Understanding Domestic and Foreign Trade

From: English Edition of Qiushi Journal Updated: 2011-09-19 18:55
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    The international financial crisis is still spreading and its impact on emerging markets and developing countries, including China, is especially obvious. The current task in Chinese economic work is to ensure growth, expand domestic demand and carry out restructuring. An important topic in coping with the crisis is how to take full advantage of the important role of trade in the national economy and how to properly balance domestic and external demand. For this reason, we must objectively and comprehensively understand three relationships: the relationship between trade and growth, the relationship between internal and external demand and the relationship between free trade and trade protection. 

The Relationship between Trade and Growth

    Trade has a general function. Trade includes all commodity exchange activities, and is located in the exchange link in the process of social reproduction and connects production with consumption. The value of commodities is realized through exchange. Therefore, trade has the function of realizing value, and represents the ultimate demand of the market. In a market economy, sales determine production. In other words, consumption determines trade and trade determines production, so to a certain degree a market economy can be called “an economy guided by trade.” The basic features of a market economy are to expand markets, to fight for market share and to dominate the market. International trade and domestic trade are absolutely identical in the basic features in a market economy. The fundamental difference lies in national boundaries and the differences in currencies, taxation and management of different countries. In summary, trade activities have led to the formation of the world market and to economic and social development. 

    Trade is an engine for economic growth. Looking at the history of the economic development of the world, we can see that all countries that have become trade centers are economically powerful nations. In the first half of the seventeenth century, Holland became a center of trade and at the same time was also the most powerful country economically. Later, the center of trade moved to Britain and then to the United States. The rate of growth in international trade is usually about one and a half times the rate of economic growth. Between 1948 and 2007, world exports grew at an annual average rate of 9.7%, obviously exceeding the rates of global economic and population growth during the same period. In the 30 years since the institution of the reform and opening up policy, China’s export volume has grown at an annual average of 18.1%, 8.3 percentage points faster than its economic growth. In particular, during the seven years since China joined the World Trade Organization, the annual average growth rate has been 28%, more than double economic growth. From this we can see that trade, particularly foreign trade, is an important driving force for world economic growth.

    Trade is the essential path to economic success for less advanced countries. After World War II, Japan decided to pursue a state policy of “basing the country's development on trade.” The population of Germany is only one-fifteenth of that of China, but it has a trade turnover that makes it number one in the world and a per capita trade volume 17 times that of China. All of the “four small dragons” and “five little tigers” of Asia adopted an “export-oriented” strategy to successfully quick start their economies. The contribution of trade, especially foreign trade, to the success of China’s reform and opening up policy has been crucial. In summary, the path of development all less advanced countries must take is opening up wider to the outside world and taking advantage of the international market. 

    The contribution of trade to economic growth has been underestimated. China and many other countries in the world are using the expenditure approach to assess the contribution of foreign trade to GDP, taking the combination of net exports, investment and consumer spending as the three major factors for economic growth, instead of taking total export volume or the total volume of foreign trade as a measure of economic growth. The shortcoming of this method is that the contribution of foreign trade to GDP is only positive when there is an increase in a favorable balance of trade or a decrease in an unfavorable balance of trade. For instance, China’s export growth in 2003 hit a record of 35%, but the contribution of foreign trade to GDP was -2.6%. Since the international financial crisis began last year, China’s exports have dropped by a big margin several months running. But because of the increase in the favorable trade balance its contribution to GDP was larger. If the world is looked at as a whole, the contribution of foreign trade to economic growth is zero because import and export volumes are balanced. This conclusion is a long way from reflecting the reality of economic growth. Therefore, we may need some kind of more comprehensive indicator than GDP to reflect economic growth, or we may need to address the problem of making the final accounting based on GDP in order to more accurately reflect the role and functions of trade.

    Scene at a border trade fair in Jeminay County, Xinjiang Uygur Autonomous Region, China. /Photo by Shadati, Xinhua reporter

The Relationship between Internal and External Demand

    Internal and external demands are closely interactive. Stabilizing external demand will make it possible to stabilize the domestic employment situation and worker incomes, which will strengthen the currency payment ability and thereby expand domestic demand, particularly consumer demand. On the other hand, expanding domestic demand will make it possible to expand imports by a corresponding amount, which will intensify domestic competition and thereby strengthen the competitiveness of Chinese enterprises in the international market, and keep international trade and international payments fairly well in balance. Now that China has been presented with rare favorable opportunities for development, maintaining a sustainable increase in internal and external demand has become even more important.

    We need to work hard to expand domestic demand. China’s long-term domestic trade policy is to work hard to expand domestic demand, particularly in terms of consumer spending. Urban and rural consumer spending in China is currently at a reasonable level and is also in line with the people’s purchasing power and ability to pay. Therefore, we need to raise the proportion of national income received by individuals in primary distribution and increase spending in social welfare programs such as medical care and retirement pensions, as well as accelerate the development of urban and rural distribution facilities, to increase the rate of consumer spending in China. We can approximate the increase in consumer spending resulting from a certain amount of tax reductions and increase in government spending. We can also approximate the marginal relationship between the increase in government spending and the increase in consumer spending. Whether the marginal increase in consumer spending brought by per unit of government spending progressively goes up or down can provide a basis for macroeconomic policy making. Experience in all areas of commerce in China has shown that thorough and productive efforts in distribution work can still increase consumer spending, even given the current status of social security programs and consumer culture environment. We can achieve this by improving the distribution network in rural areas, developing more urban community services, working to replace old commodities with new ones and properly addressing the problems of people having money but being afraid to spend it and having money but finding it inconvenient to spend it. 

    The problem of the degree of dependence on foreign trade. Between 1980 and 2007, China’s dependence on foreign trade rose from 12.5% to 66.2%, higher than the 20% or so of Japan and the United States, but lower than the 82% of other developing countries. In fact, the degree of “dependency” is not the same as the degree to which the national economy relies on foreign trade, and is still less an indicator of the degree of risk. The degree of dependence on foreign trade of Singapore and China’s Hong Kong is far higher than that of the BRICs (Brazil, Russia, India and China), but nobody believes the risk is greater for the former group than for the latter. Theoretically speaking, there is still debate over the method for calculating the degree of dependence on foreign trade. GDP, the denominator, is the total amount of valueadded, while the volume of foreign trade, the numerator, is the volume of business transactions. Their economic connotations are not commensurate. If we calculate a “degree of dependence on domestic trade”, i.e., the ratio between the sum of the total sales volume of the means of production plus the total retail sales volume of consumer spending and GDP, and use this ratio as the standard for comparing foreign trade with domestic trade, then the “degree of dependence on domestic trade” for China in 2007 would be 124%, twice the degree of dependence on foreign trade for the same period. If incomparable factors are taken into consideration, such as the nearly half of China’s foreign trade exports that are in the form of processing trade as well as exchange rate changes and purchasing power parity, China’s degree of foreign trade dependence was still lower than the world average. 

    We need to promote domestic demand through foreign trade. All of the world’s economic powers hold a significant share in international trade: the United Kingdom and the United States once held a share of 25% or more, and Germany and Japan held shares greater than 10%. Though China is a country with a large population that exceeds the total population of all the world’s industrialized countries by 400 million, China’s volume of trade in goods accounts for less than 9% and its volume of trade in services less than 4% of the world’s total. It would be absolutely normal for China’s volume of trade in goods and services to gradually rise to about 15%-20% of the world’s total. Contraction of business turnover in the international market has made it difficult to stabilize external demand, but it also presents immense opportunities. For their own reasons, Western developed countries are losing or withdrawing from some sectors of the market, and the economic stimulus plans of some countries have also created new   markets. If we can promptly take advantage of this situation, speed up the tempo of efforts to “go global” and use this strategy to stimulate the export of China’s products, particularly export of mechanical and electrical equipments, it will be completely possible to lay a solid foundation for creating long-term openings in the international market, resulting in significant near-term boost in employment and domestic demand.

The Relationship between Free Trade and Trade Protection

    With the international financial crisis still spreading, some countries have adopted protective measures, and developed countries have also urged measures such as “return of industries,” “reindustrialization,” “buy domestic products,” and “employ fellow citizens.” In particular, due to the strengthening of China’s economic and trade position and an increase of trade protectionism directed at China, China has been involved in the most anti-dumping activities for a number of years running. We must continue to promote free trade, actively work to safeguard multilateral rules and strive to recover from the effects of the crisis as soon as possible. 

    Free trade is good for the well-being of the people of the world. It can expand markets, deepen the division of labor and promote competition, thereby promoting economic growth and raising living standards. Historically, countries with high-performing economies have often been the countries advocating free trade. During more than 60 years since the General Agreement on Tariffs and Trade (GATT) formally went into effect in 1948, the members of the World Trade Organization (including GATT, its precursor) grew from 23 to 153, and the organization has formulated a comprehensive set of rules on international trade that has forcefully safeguarded the order of free trade, allowing most members to achieve rapid development against a backdrop of free trade and economic globalization. These trade rules are also helping all the countries of the world as well in recovering from difficulties of the present crisis and avoiding the old path of each country striving to protect its own interests, which was the reason behind the vicious cycle of the 1930s. Free trade has always been linked to opening up to the outside world, and the fact that China has made tremendous achievements in opening up to the outside world over the last 30 years is also proof of the success of free trade under a system of multilateral trade.

    Free trade and trade protection are intermingled. The modern and contemporary history of the world economy indicates that there has never been either pure free trade or pure trade protectionism. Instead there has always been a certain mixture of the two through compromises reached according to set rules. The strength of international competitiveness is a yardstick for measuring trade freedom and protection. Free trade and globalization of the economy have resulted in a shift in the global economic structure and a redistribution of interests. In spite of the fact that social wealth is increasing and the overall economy is developing, some people have found new livelihoods while others have lost theirs, leading to a growing number of people who are “anti-globalization.” This is because of a problem that Marx once pointed out, i.e. there is still the irreconcilable contradiction between socialized production and private ownership of the means of production, which is inherent in capitalist society. Economic globalization has also aggravated the problem of surplus production capacity and uneven distribution of income across the world. Trade protection, an objective requirement for safeguarding interests, means tax revenue and stability for the government, continued existence and profits for employers, and employment and income for employees. A trade policy reflects the interests of a country or group in a specific period. By favoring free trade or implementing protection measures, a country works to safeguard and maximize its own interests. In the end, however, opening up and trade are more beneficial than shutting out the outside world since excessive protection inevitably invites other countries to adopt countermeasures. Therefore, compromises have been reached between free trade and trade protection, and these norms have been codified into laws.

    More is lost than gained through trade protectionism. Protection of trade and trade protectionism are two different things, and the World Trade Organization allows all countries to take reasonable measures to protect their own interests through rules that define measures such as making exceptions, protection for infant industries, trade remedy, and special and differential treatment. But trade protectionism is different from legitimate trade protection. Protectionism is an abuse of the multilateral trade rules defining relief measures. Moreover, a country engaging in protectionism not only damages the interests of consumers in its own country, but may also very well invite reprisals from other countries, thereby “shooting itself in the foot” and ultimately providing no relief to its own economy. The United States raised all its tariffs in the 1930s, which invited reprisals from other countries and led to a 70% drop of its own export volumes. With the downturn in the global economy, all countries need to work to strengthen cooperation and resolutely oppose trade protectionism. 

    We must actively promote free trade under multilateral rules. China will continue to promote rapid development of exports for a long time to come in order to provide adequate employment opportunities and take advantage of the country’s ample human resources, thereby gaining a bigger share of the international market. We actively support free trade, work to keep the international trade system open, fair and just, work for an early and successful conclusion to the Doha Round of Trade Talks and strive to breathe new life into the world economy in this difficult situation. At the same time, we must always keep an open mind, strive to maintain a basic balance between import and export trade and in international payments, accelerate implementation of the free trade zone, properly handle disputes in economic and trade activities, expand domestic demand by opening up further to the outside world and unswervingly follow a path of peaceful development. 

Note: Chen Deming is the Minister of Commerce of the People's Republic of China

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