Bracing for change in China

In his opening speech at the National People’s Congress, Chinese Prime Minister Wen Jiabao said Beijing is targeting economic growth of 7.5 percent this year, lower than last year’s target of 8 percent. Meanwhile, Zhou Xiaochuan, the governor of the People’s Bank of China, indicated that the government is ready to allow the yuan to float more freely according to market supply and demand. If the Chinese currency’s trading band is widened, the yuan will likely strengthen against other major currencies, making Chinese exports more expensive, and at the same time, spurring domestic consumption.

Of course, it is too early to assume that the Chinese economy will slow this year as it has outpaced the government’s target every year. But China is undeniably modifying its previous economic model, which was driven by exports and fast growth, to one that can boost domestic consumption based on more stable growth.

China is Korea’s biggest market, taking up 29.8 percent of total exports and 35 percent of overseas capital investment. A shift in its economic model will inevitably affect Korea’s economy as well. According to a study, a fall of just 1 percentage point in the Chinese economy would trigger a slowdown in neighboring Korea of 0.13 percentage points.

Korean companies that produce commodities in China - using parts and materials from Korea - to export to other countries would be the hardest hit. But if the world’s most populous country continues to enlarge its domestic market, Korean companies can expect to enjoy new opportunities there. If they make the most of revived domestic spending in China, exports of consumer products will be in a position to grow sharply.

Seoul has greatly benefited from China’s growth. But the country has outgrown its economic model, which was driven by cheap exports. Its biggest clients in the U.S. and Europe are scaling back their purchases due to their respective economic hardships, and China’s labor costs are quickly rising. China must inevitably steer its economy onto a more domestic-oriented track while accepting a slower pace of growth.

Korea must brace itself for changes in the Chinese economy. The government should prepare emergency plans in case the world’s second-largest economy experiences a hard landing, as some fear. Korean companies must also revise their Chinese operations, which have served as manufacturing and export bases, and turn instead to other emerging markets to drive exports.