Jean-Claude Trichet, President of the European Central Bank (l) is greeted by Wen Jiabao, Chinese Premier, at the EU-China summit in Nanjing, November 30, 2009.

On Monday a research paper published by Germany's Kiel Institute for the World Economy, documents what it terms "robust evidence that production subsidies stimulate export activities of China's existing exporters." Also on Monday, Wen Jiabao, China's Premier, angrily reacted to demands to allow the yuan/remminbi to appreciate against the currencies of its main trading partners and suggested foreign pressure for a strong currency could be motivated at restraining the country’s economic development. He termed the pressure"unfair."

Speaking at the end of an EU-China summit in Nanjing, Wen said: “Some countries on the one hand want the renminbi to appreciate, but on the other hand engage in brazen trade protectionism against China. This is unfair. Their measures are a restriction on China’s development.”

China's currency was been fixed to the US dollar since mid-2008 and estimates of its undervaluation against the US currency, which keeps down the cost of exports, range up to 40%.  See related Finfacts articles here.

The EU is China's biggest foreign trading partner

Eurostat, the EU's statistics office, said last week that in the first half of 2009 the value of EU27 exports to China fell to €37bn, compared with €39bn in the first half of 2008, and imports decreased to €103bn from €112bn. As a result, the EU27 trade deficit with China dropped from €73bn in the first half of 2008 to €65bn in the same period of 2009.

The fall in EU27 trade with China recorded between the first halves of 2008 and 2009 was less steep than the general downward trend in the EU27's total external trade, leading to an increase in the share of China in the EU27's total external trade in goods to more than 7% of exports and 17% of imports in the first half of 2009, compared with 6% and 14% respectively in the first half of 2008. China is the EU27's second most important trading partner, after the US.

Between 2000 and 2008, EU27 trade in goods with China had more than tripled in value, and the share of China in the EU27's total external trade in goods doubled.

Data on trade in services and investments can be found in a May 2009 release from Eurostat.

Germany, the Netherlands and the United Kingdom: largest trading partners of China

Among the EU27 Member States, Germany (€16.2bn or 43% of EU exports) was by far the largest exporter to China in the first half of 2009, followed by France (€3.7bn or 10%), Italy (€3.4bn or 9%), the United Kingdom (€2.5bn or 7%) and the Netherlands (€2.1bn or 6%). Germany (€21.9bn or 21%) was also the largest importer, followed by the Netherlands (€16.0bn or 16% - -  - - much of this relates to goods for transshipment from the port of Rotterdam), the United Kingdom (€13.9bn or 14%), Italy (€9.9bn or 10%) and France (€8.7bn or 9%).

All EU27 Member States recorded deficits in trade with China in the first half of 2009, the largest being observed in the Netherlands (-€13.9bn), the United Kingdom (-€11.4bn), Italy (-€6.5bn), Germany (-€5.6bn) and France (-€5.1bn).

Nearly 60% of EU27 exports to China in the first half of 2009 were machinery and vehicles and one fifth were other manufactured articles, while these two groups accounted for more than 90% of imports. At the detailed level, the main EU27 exports to China included aircraft and motor cars, while the main imports included computers and parts, mobile phones and video games.

China's GDP and exports - - export data is likely to be understated, depending on the prevelance of informal agreements between exporters and importers to minimise tariffs.

Subsidies are boosting Chinese exports

What observers have long suspected has now been corroborated by recent research results: it is claimed that production subsidies can indeed explain China’s export performance to a large extent.

The latest work by Holger Görg of the Kiel Institute for the World Economy and his coauthors Sourafel Girma, Yundan Gong, and Zhihong Yu from the University of Nottingham, titled Can production subsidies explain China’s export performance? Evidence from firm level data, examines China’s firm-level exporting activity in detail, and pays particular attention to the influence of production-related subsidies received from both the central and local governments.

The authors, whose results are forthcoming in the Scandinavian Journal of Economics, claim to have found robust evidence that production subsidies boost export activities of existing and experienced Chinese exporters, but are not instrumental in helping a firm enter the export market. “We find that profit-making firms, firms active in capital-intensive industries, and those located in non-coastal regions benefit most from Chinese government-sponsored subsidies,” says Görg.

Since 1978, the Chinese government has engaged in “promotion and protection” industrial policies geared towards boosting local companies’ product structure by providing tax incentives and other benefits. These measures, practiced by the Chinese government at both central and local levels, amount to substantial government sponsored business subsidies, and have steadily increased, especially in recent years, although subsidies for loss-making state owned enterprises have markedly declined.

Analysing micro data from nearly a half million firms collected between 1999 and 2005 with rare information on production subsidies received by Chinese firms, the authors are able to detect the link between subsidies and export performance. They admit that many Chinese people have been brought out of poverty and into a thriving middle class; however, the drawback of these measures is clear as well: “The question arises whether China needs to further adapt its trade practices and reduce such subsidies to fully comply with its WTO (World Trade Organisation) commitments,” adds Görg.