China's Investment in Developing Economies
Emerging markets are developing richer, more consumer-led economies as China expands its infrastructure investments and trade relationships.
The economic rise of China has provided a strong tailwind for the regional growth of Asia. Similarly, China's growth is disproportionately benefiting many economies across the larger asset class of emerging markets. The desire of China to maintain its economic growth as wages rise, to find an outlet for its labor-intensive businesses as it moves into services and knowledge-based industries, and to expand its international influence, both economic and political, are the major forces shaping the emerging market economies today.
China's government is pushing to expand the infrastructure of the nation across the world—East, West, and South. As it does so, it brings into the global economy many of the emerging nations of Asia, Europe, Africa, and Latin America. Government-built infrastructure includes roads, railways, air-routes, as well as the virtual and physical infrastructure of telecommunications and online platforms. Surely as night follows day, private enterprise follows. Many businesses and investors see opportunity, too. Opportunity in addressing the many new consumer markets; opportunity in investing in the rising Asian corporate champions; opportunities in investing in the corporations across the emerging markets that will both facilitate and benefit from this new wave of growth.
This new direction from Asia and China is not without its complications, such as international relations, cross-border financing, building the manufacturing bases in emerging economies, dealing with labor issues, and competition with incumbent domestic elites. Change of this sort causes all kinds of friction; each vested interest will try and make change seem a burden. In fact, whereas these interests are not entirely self-serving, change from China's overseas development, like other global investors who have come before it, is likely to be overwhelmingly for the good.
Asia's companies are already crossing borders within emerging markets. Japanese companies are building the modern manufacturing processes to allow Chinese companies to drive productivity gains in an era of higher Chinese wages. As wages continue to rise in China, Chinese companies are also moving their production overseas to ASEAN and Latin America to tap into less expensive labor markets. Asia's internet giants are buying up stakes in online businesses across emerging market economies. As wages rise, consumer companies find new markets and new opportunities to help spread the middle class lifestyle. For their part, other emerging market nations are growing their own business champions and supplying the land, labor and raw materials to partner with Asian and Chinese capital to fund this new growth.
A Broader Opportunity Set
How should investors think about this?
Well, the first thing to do is to try and step outside of the mindset that the center of the global economy is the U.S. and its allies in Europe. This is no longer a fair or complete view of the world; nor is it a helpful guide as to the future growth in the global economy, nor even as a signpost to the set of opportunities for the global investor. Global benchmarks are belatedly, slowly, but inevitably coming round to the new reality. However, it may still be a long time before the true influence of the Chinese economy, Asian economy and Asian corporates, as it exists today, is finally represented either in emerging markets or international equity benchmarks.
The flow of capital to date has most assuredly been from China across the rest of the world. And yet, it has been remarkably passive in that it has focused on U.S. treasuries. This is already showing signs of change as China starts to ramp up its investments in physical capital and FDI (foreign direct investment) across the world. China's One Belt One Road initiative is building transportation links that look like the arms of the world's poor reaching out across Central Asia to try and link hands with the European Union.
In addition, China is trying to internationalize the role of its currency and its capital markets. China would love to have the luxury enjoyed by the U.S. and the core European markets, where individuals, businesses, and global central banks are happy to hold their treasury bills. The next revolution of Chinese growth is to be virtual: service industries, online platforms, knowledge and intellectual-property-based profits, and financial markets. Whereas it will be the labor on the emerging parts of the world that will take up their opportunity. What the U.S. was to China in the denouement of the Cold War, China may be to the poorer nations of the world. On the face of it, this should generate a remarkable cooperation between capital and labor that should raise wages and help drive the most efficient use of capital. It ought to be an environment where innovation and productivity gains drive increases in standards of living, driven largely by new technologies and ideas coming out of China.
This is not to say that the world and the emerging markets will necessarily have the easiest of relationships with China. But nor should the relationship between China and the rest of the world be as tense and difficult as the one between the U.S. and China. Despite its emergence as an economic superpower, China is seen by many as an economy, the growth of which is beneficial to those nations struggling to achieve capitalistic take-off. Or even, as may be the case in parts of Europe, as a new avenue for dynamism and growth within established capitalist nations.
It is always tempting to invest in the companies that are leading China (and Asia's) outreach to the rest of the world. However, companies building out infrastructure may be doing so via government initiatives and partnerships, and consequently may not necessarily earn strong returns. It is the longer-term effects of infrastructure investment that interest us most at Matthews Asia. Increased productivity drives wages higher, which leads to more consumption. In turn, consumer companies have the chance to build higher-margin business and generate better returns when consumers make decisions based on quality and brand loyalty. This pattern of development is precisely the pattern enjoyed by China over past decades—the growth and development of a richer, service-led, consumer-based economy. Consequently, when we look at emerging markets, we tend to find many good long-term opportunities in precisely these kind of companies.
Robert Horrocks, PhD
Chief Investment Officer