Wednesday, May 22, 2013

Economic Repercussions from boycotting Chinese products

The recent worse than expected results from the GE13 has led PM Najib Razak to declare that their poor showing was due to the ‘Chinese Tsunami’. The Chinese are being blamed for the loss of the extra 7 seats to the opposition while at the same time the Opposition accused the ruling coalition of using dirty tactics to help them win the election. Hence, what started as a sabre rattling or loggerheads between them led to the development of other events such as the Black 505 gathering nationwide by the Opposition. In addition, the recent call by certain NGOs and pro-Umno bloggers to urge Malay consumers to boycott products of Chinese firms. I reckoned that such a move is uncalled for because it will worsen the already tensed racial divide.

Moreover with the recent announcement of our 1st quarter GDP growth of only 4.1% as opposed to estimated 6.2% really surprised many people. It was the worst performance since 2009. The following is the chart for our GDP growth since 2007.

Further to this Malaysia also plagued by continued Government budget deficit. A budget deficit is a situation where our Government spend more than it received and thus we are living off credit nowadays. It is similar to households spending more than it earned thus had to rely on bank credit and credit cards to supplement their deficit spending. Malaysia’s budget deficit of 4.5% to GDP is considered one of the highest in Asia and it will not end well unless we start implementing policies that promote more savings and less spending. The following is the chart for our Government budget deficit as of 2004.

The above economic indicators paint a bleak picture of what is in store for our economy in the near future. Unless we start implementing policies to pre-empt the coming economic slowdown, we with the rest of Asia will be hit hard by the coming economic headwinds and will be in for a hard landing.
We reckoned that the authorities should stop any attempt by whichever group that is trying to promote this boycotting agenda. Anyway, this is not the first time we are using this ‘boycotting strategy’. It reminds me of another incident of boycotting by our former PM Mahathir’s decision to initiate the ‘Buy British Last’ in October 1981. However this policy didn’t last very long and it ended in April 1983. This childish decision was made mainly in retaliation to London Metal Exchange’s decision not to fault the short seller. According to Mahathir, London Metal Exchange was biased in their decision for not fining the short sellers for their failure to deliver the physical tin needed to fulfil their short sell contract. On the contrary, Malaysia was accused for trying to corner the tin market by appointing a Swiss firm (Mark Smith) to ‘sapu all available tin future contracts’ so as to push up the tin price. There are many reasons for our massive loss on that venture and some being the following,

  1. Too confident on our side. Being the world’s largest producer of tin and our huge supply of physical tin stock made us feel confident that we can control the metal’s price. Or put it naively, we thought we can set the price of tin in the world market.

  1. Underestimate the liquidity of the futures market. Trading in the futures exchange especially the LME (London Metal Exchange) and CME (Chicago Merchantile Exchange) can run into billions of dollars a day. With the possibility of thousands of new contract created each day, the total open interest can be very huge. The futures market operates like an open ended fund whereby there is no limit to the number of shares (contract in futures) created unlike its cousin the close end fund. Hence trading in the futures market is subjected to very high risk.

  1. The mistake on our side to appoint only one broker to handle such a big operation. The reason may be due to the secrecy of the operation and thus the fewer people know about it the better. However the appointed of the sole broker to handle both the buy and sell side may pose considerable risk. On top of management and other professional fees charged they also received commission from our buying activity and at the same time may be supplying crucial information on our strategy to our opponents as this is a standard practice of many Wall Street brokers. In other words there is a possibility that we are being played out.

However it back fired because there seems to be an unlimited supply of tin contracts from the short sellers. Being unable to absorb the avalanche of contracts, it eventually led to the collapsed of the tin market and Malaysia loss heavily as a result. It is estimated that we lost about US$ 250 million on that misadventure. Hence in revenge Mahathir instituted the ‘Buy British Last’ in October 1981.

Fast forward to May 2013, we are again at a crossroad where we are confronted with the use of boycott. This time it aimed to punish its Chinese citizens for not being loyal and for their openly support towards the opposition. There are calls not only to boycott local Chinese products but also products from China. Those who call for the boycott may be forgiven as they are just parroting the wishes of their masters and also due their lack of economic literacy. Instead of calling for a stop to such acts our leaders remained silent. The question is if the boycott go as planned then what are the repercussions to our already weakened economy?

Inflationary effects on Goods and Services

One of the effects of the boycotting will be the imbalances in the price and quantity of goods consumed and produced. There will less consumption of goods produced by the Chinese while more non-Chinese produced goods will be consumed. Initially this will lead to an increase in the demand of goods produced by non-Chinese manufacturers and a drop in the demand of goods produced by the Chinese. As a result we will have different prices on the same item. The price discovery of any goods and services depends on the law of demand and supply. Hence as a result the price of goods like Gardenia bread, Saji cooking oil and kicap cap kipas udang will rise while Massimo bread, Cap Helang cooking oil and kicap cap Orchid will fall. Over time how the prices in the domestic front will readjust to its new equilibrium will depend on the pattern of future demand and supply.

What will happen when we include imports? As from our assumption above the boycott will also extend to goods made from China. What will be effect on prices? To find the answer we present to you the following equation which is also known as the Irving’s equation of exchange.

MV = PT where,

M = Money Supply
V = Velocity
P = Price
T = Transaction (Total amount of Goods produced locally and imported)

From the above algebraic equation MV = PT, we can obtain the P by the following.

P = MV/T

As can be seen, the P is influenced by the three variables i.e, M,V or T. Since we assumed that M and V being constant, it leaves us with only T. However, T is not only represented by the goods produced locally but also imported goods or produced in foreign countries. To illustrate how T affects the General Price level of goods and services we refer to the following example.

M = 10, V = 10 and T = 10
So, P = 10 x 10 / 10 = 10

Due to the boycott, the demand of imported goods reduced say by 20%  the value of T will be 8, hence

P = 10 x 10 / 8 = 12.5

As a result the General Price Level will be increased by 12.5%

Effects on FDI

Since the late 2011, data compiled by UNCTAD (United Nations Conference on Trade and Development) indicates that the rate FDI flows to Asia has slowed due to the growing uncertainties in the Global Economy. The recent economic woes in Europe and America did affect the amount of FDIs attracted to Asia. In recent years many countries in Asia has lost their competitiveness due to its rising wages and production cost. As a result those MNCs (Multinational Corporations) began to move their labour intensive operations (garments for example) to lower-cost centres like Bangladesh, Sri Lanka, Laos, Vietnam, Cambodia and so on. Moreover data from UNCTAD indicates that countries like China, Taiwan, South Korea, Hong Kong and Singapore are moving up the value added chain and that is from traditional manufacturing to the services sector. Te following is the FDI inflow chart of Malaysia as of 2002.

From above, although our FDI rebounded from a low of US$ 1.4 billion in 2009 to about US$10.7 billion in 2011, we should be aware that it is not an indication of better things ahead. Furthermore data from UNCTAD on South East Asia indicates that Indonesia and Thailand remains one of the favourite destinations for FDIs. The following is the table for the Top 10 destinations to receive FDIs from MNCs for year 2012 – 2014 by UNCTAD in its World Investment Report 2012.

United States

Other than cheap labour and access to large domestic market, political stability and transparency also plays an important part in attracting foreign investments. If this race factor were to played up again, I am sure those FDIs will not hesitate to turn around and move elsewhere as our country in recent years lacked a good supply of workforce (depended on foreign workers), have a smaller domestic market (compared to Thailand, Vietnam and Indonesia) and also lack of incentives. Less foreign investments means less jobs will be created, less supporting industries will be needed, less technology will be transferred and finally less foreign currency will be earned.

Retaliation from China

One thing for sure is that if we were to boycott ‘Made in China’ goods, China will not just stand idle and watch on the side-line. Evidence can be seen from the recent boycott of Japanese goods by the citizens of China. To assess the damage done to the Japanese economy since July 2012, I present to you below the Japanese export chart as of 2011.

As can be seen above as a result of the Chinese boycott, Japanese exports plummet from JPY 5643 billion to JPY4983 in December 2012. The alarming drop in its exports pressured the Japanese Prime Minister Abe Shinzo to massively reflate its economy by depreciating the Yen at the end of 2012. As a result the Yen depreciated by more than 40% and Japanese goods are relatively much cheaper than the rest of the world and hence its exports pick up as a result. This can be seen from the above since the beginning of 2013. What I can foresee is that this artificial boosting of export cannot not go on forever as other countries are following suit in the game of ‘Currency War’. There will be competitive devaluations among nations in the coming months and it will only end when their exchange rates reach a new parity where further devaluations will not produce extra advantages.

During the 1980s our ‘Buy British Last’ policy did not caused much damage to either of our economies because the British economy is just a shadow of its past. Britain can be considered at the tail end of the collapsing British Empire and it needed its former colonies more than they needed it. Bilateral trade between Britain and Malaysia can be best described as negligible. Today, it is hard to ignore the fact that China is a rising Superpower and with its growing middle class, it remains one of the most lucrative consumers market in the world. Incomes are on the rise and thus their purchasing power. The following chart shows the importance of China being our largest trading partner with equal amount of exports and imports (25.2%).


The truth is that at the moment we needed China more than China needs us. To isolate China means we are missing the opportunity to participate in the growth of the second biggest economy in the world.                       

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