East Asia

All China Articles

The Birthplaces of China’s Leadership

Geopolitics within China

Internal Chinese Geopolitics, part 1

The Geopolitics of Chinese M&A

China’s Borderlands

North Korea and the Olympics Curse

Don’t Discount Reunification

Examining China’s M&A Boom

Labour Strikes in China

Deep State vs Deep South?

China’s North-South Split

 

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East Asia, Europe, Middle East, North America, South Asia

Adventures in the Age Dependency Ratio: A Demographic Overview of the World

2008 was as significant a year from a demographic perspective as it was from a financial one. In 2008 the world’s age dependency ratio —  the number of people who are either younger than 15 or older than 65, relative to the number of people aged 15-65 — reached its lowest point. From a peak of approximately 77 in 1967, the ratio fell to a floor of 54 in 2008, a level it has remained at every year in the decade since. This low is not likely to be surpassed. The UN predicts that the ratio will rise again during the generation ahead, albeit at a far more gradual pace.

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The age dependency ratio is a useful, though obviously imperfect, measure of economic potential. The larger a country’s dependency ratio, the heavier the economic burden (to put it crudely) its working-age population may need to bear. The country with the highest such ratio in the world, Niger, with a ratio of 112, has a burden 1.12 times as heavy as those who bear it. The country with the lowest dependency, South Korea, with a ratio of 38, has a burden that is only about a third as heavy as those who carry it. The Gulf Arab kingdoms have even lower ratios than that (the UAE’s is just 18!), but only because they have so many temporary foreign workers.

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It is not surprising that a lower dependency ratio tends to correlate somewhat with economic success. Not only is a country with fewer dependents more able to invest its time and money in increasing its productivity, but productive countries also tend to have low fertility rates, which keep dependency levels low in the short-term (though not in the long term, when low fertility rates lead to small working-age populations). As such, a low dependency ratio can be both a cause and an effect of economic growth. Even the oldest country in the world, Japan, only has a dependency ratio of 66.5, much lower than those of the young countries within Sub-Saharan Africa.

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In recent history, the correlation between economic growth and age dependency can be seen most clearly in East Asia. China’s rapid economic growth has tracked its dependency ratio’s steep fall, while Japan’s stalled economic growth has tracked its own dependency ratio’s rise. China’s dependency ratio, which is today the lowest in the world apart from South Korea (not counting city-states or the Gulf Arab monarchies), was almost twice as high a generation ago, and only fell below the US’s in 1990. That same year, Japan’s ratio fell below Germany’s to become the world’s lowest other than Singapore or Hong Kong. A rapidly aging population has since made Japan’s become by far the highest in the developed world, however. Japan’s ratio has also risen higher than those of many developing nations in recent years, even than some of the world’s poorest nations, such as Haiti.

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Outside Japan, East Asia now has the lowest dependency ratios of any region, by far. Not only China and South Korea but also Thailand, Taiwan, Singapore, Hong Kong, Vietnam, Malaysia, and even North Korea all have ratios between 38-44, the lowest in the world anywhere outside of the Persian Gulf. Indonesia’s too, at 48.5, is now lower than those of most countries in the world, while the Philippines, the major outlier in the region with a dependency ratio of 57.5, no longer has a high ratio by global standards either. This trend, however, is finally beginning to change. China’s ratio has begun to rise since 2010, prompting many to worry that the country “will become old before it becomes rich”. The dependency ratios of Vietnam, Thailand, and South Korea have also begun rising during the past several years. And Japan’s already high ratio will continue to rise quickly unless it finally decides to raise its extremely low immigration rate.

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The years 2008-2010, in addition to being when the global dependency ratio and the Chinese dependency ratio both reached their lowest levels, was also when the EU’s dependency ratio rose higher than that of the US, for the first time since 1984. The EU’s dependency burden has continued to rise relative to the US in the decade since, a fact that has perhaps contributed, at least to a minor extent, to the US’s stronger economic performance during this period. Indeed, at the risk of attributing far more significance to the age dependency ratio than is justified, I will also point out the fact that countries in Central Europe have enjoyed a much lower ratio and a much stronger economic performance than has the EU as a whole. Similarly, Canada has had the lowest dependency ratio and one of the strongest economies among rich Western nations in recent years. Ratios in Canada and Central Europe were particularly low during the financial crisis:

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Another intriguing case is Italy, which has a ratio that has been rising at fast pace since 2010, reaching the highest level in its modern history in 2017, at the same time as its economy has become perhaps the primary point of concern in European politics. A similar trend has existed throughout Southern Europe, with the ratios of Greece, Spain, and France reaching high levels in the years after 2010. Although it is actually France which has the highest dependency ratio of these countries, a result of its having a relatively large population of children, it is Italy which has their highest old age dependency ratio (population older than 65, relative to population 15-65):

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If we look at Europe as a whole, including countries in its surrounding region, we can see there is a divergence occurring between northern and southern countries. Northern countries such as Germany, Russia, and Poland, which have had some of the lowest dependency burdens in the world in recent decades, will see sharp increases in the years ahead because their largest population cohorts are approaching 65 years old and they have few teenagers approaching 15 years old. (An exception to this is Ireland, which has had a fairly high ratio because of relatively high birth rates, but is not likely to have this increase much going forward, as it has few people approaching 65). Mediterranean countries, in contrast, will have their dependency ratios rise more slowly, because they have more children or because (particularly in Spain) their largest age cohorts are now only in their forties rather than their fifties. Within the EU this is especially true of France, but it is even more true of non-EU Mediterranean countries such as Turkey and Tunisia. These countries used to have far higher ratios than the EU or Russia, but no longer do today.
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This fall in dependency in places like Turkey and North Africa is part of a greater trend, in which countries in the “global south”, particularly those outside of Sub-Saharan Africa, have recently seen their ratios fall much more quickly than countries in Europe, North America, or Northeast Asia. India’s dependency ratio, for example, fell below both the US’s and Germany’s in 2016. So did Bangladesh’s. (Pakistan’s ratio is falling too, but still remains high, around the level of Japan’s). Latin America’s is even lower; it recently became the lowest of any region, excepting East Asia. The major country that has had the most significant fall in dependency, however, is Iran:

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Of course, age dependency ratios are simplistic. They treat all people above the age of 65 and below the age of 15 as if they were the same, and all people between 15 and 65 years old as if they were the same. Yet if (for example) we were to change the upper limit of working age from 65 to 70, Japan’s dependency ratio would fall substantially as a result, because Japan’s largest age cohort today is 65-70 years old. If, on the other hand, we were to change the lowerlimit of working age from 15 to 20, many middle-income countries’ ratios would rise substantially. To address these obvious shortcomings, alternative measures of dependency have been created. Examples of these include the economic dependency ratio, health care cost age dependency ratio, pension cost dependency ratio, and prospective old age dependency ratio. For each of these measures, Canada is forecast to have the biggest increase in the decade ahead among significant OECD countries, while Italy and Britain are expected to have among the smallest increases.

A primary lesson that can be learned from the analysis of age dependency ratios is that the common “young population good, old population bad” view of countries’ economic prospects is a misleading one. In reality countries with young populations tend to remain poor, in part because the youngest countries in the world (in Sub-Saharan Africa) are much younger than the oldest countries in the world are old. It will still be a number of decades before aging populations lead Europe or North America to have a higher age dependency ratio than Sub-Saharan Africa. And even that assumes that no unexpected shifts in migration or fertility will occur.

What age dependency ratios do show is two big trends, both of which have to do with middle-income economies. The first trend is the emergence of what we might call a goldilocks belt, located between the aging populations of North America, Europe, and Northeast Asia and the youthful populations of Sub-Saharan Africa. South Asia, North Africa, and Latin America all now appear to be in the process of supplanting high-income countries in terms of having the demographic trends that are arguably most conducive to (or at least, indicative of) economic growth.

The second trend is that Northeast Asia’s dependency ratio, which has been the lowest in the world for a generation and probably played a significant role in helping the region emerge from a low-income to middle-income level, bottomed out almost a decade ago and is continuing to rise.

Taken together, these trends suggest opportunities for middle-income countries, particularly those countries located in or near to the Mediterranean and Caribbean regions, to increase their exports to developed economies, given the aging labour forces of developed economies and traditional exporters in East Asia. In contrast, these trends also suggest that there should perhaps be a greater level of caution regarding the younger, high-growth economies in East Africa, such as Ethiopia or Kenya, which have recently been among the favorites of some emerging market investors.

 

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East Asia

The Birthplaces of China’s Leadership

In democratic countries, political analysts often try to sniff out any regional divisions that exist within a given country by looking at the voting patterns of that country’s electorate. In Italy’s recent election, for instance, it has been thought to be significant that Italians living in northern Italy tended to vote centre/right (including for the Northern League), whereas in southern Italy people tended to vote for the Five Star Movement.

In countries like the People’s Republic of China, however, where no such elections are held, different factors may be looked at instead, in order to gauge the level of regionalism that might exist.

One interesting thing to note here is that almost none of modern China’s top politicians were born in peripherally located areas in the country’s southeast, southwest, northwest, or northeast. The only province in southeast or southwest China to have produced a somewhat notable number of Politburo members is Fujian, a relatively small province where Xi Jinping served 17 years of his career, which is important to China in part because it shares unique social and linguistic connections with the nearby island of Taiwan.

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chinese_provinces-map

The chart above shows, by birth-province, the number of members in the politburo, politburo standing committee, party secretariat, central military commission, provincial party secretary, or previous politburo standing committee members going back to 1990, adjusted to take into account the varying population sizes of each province. Apart from Fujian and Qinghai (which ranks high on this list only because it has such a tiny population, by China’s standards), all of the provinces at the top of this list are in the north or central coastal regions.

China’s most populous province, Guangdong, has had no leaders on this list. As of 2017, Guangdong may have also broken a thirty year tradition by having its provincial governor not be a native of the province. It is now one of the few provinces not to have a native-born governor.

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Birthplaces of China’s new Politburo Standing Committee

In this picture above, we see the birthplaces of China’s current top leadership, the members of the Standing Committee. Here we also see the one big exception, Qinghai-born Zhao Leji. Zhao’s career is noteworthy. Zhao served as party chief of Qinghai, breaking the unwritten rule that a person should never be party chief in their birth-province. Zhao was later party chief in Shaanxi, where his parents were from; this too broke an unwritten rule, that a person should not be party chief in their “native” province. Now, Zhao has not only reached the Standing Committee, but has taken over Wang Qishan’s anti-corruption job, a critical position. Some have argued that Zhao has been able to rise in this way mainly because Xi Jinping’s family is also from Shaanxi.

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A chart of the birthplaces, by province, of Chinese members of the Politburo, the Politburo Standing Committee, the Central Military Commission, the Communist Party secretariat, provincial party secretaries, provincial governors, or past politburo standing committees going back all the way to about 1990, not adjusted for provincial population sizes. —  Correction: Yunnan, the largest southwestern province (unless you count Sichuan as southwestern too), I left off this list by accident. It would have been at the bottom of the list, just above Hainan

Here’s a map of the birth-provinces of the current 25-member Politburo Central Committee (which includes within it the 7 members of the higher-ranked Standing Committee):

communist politburo central committee

And here, finally, is a map of the birth-provinces of the current provincial party chiefs:
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East Asia

Don’t Discount Reunification

Conventional analysis of Korea seems to be incorrect in its view of the probability of North-South reunification. The conventional view is that reunification grows more unlikely as the disparity in wealth between the North and South (now far greater than that between West and East Germany in the 1980s) continues to increase, and as young South Koreans, who tend to be more opposed to reunifying with the North, come of age.

While we have no way of knowing what the odds of reunification are, we should recognize that the logic behind these conventional views is not sound. Most South Koreans are Baby Boomers or senior citizens, so the issue of young Koreans tending to oppose the idea of reunification may not be nearly as relevant as one might think, even if we do accept the premise that public opinion will help determine the relationship between the two Koreas.  An estimated 58 percent of South Koreans in general favour reunification.

As for the enormous economic disparity between the North and the South, it might actually make reconciliation between the two Koreas more probable, not less probable. This is because it makes opportunities available from economic arbitrage higher for both sides.

Unlike in previous decades, North Korea and South Korea today have complimentary economic resources and needs. South Korea’s primary resource is capital, which the North needs if it is to finally escape extreme poverty. The South’s primary need is to bolster its increasingly expensive and rapidly aging population (see Figure 1, below), as well as safeguard the imports of fuel and exports of manufactured goods upon which South Korea depends more heavily than does any other major economy (see Figure 2).

korea pop. pyramidsThe North’s resources are its cheap labour, coal reserves, and land bridge linking South Korea to China and to Russia.

Working together, either through a reopening of trade and investment channels or through eventual reunification, the South could provide capital while the North provides labour, energy, and direct access to the labour and energy of Northeast China and Pacific Russia. Given the vulnerability of South Korea’s existing trade routes to Europe and the Middle East, which pass the Straits of Hormuz, Malacca, Taiwan, Bab-el Mandeb, and Suez, none of which South Korea has any control over, it is not difficult to see why trading with the North might appeal to the South.

relative trade northeast asia

In this context, the current Olympics reconciliation between the two Koreas should not have taken so many people by surprise. (The Olympics reconciliation also should not have been such a surprise because it was preceded by South Korean officials announcing, in March 2017, their intention for South Korea to present a joint bid to co-host the football World Cup in 2030 with North Korea, China, and Japan). This is not to say that theOlympics indicate that a real push towards reconciliation will now occur, let alone a push for reunification. Still, these outcomes should not be ruled out, just as the thaw in the relationship that has taken place at the Olympics should not have been ruled out.

Let us take a brief look, finally, at the current politics/economics of the four outside powers that surround and influence the Koreas: China, Japan, the United States, and Russia.

China and Japan both have leaders who have recently gained in prominence: Xi since the Party Congress this past October, Abe since the Japanese election this past October. China and Japan are both scrambling for access to energy: China to replace coal in order to reduce pollution, Japan to replace nuclear power in order to avoid another Fukushima incident. Both countries are also scrambling for labour: Japan because of its elderly population, China because of wage inflation, the impact of the one-child policy, and the aging of Chinese Baby Boomers. South Korea, which is also increasingly in need of energy and labour, will find it difficult to compete with these two giants. The only place where South Korea may have an edge over China and Japan is its fellow Korean state, North Korea.

This competition among the Northeast Asian economies might increase even more if the United States follows through on President Trump’s pledges to reduce the US trade deficit, get tough on China, and prevent allied nations like South Korea, Japan, and Germany from “free-riding” on the global sea-lanes protection that has been provided by the United States navy. Meanwhile, with the number of US soldiers in Afghanistan having been reduced from around 100,000 in 2011 to only around 11,000 today, the US may now have the ability to threaten the North Koreans more than at any time since September 11, 2001.

Russia, in contrast, is now focused on its engagements in both Syria and Ukraine, which may limit its ability to aid its historic ally North Korea. Russia’s economy is limited too, as a result of the low oil, gas, and coal prices that began in 2015. Russia depends on exporting energy to Europe, but if those exports are imperilled, whether because of worsening relations between Russia and Europe or because of the US’s new transatlantic  exports of oil and liquified natural gas, Russia may have to diversify its trade patterns by exporting to East Asia. The Russians are, however, afraid of both China and Japan, and so prefer to trade with the Koreas instead. It is therefore increasingly in Russia’s interest to see reconciliation between the Koreas, so that Russian exports can reach the South via the North and so that the Koreas’ economies and demand for Russian resources can grow.

In closing, we should perhaps begin to consider the Korean situation in the same way that an experienced investor views financial markets: aware of the significance of arbitrage, and aware of the maxim that past results are not a proper indication of future returns. In other words, we should not assume that the North’s isolation and totalitarianism will necessarily continue, and we should not think that the Koreas’ diverging paths means they are less likely to re-converge going forward. Of course we should not be naive about the character of the North’s regime, and we should not be overconfident in assuming it will change. But neither should we discount the possibility of reunification, whether achieved through diplomacy, assassination, or war. Not even in 2018.

 

 

 

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East Asia

Geopolitics within China

The year 2017 has short, medium, and long-term significance in China.

Its short-term significance comes from the Communist Party’s quinquennial leadership transition, which is being held a week from today.

Its medium-term significance comes from being the twentieth anniversary of the most recent notable geopolitical transition in China; namely, of Hong Kong leaving the British to join (in effect) China’s largest province Guangdong, and of Chongqing leaving China’s formerly-largest province Sichuan, in 1997*.

Its long-term significance comes from being the 100th anniversary of the Russian Revolution; of which, with the Soviet Union now long gone, the Chinese Communist Party is the only major remnant. The Party’s centennial is itself arriving in 2021, the first deadline in Xi Jinping’s “Chinese Dream”.

It is interesting to think on how these factors may overlap. The Russian Revolution of course brings to mind the Soviet collapse. That collapse occured 69 years after the Soviet Union’s formation; next year will be 69 years since the People’s Republic of China’s formation. These memories may be reenforcing the desire of China’s leadership to avoid the mistakes they perceive Gorbachev to have made. In a small way, this might be contributing to the Party’s granting more power to Xi Jinping. The promotions Xi makes this week are being watched closely, worldwide, as a yardstick of his clout.

Geopolitics within China 

The twentieth anniversary of the political changes to the Hong Kong-Guangdong and Sichuan-Chongqing regions are, arguably, deeply relevant to this issue.

First, the two men Xi is expected to highlight as long-term successors of himself and of Premier Li Keqiang currently lead those regions. Chen Min’er is the party chief of Chongqing, Hu Chunhua is the party chief of Guangdong. Both will have an incentive to keep their regions pliant, in order to realize this rise to the top.

Second, the strongest moves in Xi’s anti-corruption campaign have been taken against top leaders in the Sichuan-Chongqing region: against Sun Zhengcai, party chief of Chongqing, a few months ago, and against Zhou Yongkang, a former chief of Sichuan, in 2015. Sun will be the first Politburo member kicked out under Xi. He will be just the third incumbent Politburo member to fall in the past 20 years, and yet the second party chief of Chongqing (the other being Bo Xilai, in 2012) to do so.

Third, Guangdong and Sichuan are by far the largest of China’s “peripheral” provinces (see graph); provinces outside of the part of China that, roughly speaking, lies between or near Beijing and Shanghai. Few recent Chinese leaders have been born in peripheral provinces; the new Standing Committee that Xi is expected to pick will not have anyone born in a peripheral province. Neither was anyone on the current Standing Committee* born in a peripheral province. Indeed, nobody born in Guangdong or Sichuan holds any of the 43 positions within the Communist Party’s Politburo, Secretariat, or Central Military Commission.

China's Peripheral Provinces

Read the full article here: Geopolitics within China

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East Asia

The Geopolitics of Chinese M&A

According to an article in The Economist, the value China’s outbound M&A activity rose sharply in 2016, up approximately fivefold since the summer of 2015 and eightfold above its average rate between 2010- 2015.

The article mentions that this increase could represent a troubling trend for China, of capital fleeing the country in response to its slowing economic growth rate and gradually depreciating currency in recent years.

It then largely dismisses this theory, however, saying, “rather than sparking a stampede [of money] to the exits, it is more accurate to say that these changes [in China’s economic performance] have alerted Chinese firms to the fact that they are still woefully under-invested abroad. China’s share of cross-border M&A has averaged roughly 6% over the past five years, despite the fact that it accounts for nearly 15% of global GDP”.

In other words, the article assumes that, if  a country’s share of global M&A does not exceed its share of global GDP, its M&A is less likely to be capital flight. This assumption is not justified, however. It overlooks other key factors that may determine a country’s propensity for engaging in outbound M&A. Such factors include:

1. A country’s physical proximity to other large economies

In order to have cross-border M&A, you need borders to cross. Economies with large neighbours, for example Canada or the Netherlands, tend to have a relatively high propensity for engaging in international M&A.Canada’s cross-border M&A, for example, has tended to be 25-50% as large as the US’s in recent years, in spite of the fact that Canada’s GDP is less than 10% as large as that of the US. China, unlike Canada, does not border any large economies. This impacts not just its M&A, but also trade: in China trade counts for 37% of GDP, whereas in Canada it is 64% and in the Netherlands it is 151%.

2. A country’s cultural and linguistic affinity with other large economies

Most economies in the world speak European languages; Northeast Asia remains something of a linguistic outlier. This may make Northeast Asian countries less likely than other regions to engage in global M&A.  Japan, for instance, currently accounts for 6.5 percent of global GDP, yet has accounted for less than 1 percent of global inbound M&A in recent years, and less than 4 percent of cross-border M&A in general. Arguably, China too might be expected to have a low propensity to engage in M&A.

3. Capital availability versus investment opportunity

One of the reasons that Japan’s outbound M&A far exceeded its inbound M&A is that capital in Japan has been cheap (its interest rate is below zero), yet investment opportunities in Japan have been limited (its economic growth rate is 1 percent). Thus, the Japanese borrow money cheaply at home, and often invest it abroad. In China, however, interest rates frequently top 4 percent, while economic growth is estimated to be 6-7 percent. We might, then, expect China to be less M&A-intensive, and generate more of its own investment opportunities domestically rather than seek out ones in foreign markets. Unless, of course, as many economists suspect, China’s true growth rate is much below 6-7 percent.

4. A country’s political relationship with other large economies

Outside of mainland China itself, approximately 45 percent of East Asia’s GDP is generated in Japan, China’s historic regional rival. Outside of mainland China, approximately 29 percent of global GDP is generated in the US, China’s potential global rival. Because China’s relationship with Japan and the US is sometimes a tense one, its investment relationship with Japan and the US may be less than it could otherwise be. For instance, when a territorial spat between China and Japan, over the Senkaku/Diaoyutai islands, heated up (rhetorically) around 2012, cross-border M&A between China and Japan fell sharply. Indeed, in spite of relatively close cultural connections, Japan was not even one of China’s top ten targets of outbound M&A spending in the past decade. China has tended to invest in Europe; Japan in its political ally the US. 43 percent of Japan’s outbound M&A in the past decade went to the US.

5. A country’s relationship to foreign financial hubs

Relatively independent financial hubs, like Hong Kong, Singapore, or Luxembourg, tend to be significant net providers of M&A capital. Their outbound cross-border M&A spending tends to far exceed their inbound M&A, and their global share of cross-border M&A tends to far exceed their global share of GDP. From  2011-2014, for example, Hong Kong’s outbound M&A was about 25-40% as large as mainland China’s, even though Hong Kong’s GDP is only around 2% as large as mainland China’s. (Rightly or wrongly, M&A statistics tend to treat Hong Kong as if it was an independent entity). The fact that the world’s top two financial city-states (Hong Kong and Singapore) are Chinese may suggest that mainland China’s propensity for outbound M&A should be relatively low—just as, for example, US outbound M&A would plummet if (hypothetically) Manhattan were to secede from the US.

The value of China’s outbound M&A as a share of global cross-border M&A should, perhaps, be lower than China’s share of global GDP, then. Yet in 2016 Chinese buyers accounted for an estimated 15 percent of the value of all cross-border M&A, slightly higher than the 14.5 percent of global GDP China had. The Syngenta deal alone, announced in early 2016, was roughly large enough to eclipse all outbound Chinese M&A in any year prior to 2014.  China has kept up its M&A pace thus far in 2017, not counting Syngenta.

The explanation that you often hear for why China’s M&A boom is not capital flight — namely, that Chinese firms are seeking foreign expertise and technology, as China transitions to a more knowledge-intensive economy — may have some merit, but still it ignores the fact that money has also been pouring out of China into other assets in the developed world in recent years. To take the most notorious example, Chinese capital been pushing up real estate values in Pacific cities (Vancouver, Seattle, Sydney, etc.) and hub cities (NY, London, Toronto, etc.). The M&A boom, then, may be part of the greater trend of Chinese capital seeking safe haven. China’s 2016 M&A investment in the global safe haven, the US, was roughly triple what it had been in 2015, 2014, or 2013. It was larger than in every year from 1990-2012 combined.

If much of China’s M&A boom really is a result of capital flight, it is also likely to be unsustainable. In part two of this article we will analyze China’s geopolitical structure, to see when (or whether) this boom will end.

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East Asia, North America

The League of the Overshadowed

It is easy to be small and ignored. But to be large and ignored, it helps to hide within the shadow of an even larger entity. In the realms of economics and geopolitics, there are three very large countries which, though not actually ignored, do not always receive the respect their size demands, as they inhabit the shadows thrown by the world’s colossi, the USA and China. These countries are Canada, Mexico, and Japan.

Japan has by far the third largest economy in the world, by far the second largest developed economy in the world, by far the second largest population among developed economies, and the tenth largest population globally.

Canada is the second largest country in the world, the fourth largest possessor of renewable freshwater, the fourth largest producer of renewable energy, the fourth largest exporter of oil, and the tenth largest economy.

And Mexico has the world’s eleventh largest population, thirteenth largest territory, and fifteenth largest economy. (Only five other nations are top-15 in all three categories: the US and the BRICs). Mexico has 2.5 times the population of the next largest Spanish nation (Colombia), plus a diaspora of 35-45 million in the US. It is also the twelfth largest oil producer in the world. The Greater Mexico Region (including Mexico, Texas, California, Venezuela, and US waters in the Gulf) produces more oil than Saudi Arabia or Russia. This region also has an economy larger than any country in the world, apart from the US or China.

The League of the Overshadowed

At the moment, however, trade between Canada, Mexico, and Japan is quite small. Neither Canada nor Mexico are even among Japan’s top fifteen trade partners. And while Mexico and Canada do trade with one another more often — Mexico recently overtook Britain to become Canada’s third biggest trade partner — trade with Mexico still counts for less than three percent of Canada’s total. Their trade with one another is overshadowed by that of the US. Indeed, California alone trades far more with Canada, Mexico, and Japan than those countries do with one another. There is no League of the Overshadowed… yet.

It may be worth noting, though, that US politics have to a certain extent put trade with Canada, Mexico, and Japan into question. President Trump’s first executive order was to withdraw from the Trans-Pacific Trade Partnership, in which Japan would have accounted for over 60 percent of the twelve member-states’ GDP apart from the US. Trump has also signalled his intention to renegotiate NAFTA, tighten the US-Mexico border, raise tariffs on Canadian farm and forestry products, and keep American fossil fuels cheap.

If these policies are followed through on, they could have the effect of driving US trade partners somewhat closer together. Obviously, Canada and Mexico have an interest in showing that they can trade with one another regardless of what Washington intends to say or do about NAFTA. Both also have an interest in exporting more fossil fuels to Asia, where prices remain more expensive than in the shale-rich US. On June 1, in fact, Canadian senator Paul Massicotte wrote an op-ed calling for Canada and Japan to sign a free trade agreement with one another as quickly as possible, given the failure of TPP and risks for NAFTA. Especially as both Canada and Japan have large majority governments right now, such a deal may happen.

An economic relationship between Canada, Mexico, and Japan could turn out to be far more significant, however, than being just a knee-jerk response to Trump’s America-First politics. As we will see, Canada, Mexico, and Japan are in fact complimentary nations, both economically and geographically. Already they have a propensity to trade with one another that is larger than their absolute trade levels suggest (see graph below). So long as Japan’s economic growth remains stagnant, Mexico remains poor, and Canada remains underpopulated, this propensity does not matter much. But if these conditions do not remain, we should expect trade between these three significant, overshadowed countries to grow by a very large amount.

canada propensity to trade

Complimentary Nations

Economists often talk about land, labour, and capital, considering them fundamental inputs of productivity. In the case of Canada, Mexico, and Japan, these inputs are epitomized: Canada has land but not labour, Mexico labour but not capital, and Japan capital but not land. Together, then, they could make a formidable team.

In Canadian politics and business, it has become common in recent years to say that by exporting natural resources to China, Canada can finally reduce the near-monopoly that the US has on buying Canadian exports. This view, however, is based on a false extrapolation of a trend that is now nearing its end: industrial growth in coastal Chinese cities. As China now seeks to rebalance its economy, by investing instead in its service sectors (which are less resource-intensive) and interior cities (which have a lower propensity to engage in trans-Pacific trade), its demand for Canadian resources is unlikely to continue to surge. Most of the resources it does buy will probably continue to come from within its own borders — China only imports 15 percent of the energy it consumes — or from its “One Belt, One Road” partners in Asia.

In Japan, on the other hand, the reverse is true. Japan has few resources of its own, and no Silk Roads to tap. Japan imports 90-plus percent of the energy it consumes, mainly from the Middle East. Its access to the Middle East, however, is imperilled, both from competition with other Asian countries (notably, China and India) as well as from Middle Eastern conflicts. Consider, for example, that Japan accounts for 30-40 percent of LNG imports globally, yet its primary supplier, Qatar, is now in an open feud with Saudi Arabia. Between competition and conflict, Japan could have to rely more on trans-Pacific trade to get resources. It would not be the first time: in the 1930s, eighty percent of the oil Japan consumed was imported from the US.

China-Japan comparisons.png

Even more important may be the impact of labour-saving machinery — robotics — upon Japanese trade. Because Japan has the oldest population in the world by far, it is planning to become a leader in robotics. Even, for example, as soon as the Tokyo Olympics in 2020, Japan is planning to showcase its robotic prowess. Yet robots are highly energy-intensive, and industrial robots resource-intensive. If Japan really does become the leader in robotics, it is likely to start importing lots of energy and other commodities from resource-rich countries like Canada. It may also be likely to start exporting its robotic technologies to countries like Canada, given Canada’s abundance of resources but lack of a large, cheap, human labour force.

Upstairs, Downstairs 

Today, if you exclude the US or Europe, Canada and Mexico have the largest combined economies of any pair of countries which are part of the same trade bloc (see graph 1 below). Yet if you include Europe, Canada and Mexico still rank quite a bit lower than a number of pairings of Europe’s largest economies (graph 2).

trade bloc pairing comparisons

In other ways, however, Canada and Mexico rank ahead of these European pairings. In population they do so (graph 3). In land they do so too (indeed, Mexico alone is larger than any four countries in the EU combined). And in terms of their indirect, second-degree trade (their combined trade with a third country), Canada and Mexico as a pair lead the world (graph 4), a result of their both trading hugely with the US.

canada-mexico indirect trade

 

While Canada’s propensity to trade with Mexico is greater than with any significant country apart from the US, it is still only around half as high as its propensity to trade with the US. The reason for this is simple: Canada and Mexico do not share a border with one another. They are not even very close in proximity to one another. More than 3000 kilometres separate Mexico City from any of the largest cities in Canada.

This separation is also reflected in Canada’s lack of a significant Spanish-speaking diaspora, particularly relative to that of the US. In spite of the fact that 21 percent of Canada’s population is foreign-born, compared to just 14 percent in the US, only 0.3 percent of Canada’s population is Mexican, compared to an estimated 11 percent of the population in the US. Even the state with the smallest share of its population being Mexican or Mexican-American—Maine—has a higher share, 0.4 percent, than Canada does.

But this may be likely to change, for two reasons. First, there is a political faction in the US which is wary of further Hispanic immigration, seeing it as a threat to the singular position held by the English language in America. Second, whereas the population of the US is relatively young, the population of Canada is Boomer-dominated, inching towards old age. This is especially true of the population of Canada’s French-speaking provinces, Quebec and (partially) New Brunswick. These provinces also, because of the far smaller language gap between French and Spanish than between Spanish and English, have a much higher propensity to attract Latin Americans than do other parts of Canada (see graph). Between demographics of this kind and US immigration politics, the next major wave of Latin American emigrants could be to Canada.

canada-quebec comparisons.png

The aging population of Canada’s Baby Boomers, and especially of Quebec’s Baby Boomers, also indicates another area in which Canada-Mexico economic ties—both direct and indirect—are likely to grow: tourism.  Already today, Mexico is the largest destination for Canadian travellers apart from the US, while the areas of the US that Canadians spend the most time in — Florida, the Southwest, and New York — are ones in which Mexican-Americans (or in Florida’s case, Hispanic-Americans in general) inhabit in large numbers. As Canadian Baby Boomers reach old age or retire, they are likely to spend more time in places like Mexico, in order to avoid much of the discomfort (even danger) of dark, icy Canadian winters. This will be most true of Quebec, given its older population, colder winters, and greater ability to learn Spanish.

Travel by Canadians .png

As the chart above implies, the US reconciliation with Cuba may also lead Canadians to spend more time in Mexico. During the past generation, the US rivalry with Cuba has given Canadians a near lock on the Cuban market. Canadians account for an estimated forty percent of all visitors to Cuba, and Cuba accounts for a disproportionately large destination (given Cuba’s relatively small size) for Canadian tourists. As the US allows its own population to go to Cuba, however, Canadian snowbirds will lose the advantage of having such a cheap, warm country all to itself. Many will re-route to other Latin American beaches.

An even more important pull factor for Canadian snowbirds will be “e-commuting”. The ability for young Canadians to spend time in a cheap, warm country in the winter is likely to increase dramatically as a result of the modern Internet. This is also likely to impact the Baby Boomers. If, for example, it becomes easier for a Boomer’s children and grandchildren to come visit them in Florida or Mexico for, say, a whole month over Christmas, rather than for just a week, then Boomers will be likelier to go in the first place.

And the relationship may not even remain one-way only: Mexicans may begin to visit Canada more often too. Today Mexicans do not go to Canada much, because they lack the disposable income to do so. If and as Mexicans become wealthier, however, they may look to Canada as a place to go in the summer; a place where the summer weather is not too hot, the major metropolises are not too crowded, and a cottage by a northern lake may be rented at an affordable rate. Climate change could, sadly, also play a role in this equation. Mexico — and the Southwestern US, in which tens of millions of Mexican-Americans live — is dangerously arid, whereas Canada is in possession of an abundance of renewable, surface-level freshwater.

Conclusion—The New Drivers of Trade 

Today, the main driver of trade is proximity. Countries which share borders with one another tend to trade a lot — though, of course, there are many exceptions to this — whereas far-away countries tend not to. However as (or, admittedly, if) globalization continues, proximity may no longer matter as much. Complimentarity may matter a lot more. We have seen here various ways in which Canada, Mexico, and Japan may be complimentary to one another. Canada has land but not labour, Mexico labour but not capital, Japan capital but not land. Canada has cold, dark winters but warm, water-rich summers, Mexico warm bright winters but hot, arid summers. All three countries have coasts on the North Pacific Ocean; none are part of the Asian (or Eurasian, or Afro-Eurasian) continent. And all three countries are very large, yet are overshadowed by neighbours that are far larger than they are. They may end up, if only informally, a formidable League.

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