Principles of Economics

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Principles of Economics

China's densely populated and low labor costs are attracting foreign investors to invest in Chinese business and the output of manufactured goods produced abroad. As the low price leader in the market they will certainly have competition. Because of the financial tsunami that occurred, China is going to further increase their domestic consumption market to the extent that there will be a certain influence in the economy. Western countries have taken advantage of China's exportation of cheap goods which has had a tremendous impact on all economies involved. China has great economic power and most of what they do influences everyone around the world.

China's average annual rate of growth of 10% has contributed nearly 30% to the total global growth. In 2008, China's was at $7.8 trillion, which made it the world's third largest economy after the EU and U.S. China is the fourth largest producer of automobiles, but its standard of living is still low. It has a GDP per person of $6,100 per person, compared to $40,000 per person for the U.S. This permits the country to pay its workers less, which makes its products lower-priced than its competitors. China also keeps its currency (the Yuan) lower than the U.S. dollar, which allows it to price products even lower (Amadeo 2009).

China ships nearly 20% of its exports to the U.S. This has created a $266 billion trade deficit. While China needs the U.S., it is also increasing its trade with Hong Kong (18%) and Japan (8%). It is expanding trade with African nations, trading investments for oil. It is also increasing trade agreements with other Southeast Asian nations. By the year 2009, China owned $744.2 billion in U.S. Treasury bills, bonds and notes. This is 24% of the total of $3.1 trillion that is held by foreigners. In 2008 China surpassed Japan as the largest foreign owner. China does this to support the value of the dollar and keep the value of the Yuan low (Amadeo 2009).

Chapter 2 -the development of market economics

Threatened by a financial tsunami the world must consider building a financial order that no longer depends on the United States. The upheaval of the U.S. sub-prime crisis has exposed enormous loopholes in the United States' financial oversight and supervision. The world desperately needs to create a diversified currency and financial system and fair and just financial order that is not dependent on the United States. Vice Premier Wang Qishan told U.S. trade officials that China and the United States needed to maintain close economic ties with global markets while going through such turbulence. The Chinese government is very aware of the fact that the United States, which is the world's largest developed country, and China, which is the world's largest developing country, must have constructive and cooperative economic and trade relations (Buckley 2009).

China is a one of the major buyers of U.S. Treasury bonds. Through its independent wealth fund it has taken stakes in two large U.S. financial institutions. "In July 2005, China revalued the Yuan and freed it from a dollar peg to float within managed bands" (Buckley 2009). But yet the Yuan and China's trade remains tightly linked to the fortunes of the dollar. The commentary suggested China must brace for grave economic fallout and look to alternatives, saying the crisis brings to mind the Great Depression of the 1930s (Buckley 2009).

Across the world there is increasing concern about the effects of China's emergence on the global economic stage. As the above quote by the CAFTA negotiator attests, Latin America is no exception. Among international organizations, academia, and governments, a small but burgeoning literature has emerged that attempts to examine the extent to which such concerns are justified. In this report we identify and offer analytical guidance about this new research. Specifically, we report on and analyze two aspects of China's economic relationship with Latin America and the Caribbean (LAC). First, we examine the extent to which China's economic growth is affecting trade between China and the region as well as Chinese investment in LAC (Gallagher and Porzecanski 2008).

The evidence reveals that there is an emerging consensus regarding China and LAC. With respect to trade and investment flows, China has accounted for a significant amount of the boost in LAC exports and foreign investment in recent years. As is the case with most other regions of the world, LAC is running a significant trade deficit with China. Also of concern to some is the fact that the composition of LAC exports to China is largely raw materials and primary products. Regarding the relative competitiveness of China and LAC, the two places have dissimilar export structures and therefore do not compete very much in world markets. LAC mainly exports raw materials and primary products to the rest of the world. China on the other hand increasingly exports manufactured goods to the rest of the world. The one exception to this is Mexico, which has a similar export profile to China. There is near unanimous consensus that Mexico is losing competitiveness and foreign investment to China (Gallagher and Porzecanski 2008).

Chapter 3 -Competitive market structure and behavior

The market economy is only an economic mechanism used by the government in order to achieve certain socialist goals that can be restricted by it if it fails to achieve them. The Chinese government enjoys more macroeconomic control of the economy than any capitalist social democracy ever has. The production and circulation of commodities exist in very different economic systems (Ding 2009).

The explosive growth of Chinese exports has led to much discussion of its competitive threat, in both developed and developing countries. At the popular level, the threat appears to be clear. Between 1990 and 2002, China's manufactured exports grew by 16.6% per year from U.S.$48 billion to U.S.$303.5 billion. This raised its world market share over threefold from 1.9 to 6.4'7r. In 2002, China overtook the UK and in 2003 it overtook France, making it the fourth largest exporter in the world after the U.S.A., Germany and Japan. In the developing world it was by far the largest exporter; its share of manufactured exports more than doubled from 11.3 to 24.1% (Lall, Weiss and Oikawa 2005).

In response to falling trade costs and greater international capital mobility, China has emerged as a major exporter of both low technology products and, increasingly, of high technology products. For the former set, the large population of rural China has provided ample labor for the export sector at a relatively constant real wage set by the low opportunity cost of rural labor. As a result, China has become the dominate supplier of many low technology goods to the world market and its productivity and wage level have set world prices for these goods. China's productivity has improved fast enough to offset increases in rural wages to ensure its competitiveness at the labor-intensive end of the spectrum. At the high technology end, export growth has been based on a combination of growing domestic apabilities and the location by multinational corporations of segments of the production chain in China to take advantage of its low labor costs. However, the technology content of high technology export activity is upgrading rapidly as it builds it supplier base and other capabilities (Lall, Weiss and Oikawa 2005).

Chapter 4 -Wage differentials in competitive markets

China has a lot of labors which attracted foreign investors to invest in Chinese business. The Neoclassical theory of labor market discrimination implies that increased competition from international trade will reduce the wage gap. In a market economy where discrimination is costly, employers are less able to participate in discrimination as competitive forces drive down profit margins. The cumulative evidence leads many observers to conclude that the persistence of inter-industry wage differentials challenges the implications of competitive labor market theory. This paper offers new evidence showing that the market does adjust in response to inter-industry wage differentials. Although the tendency for wages to converge across industries is extremely weak, several other economic variables exhibit strong long-run responses to the initial inter-industry wage structure. In particular, industries that paid relatively higher wages in 1959 experienced significantly slower employment growth over the subsequent thirty years. The high-wage industries also experienced slower GDP growth and faster growth of the capital-labor ratio and labor productivity. The rigid wages encourage firms to substitute capital for labor, and encourage the market to substitute cheaper goods for the relatively expensive goods produced by the high-wage industries (Borjas and Ramey 2000).

Chapter 5 -the market of exchange rates

China's central bank declares an exchange rate and forces, by law, all market players to observe that set rate. The Yuan is allowed to fluctuate a little bit, but not very much. It does not fluctuate enough to accommodate the constantly changing pressures of the global marketplace. The Chinese have set the currency so that one U.S. dollar buys a little over 8 Yuan. This makes the Yuan worth a little over 12 cents. Most economists feel that if China's currency were allowed to trade freely, it would be a whole lot more. No one can know for sure how much more, but leading economists put it in a range of 10 to 40% higher value than it is now (Davidson 2006),

By keeping the Yuan artificially low in value, China is effectively giving the U.S. consumer a discount on all Chinese exports. By doing this they are discounting their own exports. This is good for many U.S. consumers because it allows them to buy cheaper clothes and electronics along with many other items. But on the other had it is bad for U.S. manufacturers who can't compete with low Chinese prices in the end. Some U.S. manufacturers have adapted by buying many component parts at a lower cost from China. The ability of a manufacturer to adapt depends on the company and the product and even on the level of globalization within an industry (Davidson 2006).

China's central bank is constantly buying U.S. Treasury bonds. This is done for technical reasons: in order to keep its currency fixed against the U.S. dollar, China must be able to redeem one U.S. dollar for 8 Yuan. As China's economy grows, it must be able to buy more and more U.S. currency in order to meet the growing number of Yuan. Due to the fact that China keeps buying U.S. Treasury bonds, the Treasury Department is able to keep long-term interest rates lower than they would be if they weren't. If China didn't buy so much, the U.S. Treasury would have to raise rates in order to attract other investors. Since Treasury bonds are the standard for most long-term debt, the lower rates are extended to credit cards and mortgages. These low mortgage rates fueled a dramatic housing boom, which raised the price of many homes. All those inflated home prices injected countless billions of dollars into the U.S. economy which left many Americans with home equity and cheap debt (Davidson 2006).

It is thought that a revaluation could cause an economic slowdown, even a recession in the United States. If China were to revalues its currency abruptly, it wouldn't have to buy so many Treasury bonds. This would result in mortgage and credit-card interest rates jumping upwards. This would prompt U.S. consumers to stop spending. Stores and banks would lose money. U.S. And Chinese factories wouldn't be able to sell any products. And this would mean they would shut down or lay off workers. This revaluation could bring a self-reinforcing downward economic spiral (Davidson 2006).