The Optimal Set of Policies for Australia

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Overview

International Trade is an important economic tool for countries around the world, including tangible products and invisible, knowledge based products. Strong international trade results in the achievement of various government macroeconomic objectives including increased gross domestic product, positive economic growth, greater foreign exchange and a positive balance of payment. These objectives also coincide with increased standards of living and allow wider choices of goods and services for consumers. Since International Trade takes place between geographical boundaries, foreign relations between countries and transnational treaties have a direct role on increasing and decreasing the international trading output of countries. This means the responsibility of developing favorable international trade and foreign policy lies on the shoulders of the political leadership of the country.

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During recent years, China has emerged as an important and highly competitive economy in the international market, currently ranked as the fastest growing. China enjoys a high competitive edge over other economies due an abundance of natural resources, cheap labor and cheap energy resources. This enables China to keep its costs of production low and in turn, it is able to charge lower prices overseas compared to other competing economies. Over a period of time, China had seen a rapid transition from a primary sector dominated economy to a secondary sector, with rapid industrial growth and phenomenal structural changes in the economy.

China is a major trading partner of Australia, with a major proportion of Australian exports including primary resources, mineral resources and tertiary exports which are consumed by the Chinese economy. In return, Australia imports value added industrial commodities produced in China. What poses a great concern for the Australian economy is that the country exports primary resources which are of lower monetary value compared to the Chinese imports of value added goods and technology. The ultimate effect of this kind of trade on Australia’s balance of payment is that the Australian economy experiences negative forces on its balance of payment, particularly the current account. For this reason, it is important that Australia devises a trade and foreign policy for Australian trade relations with China such that it helps curtail the current negative pressures on the Australian balance of payment.

While trying to optimize trading conditions for itself, Australia must also be mindful of China’s priorities. Any policies that would put Chinese interests at stake could result in Australia losing its important trading partner, leaving Australia in much more severe condition. For this reason, Australia must rule out any pro-protectionism trade policies such as imposing tariffs, quotas or duties. This would not only provoke China to take similar actions in retaliation, but will also make Chinese goods expensive in Australia, thus impacting production costs of Australian industries that use Chinese raw materials.

In order to counter the problem, Australia can follow the economic models of India by importing technology from China and producing industrial goods on its own. Australia should also consider exploring newer markets for risk diversification. Given the edge that Australia enjoys in the tertiary sector over China, it can increase tertiary sector exports to China.

Outline

  • China’s industry is rapidly growing and its cost efficiency is posing competitive threats to other international economies.
  • China is Australia’s major trading partner, consuming the majority of Australia’s exports.
  • Australia exports mainly natural resources and primary products to China, while importing high value added goods in return. This results in a negative balance of payment for Australia.
  • Australia cannot afford to use protectionism based trade policies for China as China will do the same in retaliation. Australia must therefore consider diversification in other market sectors.

Introduction

Ever since the concept of specialization has evolved in the field of economics, the concept of International Trade has emerged as an important economic objective for any economy. In order to achieve any objective, an economy first needs finances. Although major sources of finance are the direct and indirect taxes, another important economic tool is foreign exchange. Foreign exchange does not only earn income for an economy, it also relates to an economy’s success in the international market.

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A very important objective for any economy is to maintain a positive Balance of Payments, meaning its exports exceed its imports. Exports in excess of imports translates to a nation selling more in the international market then it is purchasing. The net result is an inflow of wealth into the economy. In order to maintain a positive balance of payment many countries introduced barriers on international trade. These barriers include import duties, tariffs and quotas, which are physical and monetary restriction to imports. The main idea is to impose trade barriers that effectively make foreign goods less affordable in the domestic market so that domestic markets are protected. However, as globalization has increased, the concept of Free Trade emerged and overshadowed the aims and objectives of trade barriers.

Free trade is more supported over protectionism policies because contemporary economists argue that free trade leads to increased specialization and competition. They argue that competition leads to more efficiency and better utilization of resources, therefore any inefficient businesses will automatically get out of the market (Lipsey & Chrystal, 1997).

While all economies aim to maximize exports while minimizing imports, many countries fail to do so despite having massive quantities of physical exports. Despite the large volume, it is the monetary value that is important in the economic system; the physical properties are of little concern. For example, exporting large quantities of low priced goods while importing small quantities of high priced commodities can result in the import bill exceeding the exports, resulting in a negative balance of payments. This problem is most severe for those countries whose major import commodities include oil.

There is no doubt that China is the current market leader in everything from small disposable consumer goods up to large appliances and vehicles. The Chinese have been able to exploit the market very simply and effectively by being the cheapest. China has become a major competitor in mobile technology, rivaling other major world producers like Finland due to the very cheap mobile phones being offered by Chinese companies such as Benq and China Mobile. Again, the reason that China can offer cheap products to its international customers is that it has a large amount of cheap labor at its disposal, an advantage that is not easily matched by Australia and other European countries.

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The rise of Chinese industry has led to the decline of the other industries world-wide. In most every market, it is easy to find evidence for this first hand by finding the common “Made in China” label. Even Middle-Eastern markets are flooded with Chinese products swapping out quality consciousness and bringing the cheap factor to the forefront of consumer decision making. It is not only Australian exports that have suffered due to Chinese products flooding the market; this story is true of nearly every country that has not been able to offer something very different from that which China can offer.

China has especially impacted the western markets, so much so that the Government of the United States has been forced to pressure the Chinese Government to revalue their currency in line with their increased exports. The revaluation would have the effect of making the Chinese exports less cheap in international markets, meaning that goods from other countries would have a better chance to compete with the Chinese products.

Analysis of the International competition from China

The competition given by China to its competitors in the international market has been great as China is now the world’s third largest trader, the second largest exporter and a major importer of fossil fuels and other raw materials. The rise of the Chinese industry and the rapid economic growth that China has experienced in the past few decades has faced other countries with a tough challenge; they must draft their foreign policy in order to survive the international competition with China, and they must make sure that their foreign policies are of mutual advantage rather than then the Chinese giant exploiting their markets.

Only a few decades ago, China was a struggling economy. It is a relatively recent player in the free market economy system, especially when compared to the already established economical giants. China, a country with an extremely high population, has put this resource to its best possible advantage, using the massive workforce to contribute to the country’s rapid growth. China has one of the cheapest costs of labor, energy and power resource bases available for production. As a result, the industries can achieve economies based on sheer scale and thus can cut down on their cost of production. As a result, China enjoys a greater absolute advantage over its competitors. Importers around the world have realized that importing goods from China is relatively cheaper compared to imports from other developed economies. These cheaper imports allow them a greater profit margin. Moreover, given the fragile economic conditions and declining purchasing power and consumption expenditures around the world, consumers prefer cheaper Chinese products over expensive producers such as Japanese, American and German made products.

The extremely low costs of Chinese goods have caused the economy to grow to a significant degree because Chinese commodities were an easy answer to the economic problems of many countries. Countries had to consider their rapidly declining balance of payments due to imports from older established economies such as Germany and Japan, and therefore were forced to resort to Chinese products. The economic crisis and the urgent need of cost efficiency for economies around the world overshadowed one major weakness of Chinese commodities: quality management. Chinese economic policies revolved around volume based production. The country initiated the process of its economic growth by large scale labor intensive production that allowed an extremely low average cost per unit and in turn higher profits. However, what they compromised on was quality, something which is given a particular importance by established economies such as Japan, the United States of America, Germany and other European economies. The timing of the recession was however in China’s favor and many importers were force to choose cost efficiency over quality management in order to sustain their profitability, enabling the Chinese economy to thrive. As economic conditions settled down, and things returned to normal, this weakness of Chinese commodities was gradually exposed and in turn China was forced to take quality management into consideration. While China has now started to work towards producing commodities that meet international quality standards, it still has not been able to achieve the required benchmarks. This weakness is something that Australia can play on to boost its own economy.

Australian trade with China

The importance of China for a country like Australia is immense due to the fact that China is the largest trading partner of Australia. Nearly 23 percent of total Australian exports are to China, amounting to around 46 billion in Australian dollars for the fiscal year 2009-2010. On the other hand, 18 percent of Australia’s total imports are from China, amounting to about 36 billion in Australian dollars for the same fiscal period. The major Australian exports to China include iron ore and concentrates, coal, copper ore and concentrates and wool and other animal hair. Australian imports from China are dominated by products such as clothing, computers, telecom equipment and parts, pram, toys, games and sporting goods. Apart from goods that are traded between Australia and China, 11 percent of Australia’s services are export to China, while they import only 3 percent (Kreh, 2008).

Australia and China also share good investment relations. Australian investment in the Chinese markets amounts to 6.3 billion dollars, while Chinese investment in Australian markets is nearly three times greater, at 16.6 billion for 2009-2010. In order to strengthen its ties with China, Australia also signed a free trade agreement with China on April 18th, 2005. The agreement is said to have had a significant economic benefit to the Australian and Chinese markets (McDougall, 2009).

Australian trade has experienced a great advantage with the rise of China. Statistics show that Australian exports to China have grown by an outstanding 50 times in the last 3 decades, and the growth in the 2007-2008 economic year was around 28.3 percent, a very impressive figure from Australia’s point of view. This outstanding growth is due in part to China being such a resource hungry nation, in constant need of raw materials such as wood and fuel. Australia, on the other hand is a resource rich country, benefitting immensely from exports to China, especially in recent years with the benefit of rising prices of fuel and petroleum products. Due to Chinese interests in the resources of Australia, the Chinese have invested heavily in Australian markets. At the end of 2008, Chinese investment in Australia amounted to AUS $ 35 billion compared to AUS $ 6.2 billion the previous year. This massive rise is partly due to investment by the Chinese resource extraction company Chinalco, which purchased shares in the Anglo-Australian mining conglomerate Rio Tinto.

The rise of China has also been a source of Australian service imports as Australia has the greatest number of Chinese students, due to rising incomes and rapid growth of the Chinese economy (Hale & Hale, 2003). More and more students are applying to Australian universities, directly benefiting Australia and bringing living expenses and tourism promotion.

Statistical information shows that Australia’s major exports to China are primary resources and raw materials. Given the rapid industrial expansion in China over the past few years, the demand for Australian raw materials has drastically increased resulting in 18% trade growth in Australia. However, it must be noted that the net balance of payment effects are based on the monetary value of both exports and imports. While it might be true that the Australian export to China might be in excess to that of the Chinese exports to Australia, in monetary terms, China enjoys a clear and sharp edge over Australia. The primary reason behind this is that Australia exports raw material and primary resources to China, while it imports high end technology and finished industrial goods from its trade counterpart. It is clear that the technological and finished industrial goods have more value added and therefore are more highly priced compared to the raw materials and primary resources which have no additional value. This means that while Australia might be exporting a higher amount of goods to China in terms of physical quantity, it is actually exporting a much lower proportion of goods and services in terms of monetary value.

The only significant export by Australia in terms of monetary value is the export of energy. Australia exports Liquefied Natural Gas to China, which is a major high end export of Australia. Due to the rapidly increasing industrial growth, China is in dire need of energy supplies (Zweig & Jianhai, 2005). Given the rapidly fluctuating oil prices around the world, and considering the comparative cost efficiency that Liquefied Natural Gas has over oil and other alternatives, China imports a substantial amount of energy from Australia.

Australia’s Trade and Foreign Policy

Since China is such a strong trade partner with Australia, Australia must ensure a strong and progressive foreign relationship with China. On one hand, increasing monetary value of imports from China is having adverse effects on Australia’s balance of payment as Australia is exporting low value resources to China in return of high end, value added finished goods. This means that the Australian trade policy with China should be designed in a manner that aims to decrease the negative pressure on Australia’s current account.

On theoretical grounds, a simple method to solve Australia’s account problem is to cut down on Chinese imports by adopting protectionism strategies. The Australian government can impose import duties, tariffs and quotas on Chinese imports to reduce the pressures on the Balance of Payment. However, in practice, this policy has a high potential to backfire (Thomas, 2004). If Australia imposes a tariff or quota on Chinese imports, there might be two possible negative effects in contrast to the one positive effect of improved balance of payments. Firstly, imposing protectionism on Chinese imports would mean that Chinese goods would become expensive in Australia. This would result in any industry that is dependent on Chinese imports for its production to end up with increased cost of production. This in turn means a decline in competitive advantages for Australian industries. The second disadvantage would be that if Australia imposes tariffs or quotas on China, there are is a good chance that China would retaliate and do the same to Australia. In that case, it will be a big blow to Australia as China is such an important trade partner and Australia cannot afford to lose a major export market to protectionism wars. This strategy will inevitably hurt Australia more than it will hurt China (Adam & Fan, 2005).

Besides economical problems, Australia’s foreign policy should take into consideration the political sensitivities involved as well. The government of the United States of America has had some serious reservations against China’s development in the security sector. If in the future there is any political coldness that arises between China and the United States, Australia would obviously ally itself with the United States of America. Since foreign relations on a political front have a direct impact on a country’s international trade, such circumstances would result in a direct threat to the seemingly progressive trade partnership between China and Australia. Considering the possible short and long term political and economical sensitivities involved in the Australia China trade partnership, Australia needs to start thinking about an intelligent economical policy with a sense of urgency.

In the context of the current scenario, it is not advisable to think of extreme options such as protectionism. Australia can, however, consider more progressive options that may also help in securing the country’s position in the long term. Australia should and must consider diversifying its export markets. While current trade partnership between China and Australia should remain intact, new export prospects must be explored. This will not only help increase exports, but will also help secure Australia’s position in the long term if any political tensions arise between China and the western powers. Australia must consider a transition from exporting primary sector goods and move to more value added goods, making itself self sufficient.

Australia should strive to develop itself technologically and should focus on exporting more high value goods rather than maintaining dependence on exporting low value primary resources. It would be a much more intelligent approach if Australia uses its own natural resources to its own benefit rather than exporting them to other economies and then importing them back again with value added. It would be much better if Australia itself plays that part of value addition. This strategy has already been tried and tested by India and the result is that India has become a thriving economy in the world. As mentioned earlier, China is increasingly facing criticisms for quality flaws in its goods despite low costs. This is something Australia can seize advantage of and get into the picture. It should import only basic technology from China and develop higher quality goods compared to those produced by China. Australia has a higher skilled and qualified workforce and posses a higher quality of education. Australia must use these positives to its advantage.

Considering Australia’s immense potential in the tertiary sector, in particular education and tourism, Australia can also encourage tertiary sector exports to China. Tertiary sector is all about the skilled, literate, and qualified workforce and this is something Australia enjoys an edge on over China. As mentioned, Australia receives a significant amount of both tourists as well as the students from China every year, Australia must build on this. In order to make itself economically stronger and more competitive, Australia must also consider other tertiary sector exports to China such as insurance, banking, transport and logistics. Export of their tertiary sector would cost a relatively lower investment as compared to that required for technological improvements in the secondary sector.

Foremost, Australia’s first aim should be to ensure self sufficiency. Self sufficiency alone would guarantee a decline in imports and an increase in production of required imports would not only mean Australia can bid farewell to foreign dependence, it would also result in a boom for domestic industry, an increased gross domestic product, an increase in the standard of living, a positive economic growth and higher levels of employment. Once this has been achieved, Australia can further focus on research and development so as to produce higher quality, but at the same time cost efficient goods, opening up new export markets for Australia.

Alternatively, Australia can also sign free trade agreements with China that give better and more penetrative access for Australia into Chinese markets. However, this would also mean that China will be able to penetrate deeper into the Australian economy. A good solution to that Australia can form a transnational agreement with New Zealand, following the likes of European Union and the North American Free Trade Agreement. The two countries can develop a joint economic and trade policy to deal with China and can gain mutual benefits.

Conclusion

China has grown its economy by managing to produce cost efficient goods at the compromise of quality. This strategy has been extremely successful in recent years due to the financial crisis, and a need in the market, businesses and individuals for cheap goods. Once settled, the international economies will again shift their focus on quality management, and research and development. There is a probability that China’s economic potential will become fragile if it fails to align itself with market demands. Being a strong trade ally of China, Australia can take advantage of this fact and can lay a strong foundation for immense progressive economic growth. Australia can follow the already successful Indian economic model with some amendments and alterations to suit its own requirements; it can import basic technology from China and develop more quality oriented products then China produces.

Since 2007, the world economy has been on a roller coaster like pattern. The increased impacts of globalization meant that the down falling of one economy was felt by all connected economies. Considering this fact, in my opinion the only possible solution to secure oneself on both political and economical fronts in the long term is to increase self sufficiency and reduce dependence on others. Australia’s strength in the educational sector has immense prospects for the progression of research and development. Australia must export these non-material goods to China in order to minimize the adverse pressures on Australia’s import bill.

References

Kreh, W. (2008). Money, Debt and Wealth of Nations. Canada: COMER publications.

Lipsey, R. & Chrystal, K. (1997). An Introduction to Positive Economics. London: Oxford University Press.

Zweig, D. & Jianhai, B. (2005). China’s global hunt for energy. Foreign Affairs, 84(5), 25-38.

Hale, D. & Hale, L. (2003). China takes off. Foreign Affairs, 82(36).

Adam, P. & Fan, M. (2005). Modelling the potential benefits Australia China trade and foreign policy. Australia: Centre of Policy Studies.

Mediansky, F. (1997). Australian foreign policy: into the new millennium. Australia: Macmillan Publishers.

Thomas, N. (2004). Re-orienting Australia-China relations: 1972 to the present. England: Ashgate Publishing.

Gygnell, A. & Wellsley, M. (2007). Making Australian foreign policy. Australia: Cambridge University Press.

Lanteigne, M. (2009). Chinese foreign policy: an introduction. New York: Routledge.

Rodrick, D. (2001). Trading in illusions. Foreign Policy. 123(1), 54-62.

McDougall, D. (2009). Foreign policy studies in Australia. The Australian Journal of Politics and History. 55(3).

Gordon, B. (2003). A high risk trade policy. Foreign Affairs. 82(4).

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DemoEssays. "The Optimal Set of Policies for Australia." May 2, 2022. https://demoessays.com/the-optimal-set-of-policies-for-australia/.