his linking product safety with counterfeiting. They also believe that some national EU attitudes towards Beijing have hardened, led by Angela Merkel. The Chinese are also disenchanted with the failure of the EU to speak with a cohesive voice (other than on trade policy). They note the competition between its leading Member States, although at the same time, are happy to exploit the differences and even help drive a wedge between France and Germany.

Prime Minister Wen Jiabao’s proposal, therefore, that a High Level Economic and Trade Dialogue be established between the European Commission and the Chinese State Council at the level of Vice-Premier, made the result of the meeting constructive. This mechanism will discuss trade, investment and economic cooperation strategies, coordinate bilateral projects and studies, and develop plans in priority sectors. It will address the trade imbalance, including market access, intellectual property rights, environment, high technology and energy, “in order to find concrete means increase trade in a balanced way”.

The two sides agreed to enhance their cooperation on macroeconomic policy, fiscal and financial policies, and reforms and regulation of the financial sector. This followed the useful discussions in Beijing on 27-28 November between the ECB President Trichet, Commissioner Almunia, EuroCouncil Chairman Juncker and their Chinese counterparts – the first of their kind.

The leaders had greater success than their officials, who took five days (including part-nights) to agree the Joint Declaration. Its contents will be addressed in a later blog.

The Summit, of course, is not much more than a symbolic occasion, lasting not much more than two hours. What next? It is too early to say whether the new ‘strategic’ mechanism – which in any case will not be in place until March 2008 – will lead to China and the EU seriously addressing together macroeconomic policy, currency values, deficit reduction and the like, or simply be a talking shop. The China-US equivalent has so far had limited results. Is it not perhaps time for there to be tripartite discussions? In the meantime, the negotiations for a Partnership & Cooperation Agreement are making slow progress.

No-one has so far come up with solutions acceptable to both Europe and China. Our economies are inextricably interlinked. In understanding the deficit, two factors must be taken into account. Over one-half of Chinese exports apparently come from factories wholly or partly foreign-owned, often with little value added in
China. Much of the deficit is with Asia rather than China because, were Chinese exports to be reduced, they would be replaced by products from Vietnam, Bangledesh etc. Peter Mandelson is therefore right when he does not ask the Chinese to reduce their exports but to help Europe sell more to China.

Although the pace of renminbi revaluation is too slow, it cannot move too fast. The only way forward seems to be for China to reduce domestic saving (now at the incredibly high rate of 40-50% of GDP) and to stimulate spending. A start could be made on introducing a social security system and free education, so as to reduce the need for families to save so much.

President Hu Jintao, in his closing speech to the 17th Party Congress in October, clearly outlined the steps that must be taken: the disagreement is over the speed. The Chinese leadership is understandably cautious as it does not wish to risk instability, but acting too slowly can also bring on insecurity. It seems even to a non-economist that both China and the US are defying the laws of economic gravity. No developing country has ever had such a vast trade surplus or over one trillion dollars of currency reserves. No major country has ever run up such a huge current account deficit, financed by cheap bond issues to Asia. How long can this unnatural situationon continue?

The international macroeconomic and monetary system may be insufficient to withstand a crisis, such as could be sparked off by further revelations of bank exposures to the US sub-mortgage problem and its knock-on effect, a recession in the US, disruption of supply from a major oil-producing country, or a series of major terrorist attacks. It is therefore urgent that the EU, US and China take a lead in strengthening the necessary international cooperation.

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