The ‘great rotation’: from West to East

February 2013

The world is seeing a dramatic shift from West to East in terms of dynamic economic growth.  With China opening up further to corporates and levels of foreign direct investment (FDI) in the country growing, is trapped cash the issue it once was?

There is more than one ‘great rotation’ happening in the markets today.  When many analysts talk about this tectonic shift, they are talking about the move out of bonds and into equities, due to the record-low bond yields.  But for Stephen King, Chief Economist at HSBC, speaking at the bank’s 'Global Banking and Markets International Day’ client event, it also represents a geographical shift from the economically stagnating West to the dynamic East.

King advanced the idea that at one level there is a ‘decoupling’ effect taking place in the world today.  Although the tight interpenetration seen in the global financial markets provides little traction for this theory, he argues that decoupling can be witnessed in terms of national economic development.  For example, China has seen a total increase of 158% in GDP per capita over the past decade (2001-2011), while the UK only experienced an 8.7% growth, the US only 7.3% and Japan only 6.0% in the same timeframe.

And despite fear of a hard landing in China, one of the major concerns at the tail end of 2012 because of the knock-on effect from the Eurozone recession, the country’s growth trajectory is set to continue.  “European Central Bank (ECB) President Mario Draghi’s monetary medicine and the Chinese government’s economic stimulus means that China’s growth rate will remain at 6-7% per year for the next few years.  It may not reach quite the level it was pre-crisis but this is still stellar growth compared to the rest of the world,” says King.

In addition, China’s importance to the global GDP is increasing.  If China does well, who else will win?  King points to the top five exporters to China:

1. Hong Kong.
2. Japan.
3. South Korea.
4. US.
5. Australia. 

While Germany follows in sixth place (and Saudi Arabia in seventh), the other G7 nations will not likely be main beneficiaries, as France sits in 17^th place, Canada in 18^th, Italy in 20^th and the UK in 22^nd place.

He also looked at other economic indicators, such as the increase in proportion of countries’ export as a proportion of GDP.  For example, ten years ago South Korea’s exports to China made up 3% of South Korea’s GDP; today it is 12%.  Interestingly, Angola’s exports to China now make up 22% of its annual GDP.

King explained the highly interconnected economic relationship between China and the US.  Sketched out very simplistically, China runs a current account surplus, which is matched by the US current account deficit.  Because China buys up US treasury bills, US companies can borrow money at a cheap rate; however, most of the money is not being invested in the US economy, but is channelled back into China as foreign direct investment (FDI).

It is this major rotation in terms of investment/profit sources and growth that will continue to transform the US Century into the Chinese Century.

Beyond trapped cash

In a separate interview with Treasury Today, Kee Joo Wong, HSBC’s Head of Payments and Cash Management in China, added to his recent comments regarding the opening up of China to corporates, including foreign currency cross-border sweeping and cross-border renminbi (RMB) lending.

Although the press has mainly focused on the importance of these new structures in addressing issues of trapped cash and the ability to move cash out of China, Wong stresses that this is only half the story.  “Looking at what is happening only from a trapped cash viewpoint is too microscopic – treasurers need to take step back and look at efficiency gains across the whole operation.  This means not just moving money out of China, but also into the country,” says Wong.  “These new structures make long-term investment back into China easier and more efficient.  Corporates can use a domestic foreign exchange master account (DFMA) and bring together all unutilised borrowing capacity, as well as use a cash pooling mechanism.”  He adds that maintaining bilateral flows also gives companies credibility in the eyes of the Chinese authorities, as an indication they are committed to continuing their business operations in the country.

Wong believes that the next step is to allow cross-border sweeping for RMB, effectively going beyond a one-off cross-border RMB lending transaction.  “Corporates are now looking for real RMB cross-border sweeping – a daily flow in and out of China.  This is a higher requirement and is of greater value to the corporate treasurer.  The foreign currency cross-border sweeping is an indication of what should be happening with RMB,” explains Wong.  This capability would be of equal interest to state-owned enterprises (SOEs), which can consolidate cash overseas and pull it back to China, as well as multinational corporations (MNCs).

HSBC has successfully completed a foreign currency cross-border sweeping pilot for Intel and implemented a foreign currency cross-border netting solution for a multinational Korean customer.  What’s next for the bank? Wong hints that an upcoming announcement will involve a successful pilot with a SOE.

“This year things will move quite fast,” he predicts, “and corporate treasurers should seek expert advice so that they don’t get caught off guard.”

This insight was first published on www.treasurytoday.com