Market Insight January 23, 2017

Is plus one realistic given China’s large presence

Hajime Takata, Chief Economist

Chart 1 illustrates the movement in China’s inward direct investment. previously topped the countries for direct investment into China, but increased political tensions between Japan and China led to a sharp decline in direct investment and Japan fell to third place in 2015. Japanese companies continue to apply business models that focus on overseas direct investment and have often pointed to their ‘China plus one’ strategies that include launching business ventures into countries other than China. Various Asian countries are seen as alternatives to China for investment, and particular note has been made of the importance of South-east Asia. Mizuho Research Institute has discussed the issue and undertaken surveys that look at such action by Japanese companies. Behind the arguments for ‘China plus one’ has been the deep-seated distrust that Japanese could have in China and the strong desire to focus on alternatives to China. However, in this report, we consider the difficulties

[ Chart 1: Inward Direct Investment into China ]

($ million) ($ million) 8,000 160,000 Japan South Korea Singapore Germany US

7,000 140,000 Total inward direct investment (rhs) 6,000 120,000

5,000 100,000

4,000 80,000

3,000 60,000

2,000 40,000

1,000 20,000

0 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 (CY) Source: Made by Mizuho Research Institute Ltd. (MHRI) based upon China’s Ministry of Commerce

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of the ‘China plus one’ strategy regardless of preferences, and argue that it is impossible to ignore China as a market. Chart 2 illustrates the movement in China’s nominal GDP. The point to note here is the annual average increase of $1 trillion for the 6 years from 2010 to 2015. Given that there was also a correction in the Chinese economy during 2016, the extent of increase in 2016 is forecast to be at the lowest level since 2010 at $0.2 trillion. However, the annual pace of increase up until then of $1 trillion was astounding.

[ Chart 2: China’s Nominal GDP ($ base) ]

($ trillion) (%) 12 Growth rate (nominal USD base, rhs) 0.2 30 0.6 Extent of 0.9 increase (Denominated USD)Nominalin GDP 10 1.1 25 1.0 8 1.5 20

0.9 6 15

4 10

2 5

0 0 2010 2011 2012 2013 2014 2015 2016 (CY) Source: Made by MHRI based upon IMF

Next, we use Chart 3 to provide a sense of what an annual increase of $1 trillion represents. $1 trillion exceeds the nominal GDP of , the largest economy in South-east Asia. That is, growth within China has equated to the emergence of an economy the size of the largest country in South-east Asia every year since 2010. Even last year, which was somewhat of an exception, the increase in economic growth was equivalent to the emergence of a single country the size of . Awareness of such scale brings home the message of how unrealistic the ‘China plus one’ strategy is as an alternative to China, not to mention the ‘China free’ strategy of leaving out China. Naturally, consideration needs to be given to alternatives to the sole devotion to China, including its role as a supply chain. Therefore, while the importance of expanding into South-east Asia remains unchanged, it will be difficult to structure a business that does not include China, and companies need to think about the economic realities. How to work with China will be a perpetual issue for Japan.

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[ Chart 3: Nominal GDP (2015) ]

($ trillion) 20 18.0 [ Top 10 countries ] [ Major Emerging Countries ] 15

11.2 10

4.1 3.4 5 2.9 2.4 2.1 1.8 1.8 1.6 1.4 1.3 1.2 0.9 0.7 0.5 0.4 0.3 0.3 0.3 0.3 0.3 0.2 0 Indonesia The Australia Japan Singapore France Canada South Korea Russia South Africa Hong Kong Vietnam US China Germany UK Italy Brazil Turkey Taiwan

Source: Made by MHRI based upon IMF, World Economic Outlook Database October 2016

This publication is compiled solely for the purpose of providing readers with information and is in no way meant to encourage readers to buy or sell financial instruments. Although this publication is compiled on the basis of sources which we believe to be reliable and correct, the Mizuho Research Institute does not warrant its accuracy and certainty. Readers are requested to exercise their own judgment in the use of this publication. Please also note that the contents of this publication may be subject to change without prior notice.

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