These changes offer both opportunity and threats to our longer-term prosperity. If we get it right, this is the time for Australia to cement its role in the Asia-Pacific, stepping up a level from simple exporter to closer integration and sustained regional partnerships.
The issue is not simply that of Asia increasingly becoming a consumer and services market, rather than the mostly manufacturing one we’ve come to expect. In centuries past, the world’s centre of finance has always shifted, after a lag, to follow its trade base: from Italy to Amsterdam then London and finally, in the 20th century, to America. It has been clear for many years now that the weight of economic growth has shifted to Asia and, with forecast growth rates of 6-10 per cent per annum in many Asia-Pacific countries, it is hard to see this trend reversing in the foreseeable future. We can see the financial shift happening when we look at Asia’s sustained savings and capital investment rates (Chinese and Indian rates are double those of the US, UK and Brazil) and the cumulative impact of trade and investment surpluses built up over many years (the Asia-Pacific countries hold more than 54 per cent of the world’s gold and foreign reserves). Although the effect of this shift was partly obscured by excessive borrowing and financial engineering in Western financial systems, this is now unwinding and it is becoming clear where underlying capital is created and invested.
This has implications for Australia, which has a solid financial system but lends out far more through its banks than it takes in deposits, and is very dependent on foreign funding sources to fill the gap. European and American financial centres will remain important, but an increasing proportion of an increasing volume of capital will be intermediated within the Asia-Pacific region, rather than relying on the ‘old world’ hubs like London and New York to take Asian savings, financially engineer them, and then invest them back into Asia.
This can already be seen in the 65 per cent increase in the market capitalisation of Asia-Pacific stock markets since 2005, led obviously by the expansion in China, and in the dominance of markets like Hong Kong and Shanghai in new issuance. Notably, even companies from Russia and other CIS countries are increasingly looking to Asian, rather than European, exchanges. Debt markets have shown a similar growth but here it has been Japan, even more so that China, that has led the growth. This can be expected to continue, along with increasing regionalisation of debt markets, as policymakers’ promotion of APEC bond markets bears fruit.
Trade flows between Australia and China are increasingly important for Australia (17 per cent of our current total, compared to 6 per cent a decade ago) but are less so for China (Australia represents 3 only per cent of China’s global trade). It’s only the phenomenal absolute growth rates that make the trade relationship significant, so Australia’s relationships with other Asia-Pacific countries (stable at around 42 per cent) need to be reinforced and nurtured.
The anomaly for Australia is that, despite sending almost 70 per cent of its exports to Asian-Pacific neighbours, it still invests over 70 per cent of its foreign investment in the traditional markets of America, Europe and New Zealand each year. This investment profile is hopelessly lopsided and there is no evidence that returns have been better for it. Singapore’s FDI stock in Australia is twice that of Australia’s stock in Singapore. For mainland China, the figure is 4 times and for Japan, an astounding 66 times. Of Australia’s major partners, the fastest inward growth of stock since 2005 has been from Singapore, with a compound annual growth rate of 39 per cent, and Japan, at 20 per cent.
The first wave of Japanese investment in the 1980’s brought with it some nationalistic reactions, even if more muted than those in the United States during the same period. Since then, we have witnessed an increase in the size and diversity of Japanese investment, as well as the lack of associated controversy. Japanese companies have proved to be good partners and often taken a staged approach of minority investment which is then increased to full control at a later date. Japanese investors have also become good at embracing the wider community through philanthropy, training and skills transfer, which has also made a significant impact to the way in which acquisitions have been perceived.
Chinese investment in Australia has taken many Australians by surprise, including senior regulators and policymakers. As Australia was a first stop for many Chinese companies, this investment was also in the very early stages of China’s overall internationalisation and ‘going out’ policy. The press and political commentary that accompanied this was often antagonistic. We’ve observed rapid absorption of the lessons of some early challenges and expect Chinese investors to start adopting strategies for making successful investments in Australia, similar to those that Japanese investors have learned over time.
The predominance of mining and mineral resources in Australian foreign investment and trade flows is a sticking-point for many Australians, but we can anticipate a progression from these industries to agriculture, finance and manufacturing over time. Japanese investors, for example, were once criticised for an obsession with Australian real estate, but now have a well-diversified investor base for the Australian economy.
Asia-Pacific economies are expected to continue growing strongly in the coming years, with further integration through trade and investment. This investment will increasingly be funded by capital flows within the Asia-Pacific region, relying less on the recycling of capital via the US and European markets. For Australia in particular, required investment levels will remain very high, with increasing support by funding from north-Asian debt and equity markets.
Australia benefits handsomely from these changes, but will do so more if it is even more involved in the Asian growth story, and more proactive in the region’s economic integration.
Andrew Low is the CEO of RedBridge Grant Samuel, an independent advisory and funds group to be launched in 2011 to serve clients in the Asia-Pacific region. He was formerly Macquarie Capital’s Head of Asia.
This is part of a special feature: 2010 in review and the year ahead.