- Emerging Markets' fast growth (particularly China's) has helped pull the world out of recession—and will likely continue to contribute to the global economic recovery.
- China's economy may be huge, but investors should remember its capital markets are still pretty small and government-restricted.
- China's growth is extraordinary and should continue to be, benefiting the globe as a whole—but it faces risks unique to less-developed nations.
- Ultimately, it doesn't matter who's first, second, or third largest—the world benefits from overall growth, and China is a welcome member of the big boys' club.
Move over Japan. In Q2, the biggest Emerging Market, China, surpassed you as the world's second largest economy. China now represents about 8.5% of global GDP.* Will the US be overtaken next? Maybe. America's got over $10 trillion currently on China. It'd take a bit of time, but if China keeps up its current growth rate, it would eventually take the gold.
While Japan may miss its number 2 spot on the podium, we doubt they are shedding many tears. Somewhat ironically, China's ongoing growth may benefit Japan most of all—China is Japan's largest trading partner by a long shot. In 2010, Japan has exported 26% more to China than the US. But in the grand scheme, it doesn't matter who's 1st, 2nd, 11th, or 117th—the global economy is blind to nationality. Britain was the world's largest economy for a long time before being unseated by the US—yet the UK is still a very wealthy, developed country (and currently the sixth largest economy globally), and the world is light years beyond what it was when that leadership shift happened.
And though China is becoming an economic behemoth (with our hearty congratulations, by the way), its capital markets (especially for foreign investment) are government-restricted and still pretty darn small—just 6.9% of total world capital markets. By contrast, America is 29.7%, the UK is 6.7%, and Japan is 8.0%.** To truly become a global heavyweight, it'll need freer capital flows (like the US has). For global investors, the distinction between capital markets and the economy is very important—assigning too much portfolio weight to China's relatively tiny capital markets based on its massive economy would be a risky endeavor. For now, China should occupy a relatively small niche in a well-diversified global portfolio.
Further, we shouldn't forget: China is still very much a developing economy—it may be big, but it's also pretty poor overall. China's per capita GDP is just $6,000 a year versus Japan's $32,600 and the US' $46,400. (Note: The US doesn't have the largest per capita income either—we're currently #11 on the list.) Put another way, China is a huge country (by population and land), so naturally, it should produce a lot of stuff, but so far it isn't close to maximizing its potential.
And we shouldn't forget China's future primacy isn't guaranteed. It's true China's growth has been extraordinary and should continue to benefit the globe as a whole. But the country continues to face risks rather unique to less-developed nations—like weaker private property protections, for example. And though it has made great strides, it still is, in word and many (many) deeds, communist-ruled. To sustain its bamboo-like upward momentum, China would do well to become still more free. And wouldn't that be a good thing? Still, even 10 years ago, who would have imagined that China would take silver? Its ongoing growth is terrific for its citizens and a boon to the global economy.
*As of 12/31/2009; International Monetary Fund, Thomson Reuters
** As of 08/10/2010; Bloomberg, International Monetary Fund