Spex Issue 29

7/30/2019 Spex Issue 29

1/11

INCOLLABORATION

WITH

PROUDLYSUPPORTED BY

ISSUE 29

10 DECEMBER 2012

- Will the adoption of a welfare state erode competitiveness of

countries in Asia?

-China & Germany New Found Marathon Companions?

-Is No Wage Cut a Free Lunch?

The Fortnight In Brief (13th November to 10th December)

US: Looming Fiscal Cliff Still Top of the Priority List

Despite Superstorm Sandy, the US unemployment rate fell from 7.9% in

October to 7.7% in November. While the unemployment rate is the lowestsince December 2008, the drop was mainly due to fewer people looking forwork and dropping out of the unemployment count. Whether companies inUS are truly ready to hire is left to be seen.

In Washington, policy makers are in heated debate over how to balance USdebt problem with its progression. With US debt just $154 billion below the$16.394 trillion debt ceiling as of last week, a failure to reach a consensuson the fiscal cliff might push congress to a re-enactment of politicalbrinkmanship in 2011.

Asia Pacific ex-Japan: Signs of RecoveryThe Asian Development Bank expressed its optimism in the Asian regionwith a 6.6% growth forecast over next year thanks to strong privateconsumption and investment. However, it also cited weak external demandfor export-oriented countries such as Singapore, South Korea, Taiwan andHong Kong as the Europe and US regions continue to wrestle their owncolossal economic problems.

Optimistic Purchasing Managers Indices (PMI) suggested a pickup in most

Asian economies. With the year-end festive season buying and theapproach of Chinese New Year, Chinas official PMI rose from 50.2 inOctober to 50.6 in November. This possibly indicates that business in theregion is picking up despite the drag in the west.

EU: Pessimism Expected to Continue Deep into 2013

The European Central Bank has slashed its forecasts for the Eurozone 2013GDP growth from a range of -0.4% to +1.4% to a range of -0.9% to +0.3%.With the Eurozone officially back in recession in the third quarter, manyexpect the weak activity to extend deep next year. With inflation forecastsat 1.6% next year, down 0.9% from its 2.5% level in 2012, the ECB hasdecided to keep rates low.

SMU Political-Economic

Exchange

AN SMU ECONOMICS INTELLIGENCE CLUB PRODUCTION

7/30/2019 Spex Issue 29

2/11

Copyright 2012 SMU Economics Intelligence Club

2

Will the adoption of a welfare state erode

competitiveness of countries in Asia?By Tan Yong Beng, Singapore Management University

Asias concept of social welfareWith many Asian countries becoming richer in the last decade, there is a growing emphasis on

providing social rights and safety nets1

for the societies marginalized citizens. It is heartening to seethat the governments of Asian countries have not neglected the poor people, yet a pertinent questionas to how governments are going to afford to foot the bills of welfare policies without affectingcompetitiveness.

The common perception that most people from Asia have about welfare state is that it is an ideaderived from the West. It is a concept that will only lower the countrys productivity and isunsustainable in the long run as fertility rates decrease leading to a significantly heavier burden on theworking population. Nonetheless, Indonesia, Philippines, China, South Korea have introduced someschemes that show semblance to those in welfare states.

Figure 1: Percentage of citizens above 65

Governments in Asia typically view social welfare as a tool that can either legitimize their rule ordevelop the economy. For those who implement welfare policies to garner support at the poll, fundingwill be difficult and more so during recession periods. If, on the other hand, the governments focus onusing social welfare to boost their economies, it will not only ensure political but also economic

stability.

In Philippines, PhiHealth, a government owned health insurance has expanded the number of peopleinsured from 62% to 85%. Similarly, China has announced the formulation of a social security system.South Korea has schemes that provide basic pension and insurance for elderly couples with income taxcredit2.

Indonesias Health Insurance Program

Indonesia has announced that it will introduce a health insurance program starting from 2014. Thegovernment will pay premiums for people who cannot afford the insurance and this amount totalsroughly about Rp 25.68 trillion for 96.4 million of people. There will be higher costs for employers tobear once this program commences as they will be required to pay extra for their employees. The joint

7/30/2019 Spex Issue 29

3/11


3

payment for insurance by workers and employers will no doubt lead to higher costs of doing businessin Indonesia, affecting Indonesias competiveness.

Japans welfare problem

Japan is one country that needs a welfare scheme overhaul. Japan currently not only has the highestprogressive tax system3 in the world but also the second highest corporate tax amongst developednations. Individuals are taxed from 5% to 40% and companies are taxed at 38.01%. Many schemeshave been implemented to cater to Japans aging population such as the new Gold plan in 1997.

Schemes that only benefit the aged are not sustainable if the population is constantly aging. Japansdebt problem is becoming more serious as debt levels are projected to exceed US$13 trillion of debtwithin the current fiscal year. Perhaps Japan should shift its focus to help women with the household.A way to do this is by subsidizing childcare so that more women in Japan will be able to contribute tothe economy by entering the workforce and thus easing the burden of supporting the aged.

Hong Kongs economic approach

Under the Britishs rule, Hong Kongs government introduced free education, social and health care

service. These schemes were later expanded to include the public housing program. The aim of thegovernment was to quell the rioting which was rampant in 1960s and to instill loyalty into immigrants.Social policy in Hong Kong is primarily used to support economic activity. After the Asian FinancialCrisis, there was a surge of immigrants from China. Hong Kong introduced a new form of welfare

policy known as the Mandatory Provident Fund, a fully funded social security scheme. This scheme issimilar to Singapores Central Provident Fund where it is mandatory for both employee and employerto contribute 5% of the employees salary to the fund and will ease the burden on the government.This form of welfare is perhaps the best panacea in ensuring a safety net for the citizen withoutloading the government with debt making the country competitive at the same time.

A possible rationale for social welfare

Figure 2: Competitiveness in countries

According to the figure 2, Singapore has managed to remain competitive. This is in spite of its CentralProvident Fund (CPF) where employers would need to contribute more for labor. A possibleexplanation might be that the government can afford to lower tax due to the increased revenue fromCPF and hence improving competitiveness.

Comparing Asian countries with the western ones, the amount Asian countries spend on welfare is stillrelatively low. However, this is set to change as Asian families are now forming nuclear families where

it will be difficult for family members to provide adequate support in times of need. Hence, it is

7/30/2019 Spex Issue 29

4/11


4

important for Asian countries to develop a welfare policy that can support their aging populationwithout being forced to collect high corporate or individual income tax which will turn awayinvestments and reduce the desire to work.

Sources: Bloomberg, NY Times, Reuters, Economist, Jakarta Globe, Bank of Japan, Hong KongsInformation Services

1 Programs preventing the poor from falling below a certain level of poverty. Usually in place to ensure

that the poor have a way out in difficult times.

2 A tax benefit to a taxpayer in the form of a deduction from the total amount of taxes that has to be

paid to the state.

3 A system by which the tax rate increases as the taxable base (income, in the case of individuals)increases

7/30/2019 Spex Issue 29

5/11


5

China & Germany New Found Marathon

Companions?By Vera Soh, Singapore Management University

Consider a group of people who link themselves up with a strong rope and run a marathon together -when one trips, the others falter. When pudgy Uncle Sam who is right in front suddenly falls and

sprains his ankle, he sparks off a domino effect because everyone else behind trips over him.

China - Next in Line

She has been the most promising runner since the start of 2008. Premier Wen Jia Bao and his teamhave been steadily maneuvering her forward. However, China has been starting to show signs offatigue.

Her Manufacturing Purchasing Managers Index1 (PMI) fell to its lowest in August 2012, hitting 49.2,below the crucial 50.0 threshold that signifies expansion. With the governments emphasis andattempts to grow the services sector, Chinas overall non-manufacturing PMI rose to 56.3 in August,from Julys 55.6. However, as shown in Table 1 below, with new orders and business expectationssliding further, the Chinese economy still faces risks and a shaky outlook.

Table 1: Chinas Official Non-Manufacturing Purchasing Managers Index

Official Non-Manufacturing Purchasing Managers Index

Component Sub-indexes July August

Overall 55.6 56.3

New orders 53.2 52.7

New export orders 49.4 49.6

Current orders 45.3 44.7

Stocks of finished goods 47.2 47.8

Intermediate input prices 49.7 57.6

Charge prices 48.7 51.2

Employment 51.4 51.7

Suppliers' delivery time 52.5 52.6

Expectations of business activities 63.9 63.2

Source: Xinhua News

Noting that prices charged to consumers have risen by a staggering 2.5 percentage points, the highlyanticipated September 1stValue Added Tax (VAT)2 indirect tax reform in Beijing (initially) might bethe extra boost China needs. Designed to help small and medium businesses cut tax expenses and savean overall 16.5 billion Yuan each year, most businesses are expected to experience significant cost

savings. These savings can be passed on to consumers, stimulating household expenditure. The mainaim is to boost domestic consumption in the midst of an unreliable external economic climate.With the unforgiving global economic climate coupled with a fairly moderated goal of 7.5% GDPgrowth for 2012, Premier Wen Jia Bao would not want to be remembered as a leader who allowedChinas GDP growth to slip below targets. With less than 7 months in office, it can be said that PremierWen is racing against time to achieve this goal.

Germany Team Leader, Cheer Leader & Cleaner

Across the Atlantic, Germany is seen to be the strongest, most influential and largest economy in theEurozone at present. With most of the Eurozone economies suffering from stunted or negative growth,German Chancellor Angela Merkel is struggling to keep the Euro team together. Orders for German

products have been down since April this year, following Chinas slowdown in infrastructure projects.

7/30/2019 Spex Issue 29

6/11


6

For the bulk of 2012, Germany has been sustaining minimal economic growth by relying on its owndomestic private consumption and as seen in Graph 1 below, growing exports to China.

Figure 1: German Exports (in thousand Euros) to China

Source: CEIC Database

With German exports to China dipping recently, it is only logical for Germany to attempt to encourageChinas economic growth. This can be done with continued project developments that would supportdemand for German construction machineries. Likewise, a growing middle class in China would fuelconsumer demand for high quality German consumer products. As reported in the China EconomicReview on 1stSeptember 2012, German carmakers such as Volkswagen and BMW are the largeststakeholders in Chinas automobile industry, taking up about 80% of automobile sales in China. Withan expected slide in domestic consumption in the coming quarters due to ongoing Eurozone concerns,Germany needs China to keep demand up.

As seen in Graph 2 below, the expected fall in German domestic consumption can be attributed to the

increasing unemployment figures in Germany in recent months.

Figure 2: Germanys Unemployed (in millions), Seasonally Adjusted

Source: CEIC Database

With growth expected to average near zero or even negative, Merkel will be faced with the dilemma ofsupporting her ailing Eurozone neighbors while having to placate three-quarters of Germans wantinga Grexit3. This balance she has to strike is not simply a matter of pleasing and pacifying her own

0

1000000

2000000

3000000

4000000

5000000

6000000

7000000

2.8

2.82

2.84

2.86

2.88

2.9

2.92

Jan-12 Feb-12 Mar-12 Apr-12 May-12 Jun-12 Jul-12 Aug-12

7/30/2019 Spex Issue 29

7/11


7

people anymore - It has turned into a major issue that will determine the course of direction the worldeconomy will take.

Joining Forces, Running Together

The rest of the world, just like the two protagonists, wants something out of this growing German-Sinorelationship. Faced with an unsupportive global climate, Germany and China share parallel concernsand interests. As shown in the next paragraph, these two economically resilient global playersunderstand the power of focus and cooperation.

Merkel - Running with a Dash of Hope

Instead of her usual annual trip, Merkel has made an exception just before Premier Wen steps downearly next year with her second visit to China this year accompanied by high level ministers and amassive entourage of business leaders. The leaders witnessed the signing of more than a dozenbilateral contracts regarding transport, communication, clean energy and healthcare industries. WithChinas biggest firms still in the lower-end of the value chain, these new agreements represent avaluable opportunity for China to leverage on this partnership to enforce a transfer of skills andknowledge to her economy.

Yet, it is important to note that German firms are weary of the difficulty of doing business in China inparticular due to rampant corruption, overwhelming presence of intellectual property thieves and the

lack of transparency. With rising labor costs in China, many German firms have been pulling out of themainland. Moreover, Chinas endeavor to move up the value chain poses potential conflicts of interestbetween the two countries economies.

During both visits to China, Merkel has sought Premier Wens help in aiding the EU. She hopes thatChina would be willing to buy European bonds, especially Italian and Spanish. In fact, it is not just theGermans the whole of EU is hopeful. The EUs cry for help from China is magnified by the fact thatMerkel brought up the exact same issue on both her visits this year.

This visit came concurrently with Merkels confession that she preferred to handle the dispute over

Chinas dumping of solar panels herself, showing increasing disillusionment in the European

Commissions ability in resolving economic issues. Germany mightseem to be better off without otherEuropean countries tying her down in the midst of this global crisis. However, with recentdevelopments, chances are that this crisis will pass sooner or later and the EU would still exist andwith Germany as a part of it. Yet, acting individualistically and increasingly leaning towards Chinawithout sufficient diversity in Asian relations might be a shortsighted approach. Moreover, despite theclose friendship between China and Germany, China still has not given a concrete answer regardingthe buying of European bonds.

Unlike previous visits, Merkel steered clear of human rights, placing strong emphasis on economicissues Chinas chronic area of interest. It points towards a mutual understanding of what bothcountries deemed as the most critical, expanding their scope and willingness to cooperate despitehaving a history of clashes in other areas.

Premier Wen - Running With the Finishing Line in Mind

Having a closer relationship with Germany is a step forward to having an even louder voice ininternational institutions such as the International Monetary Fund (IMF) and the G20. Germany is ableto play the role of door-opener for China, potentially fostering closer ties and increasing Chineseinfluence over European countries and eventually the US. In fact, building up a warmer relationshipwith the European Union (EU) could mean an absolute end to the EUs two decade long arms ban on

China as well as less demands on Chinas human rights and more open dialogue.

Keeping in mind Germany and Japans emergence from WWII, as well as the incredibly vexing Sino-Japanese spat over Diaoyu/Senkaku Islands, Chinas showy display of affection to Germany might have

been a deliberate act. Moreover, it presents to the rest of the world Chinas blooming relationship withher new found ally.

7/30/2019 Spex Issue 29

8/11


8

Sources: Xinhua News, CEIC Database, China Economic Review, Channel News Asia, New York

Times, Korea Times, Wall Street Journal and Turkish Weekly.

1 An indicator of the manufacturing sectors economic health. The PMI index is based on five major

indicators: new orders, inventory levels, production, supplier deliveries and the employment

environment.

2 A form of consumption tax placed on a product whenever value is added at any stage of

production and at final sale.

3 Greeces possible departure from the Eurozone.

7/30/2019 Spex Issue 29

9/11


9

Is No Wage Cut a Free Lunch?By Devanshi Kanoi, Singapore Management University

The Euro Crises has left Europeans in an era of austerity1 as governments are trying to eliminateunsustainable budget deficits2 to fight the crises. The measure of fiscal deficit was included in the 78bnInternational bailout agreement that the government had signed in September 2012.

The Bailout PlanPortugal Prime Minister, Pedro Sassos Coelho, embraces the embarrassing budget U-turn to meet the budgettargets set out, under the International bailout agreement. The agreement is a controversial plan andinvolves increasing income taxes and social contributions from workers but keeping wages constant.

Figure 1: Portugals proposed bailout agreement

Figure 1 shows the proposed target deficit as a % of the GDP for Portugal by the International bailoutagreement. The program requires Portugal to cut its deficit to 4.5% of GDP in 2013. The expected deficit is5% for 2012, and was above 9% before the bailout agreement. The contribution of employees salary to social

security schemes is expected to rise to 18% from 11%. The government in turn favors companies by reducingtheir contribution to social security schemes from 23% to 18%.

The two faces of Fiscal DevaluationFiscal Devaluation3cuts wage costs and tackles the problem of Portugals low internationalcompetitiveness - rising unit labor costs had outpaced productivity gains. Labor costs have been fallingsince 2010, and IMF projects the fall to be approximately 4.5% in 2012. Figure 2 compares Portugals

unit labor costs with other European countries. From a companys point of view, this shift is

advantageous. Firms will be able to create more jobs and lower production costs. The governmentbelieves that reducing unit labor costs can be used to boost exports. This will help Portugal overcomethe deficit problem.

0%

2%

4%

6%

8%

10%

12%

2009 2010 2011 2012 2013 2014

Target agreed under bailout Deficit as % of GDP Source: IMF

7/30/2019 Spex Issue 29

10/11


10

Figure 2: Eurozone Unit Labor Costs

Source: Datastream

Critics say that the fiscal devaluation plan in itself was not wrong but the tight cutting down ofworkers pay package was the reason for discontent.

This mechanism may allow companies to hire more workers, increase productivity and raise thecompetitiveness of products abroad. The government believes that it will fight the expected 16%unemployment rate of 2013. It believes that the tax increase instead of a wage cut would also encourageinvestments. However, it ignores the fact that an increase in tax reduces the motivation of employees towork. Moreover, business associations have criticized this social security contribution increase as it reducesthe spending and purchasing power of individuals. This will in turn reduce domestic demand, causingcompanies to shut down, worsening economic conditions further.

2012 has been the second year of the three-year austerity program, taking away 24% of the workers incomein the form of wage cuts and tax increases. Thus, the increase in taxes has been criticized and has led toprotests. Armenio Carlos, leader of Portugals largest union confederation, CGTP, called for a protest against

the government taking the peoples earnings in the form of taxes. This will result in the loss of popularity ofthe government.

Tax increase or wage cut?To conclude, we have to ask the question, Is a tax increase better or a wage cut? Looking at the broaderpicture, we can conclude that a tax increase is essentially a wage cut. A policy of adopting no wage cuts is nota free lunch. Both the wage cut and tax increase would leave the workers with the same disposable income,thereby constraining their purchasing power.

However, a tax increase would help the government battle the fiscal deficit. The government will have morecontrol over the money in the economy and could pay back loans, boost spending and investments, helpingthe economy to regain its power. It could be called a wise move by the government, because cautiousinvestors would be apprehensive to invest under the current economic conditions. They would probably savethe money or invest it outside the country. However, with the use of a tax increase, the government cancontrol the flow of money to help Portugal come out of the Euro crises.

Sources: IMF, Datastream, Worldbank, OECD

1 When more money is spent than earned. A government policy for deficit cutting by lowering the

spending power of the population. It is usually done via the reduction of benefits and public services

provided by the government.

2 When more money is spent than earned.

3 It resembles currency devaluation by cutting down labor costs of enterprises in one go. It shifts taxes

from employers to consumers.

7/30/2019 Spex Issue 29

11/11


11

The S&P 500 is a free-float capitalization-weighted index published since 1957 of the prices of 500 large- cap common stocks actively traded in

the United States. It has been widely regarded as a gauge for the large cap US equities market

The MSCI Asia ex Japan Index is a free float-adjusted market capitalization index consisting of 10 developed and emerging market countryindices: China, Hong Kong, India, Indonesia, Korea, Malaysia, Philippines, Singapore, Taiwan, and Thailand.

The STOXX Europe 600 Index is regarded as a benchmark for European equity markets. It represents large, mid and small capitalizationcompanies across 18 countries of the European region: Austria, Belgium, Denmark, Finland, France, Germany, Greece, Iceland, Ireland, Italy,

Luxembourg, the Netherlands, Norway, Portugal, Spain, Sweden, Switzerland and the United Kingdom.

Correspondents

Ben Lim (Vice President, Publication)[email protected] Management UniversitySingapore

Herman Cheong (Vice President, Operations)[email protected] Management UniversitySingapore

Tan Jia Ming (Publications Director)[email protected] Management UniversitySingapore

Fariha Imran (Marketing Director)[email protected] Management UniversitySingapore

Vera Soh (Liaison Officer)[email protected] Management UniversitySingapore

Randy Lai (Editor)[email protected] Management UniversitySingapore

Seumas Yeo (Editor)[email protected] Management UniversitySingapore

Vera [email protected] Management UniversitySingapore

TAN Yong [email protected] Management UniversitySingapore

Devanshi [email protected] Management UniversitySingapore

Everything in this document and/or in this website is copyrighted by law and cannot be used without the written permission of

its owner/publisher. It is forbidden to make digital copies or reproductions, however you may however use the information as

reference material and it may be physically printed for personal use. You may also quote parts of the content of this publication,

digitally or physically, if the source and author is clearly stated, together with the copyright information.

All views expressed in this publication are the personal opinion of the researcher(s), do not constitute a buy or sell

recommendation on any instruments, and in no way reflect the opinions, views, or thoughts of SMU and other abovementioned

universities, and unless specified, of any other student clubs. All logos and/or images on these pages belong to SMU and the

respective third party copyright and trademark owners. SPEX, affiliated clubs and the covering researcher accepts no liability

whatsoever for any direct or consequential loss arising from any use of this document or further communication given in relationto this document.

SPEX is the brainchild of current New York University undergraduate Mr. John Ang, further developed by SMU students for the

benefit of both SMU and non-SMU students.

Spex Issue 29

Documents

Transcript of Spex Issue 29