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If China sneezes, does the U.S. catch a cold?

Sabri Ben-Achour Jul 27, 2015
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It’s not exactly comforting to see the stock market of the world’s second-largest economy take a nose dive. China saw the biggest single-day drop – 8 percent — in its stock market in eight years, following weeks of volatility and decline. 

At a time when the U.S. is starting to recover, should we worry? Not particularly, or at least not yet.

First, those feeling most of the pain from China’s stock market are the Chinese.

“China’s financial markets are mostly closed off to those outside the country,” says Nadège Rolland, senior project director for the National Bureau of Asian Research.  “So of all the shares in China’s stock market, foreigners own less than 2 percent — by some estimates it’s 1.5 percent.”

One of the many reasons for this is so that the Chinese government can maintain control over its market and do things like threaten to arrest people who sell off shares. Just today, China’s equivalent of the Securities and Exchange Commission has reportedly put started a hotline for reporting “people who are ‘maliciously selling,’” says Patrick Chovanec, chief strategist at Silvercrest Asset Management. “I don’t know what malicious selling is actually, but you can be reported for it.”

The stronger links between the U.S. and China are through trade, not financial markets. Even on that front, however, the effects of China’s economic slowdown on the U.S. are “real, but limited,” says Nicholas Lardy, senior fellow at the Peterson Institute for International Economics. China accounts for “about 7 percent of our exports, and exports are not a really huge chunk of our overall economy, so only about a percentage of our production is getting sold in China.”

“Although people imagine China is a growth driver for the global economy, China has been running chronic trade surpluses, so it really derives growth from other countries,” Chovanec says. “That’s neither good nor bad, that’s just the reality.”

U.S. companies operating in China are experiencing the slowdown differently. Lardy says those like Caterpillar or United Technologies — which are heavily tied to China’s now-waning construction boom — are suffering. Companies that are selling directly to Chinese consumers – YUM brands’ KFC and Pizza Hut, for example – are doing exceedingly well.  iPhone sales have surged and Apple expects China to be its largest market in the world within a few years.

“China is attempting to move from an investment-driven to a consumer-driven economy,” says Robert Whitelaw, professor of entrepreneurial finance at NYU’s Stern School of Business. “And it’s not easy to do, because it has been investment-driven for so long.”

But if that’s what rises out of the rubble of China’s growing pains, it may be to the benefit of the U.S., Chovanec says. 

“There’s a tendency for people to look at growth as a uniformly positive thing; any growth is good, and any slowdown is bad for global economy,” he says. “But that’s not really the case. A lot of the growth over the past five or six years in China was bad growth — credit-fueled overinvestment, a buildout of overcapacity that pushed down prices around world and made it tough for other economies to grow.”   

The end of that process, Chovanec says, will ultimately be a relief for other sectors of global economy. “Ultimately, if the Chinese support consumption, this will ultimately turn China into a driver of growth.  A lot of people think China is a driver of growth now; it has the potential to be as it undergoes this economic adjustment.”

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