No 3UPDATE ON THE ASIAN ECONOMY 09/2014

Unlocking the vast growth opportunities in China

Our Asia business has certainly swung into top gear in the Year of the Horse.

Earlier this year I was honoured to travel to China with our CEO Gail Kelly as part of Australian Prime Minister Tony Abbott’s delegation for ‘Australia Week in China’ – Australia’s largest ever trade mission. As China moves to a consumption-led economy, it was great to see the week promote Australia’s many strengths and opportunities for businesses across segments such as education, high quality food and beverage, tourism, health and environmental services. In this light in May we were delighted to launch our Westpac MNI China Consumer Sentiment survey. This survey will take the pulse of China’s consumer mega market and will become a primary reference point for key decision makers around the world.

Westpac is deeply committed to supporting our customers in the China Corridor and unlocking the vast growth opportunities. We are at the forefront of the RMB internationalisation story. In March we were delighted to be awarded a licence to trade NZD/CNY and are now in the privileged position, and one of only two banks, to be a market maker for both NZD/CNY and AUD/CNY. We are equally excited about the prospect of Sydney becoming an RMB Hub and the benefits we see for our many of our customers and Australian businesses.

As China continues to liberalise its economy, Westpac has been quick to win new opportunities. While on the trade mission, our CEO announced our licence to set up a sub-branch in the Shanghai Free Trade Zone (SFTZ) – a significant milestone in the extension of Westpac’s service offering across trade finance, structured commodity finance, debt capital markets, derivatives and FX. We believe that the SFTZ has the potential to bring large benefits to customers and expect to see a significant increase in the volume of cross-border trade and settlement through the SFTZ due to simplified documentation and government incentives.

Still fundamental to the Australia-China story are the vast opportunities in the Natural Resources industry. This was evident at a dinner hosted by Westpac and the Oriental Mining Club in Shanghai. More than 200 Chinese mining leaders, together with the Minister for Trade and Investment, the Hon Andrew Robb AO MP and Mr. Wang LiXin, Chairman of Australian-based company MMG, whose major shareholder is China Minmetals, gave an insightful speech about the opportunities for investors in Australia and also presented insights for Australia to become more attractive to the mining sector.

It’s with that focus we bring you the latest edition of Focus on Asia with our latest insights on China, resources and commodities.

Welcome

Bala Swaminathan, General Manager, Westpac Asia

Issue 03 – September 2014 | 1

Why the south w

ill lead in the global tilt

2 | September 2014 – Issue 03

The global tilt is an irreversible shift of economic power from north to south: from the US, Europe, and Japan in the northern hemisphere to China, India, Brazil, Indonesia, Singapore and other countries mostly in the southern hemisphere.

By Ram Charan

The center of gravity for jobs, wealth, and market opportunities is moving, disrupting the world economic order as we have known it.

Business leaders in the south are on the move, tapping into the readily available funding and expertise they need to grow, and scaling up fast to grab once-in-a-lifetime opportunities.

It’s easy for leaders in the north to underestimate their counterparts in the south, attributing their success to government support or low-cost labour, but such a viewpoint is narrow and risky. Successful leaders of the south have enormous energy, ambition, are business savvy, and they are aiming to compete everywhere on the planet.

In some ways business leaders in the south have an edge:

They are a product of scarcity.

Improvising and working on very tight margins is second nature. They are fiercely focused on operations, because they know that’s how money is made or lost. Sunil Mittal, founder and CEO of Bharti Airtel, the fourth-largest telecom company in the world, began his work

life doing the grunt work of sales and distribution. His customers always overpowered him and controlled the pricing, and his meagre budget relegated him to riding in the backs of trucks and crowded trains. The discipline of tight margins never left him.

They think large-scale.

South-based leaders are living through huge changes in their home countries. An American company might think four percent revenue growth is acceptable; a southern company thinks 20 percent is normal. Right from the start, CEO Zhang Ruimin of China’s Haier Group set his sights beyond China. “The objective

of most Chinese enterprises is to export products and earn foreign currency,” he told Harvard Business School researchers in the 1980s. “This is their only purpose. Our purpose in exporting is to establish a brand reputation.”

They learn fast.

These leaders tap the advice of investment bankers and consultants, many from the north, to identify the best opportunities, and they use partnerships, joint ventures, licensing deals, and acquisitions—whatever it takes—to establish themselves in a market or industry and scale-up quickly. Indian infrastructure company GMR, which built the Indira Gandhi International Airport in Delhi, knew virtually nothing about building or running airports when it made a successful venture into that business. Its leaders studied the business intently and met with service providers, cargo companies, duty-free operators,

vendors, and architects worldwide to learn what they could.

They move fast.

These leaders are energized by the opportunities they see before them, and they are decisive. As head of Brazilian beer company AmBev, Carlos Brito had a voracious appetite for growth. He went on a tear of expansion in Latin America, then in 2004 undertook a merger with Belgium-based Interbrew. Although the European company was bigger, the Brazilian leader ran the combined company. In 2008 he was ready to take yet another big bite, making a surprise purchase of Anheuser-Busch, to create AB Inbev, the world’s largest brewer. Last year, regulators approved his purchase of Mexican-based brewer Grupo Modelo.

Don’t get me wrong; I’m not saying that the tilted world belongs exclusively to the south. The challenge is to understand the competition and adapt how you run your business. In 2012 Procter & Gamble moved its headquarters for personal care from Cincinnati to Singapore, and GE posted a vice chairman in Hong Kong for the first time ever. As Keith Sherin, GE’s chief financial officer, explained, “This is where the growth is. We are shifting our center of gravity to emerging markets.” Winning in the global tilt starts with seeing its reality.

Originally published in the Harvard Business Review Blog Network (http://blogs.hbr.org/2013/03/ why-the-south-will-lead-in-the-global/).

“The challenge is to understand the competition and adapt how you run your business.”

FEATURE – ECONOMIC SHIFT TO THE SOUTH

S

N

Ram Charan, a world-renowned business adviser to CEOs and boards, and a New York Times best-selling author. His latest book is ‘Global Tilt: Leading Your Business Through the Great Economic Power Shift’. Ram Charan spoke at the Global Influencer Series in Singapore, presented by Westpac and the Australian High Commission.

Issue 03 – September 2014 | 3

Reaching RM

B

tipping point

4 | September 2014 – Issue 03

Leading economists are convinced renminbi is poised on the brink of becoming a global currency phenomenon. The shift will be swift and profound when it happens. The real question is when will all the necessary factors align?

One thing is clear: it’s an exciting prospect to be a leader in the evolution of a new global currency – and that’s just what renminbi will become. What’s not certain is when that transition will take place.

This was one of the key conclusions of the GTR Australia Trade and Export Finance Conference in Sydney, where Senior International Economist Huw McKay and Executive Director Gordon Sparrow sat on a panel to discuss the topic China: Trade flow, regulations and RMB usage.

The conference focused on improving the way Australia trades with China – how to overcome regulatory challenges, how to open up the trade flow and how to educate market participants.

Internationalisation of the Chinese currency depends on those improvements, says Sparrow. He notes important signs that things are moving in the right direction, including last year’s granting of an AUD/CNY market maker’s licence to Westpac and the establishment of the ASX-Bank of China Renminbi Settlement Service.

Similarly, the panel was encouraged by last September’s launch of the Shanghai Free-Trade Zone. “It’s a great incubator for testing how things work,” says Sparrow. “There’s a great interest in the opportunities presented by the Shanghai pilot. The question will be how quickly people can tap into those opportunities.”

At the moment, Sparrow sees a stalemate in the use of RMB between Australia and its Chinese trading partners. The buyers won’t pay in RMB unless the sellers insist, and sellers won’t invoice in RMB unless the buyers insist. Independent research conducted by the Australian Centre for International Finance and Regulation has found that, on both sides, there’s a low level of understanding of the benefits.

In order to have a fully viable RMB market, Sparrow concludes, three things need to be locked down. First, trade and investment must be enabled and accelerated. You also need confidence that the currency has a store of value, which then allows the development of wealth creation. And then there have to be strong capital/investment flows both ways, between Australia and China.

McKay and Sparrow told the conference they don’t see an incremental roadmap to RMB becoming a global currency in the short-term. Instead it will probably look more like a reverse “L”, with a relatively flat plane of gradual progress before RMB suddenly takes off. “There will be a convergence of things that will be a tipping point. When we reach it there will be critical mass in the volume in the market, giving rise to a steep change.”

The big unknown, then, is how long it will take for all these things to fall into place. “There is reluctance to being a first-mover but no one can afford to be left behind,” says Sparrow.

ROUNDTABLE – A GLOBAL CURRENCY

“There will be a convergence of things that will be a tipping point. When we reach it there will be critical mass in the volume in the market.”

Issue 03 – September 2014 | 5

Shifting shape of China opportunityAustralia was the number one overseas destination for Chinese capital from 2008 to 2012 as foreign direct investment more than quadrupled during that period. Since then, there’s been a shift in the shape and scope of China’s economic growth. It’s altered the proposition for China’s business partners, but the scale of opportunity appears undiminished.

David Koh, Westpac’s Asia Head of Corporate and Institutional Banking, says most Australian companies have not recognized the potential of China. “China’s economy’s still going to grow at around 7 per cent,” he says. “On the back of that alone there’s just so much opportunity, and it’s fundamentally underpinned by the strength of its industry and the trend of urbanization.”

Outside the mining sector, Koh says Australia has done well and has more to offer in the fields of education, health and the environment. He sees huge potential in technology that increases agricultural productivity, while infrastructure and clean energy companies should also be licking their lips at the prospect of developing tier-three cities. “Any Australian company with expertise they can lend to urban renewal and development should get onto it. This is huge. I can’t think of any country to match China’s plans and resources to carry them out.”

Koh warns that companies need to view openings as a long-term investment, and to break down this country of 1.3 billion people into manageable pieces. “It’s better to take China one city at a time and do what you do best. If you try to take on China in one go, it’s not going to happen no matter how big you are.”

No one should think of China as an easy market, but Koh says conditions have improved immeasurably over recent years. The government wants to show it’s a

strong, trustworthy and transparent trading partner and has embraced better environmental and occupational health and safety practices. “There’s a risk in doing business anywhere and China’s no more complicated than any other country,” says Koh. He points to the likes of Walmart, General Motors, BMW, TNT and Unilever as prime examples of the return that can be realized by those who seize the chance and invest long term in China.

Providing the essentials

Dr. John Lee, a Professor at the University of Sydney, says those companies have flourished because they provide something essential to China’s growing middle class. Australia has little to offer in that mould, Lee argues. Instead, it scores success with resources, education and tourism – areas that rely less on a strong presence on the ground. Lee believes Australian companies will not find it easy to find a market for its other strengths. “The reality is there’s no strategy that can overcome deliberate regulatory obstacles that the Chinese government places to protect sectors like services and agriculture. There are tariffs and regulatory hurdles, but then you have other economic obstacles such as subsidies given to Chinese firms, making it impossible for others to compete.”

Lee is convinced that the opportunities for increased Chinese investment in Australia far outweigh those for Australian companies in China. He and Koh agree that Australia is welcoming of Chinese investment, though both would like to see clearer signals from government and business to this effect. They also agree that the rule of law and political stability make Australia a deeply attractive partner for the Chinese. “When it comes to resources, the number one priority for the Chinese is reliability, with price second. Investing in Australia’s resource market is a very low-risk proposition,” says Lee.

Thought

leadership

ECONOMIC FOCUS

David Koh, Head of Corporate and Institutional Banking, Westpac Asia

6 | September 2014 – Issue 03

Patrick Cocquerel, Westpac Global Head of Natural Resources, is in no doubt that demand from China will remain robust. “Australia’s still endowed with very high quality resource, from coking coal and thermal coal to iron ore deposits and more. We’re close to Asia, we’re stable and we’re open to technology transfer and management transfer, as you can see from the Queensland coal seam gas projects involving CNOOC, CNPC and SINOPEC. Those are a lot of positive points for Chinese investment.”

China’s consumption-led growth

At the same time, Cocquerel sees periods of volatility as China rebalances to a consumption-led growth model. Another challenge is the ballooning cost of Australian projects. “There’s a lot of tension in the market because Australia doesn’t have the pool of skills to develop so many projects at the same time,” says Cocquerel. “That creates cost inflation, which is also fuelled by the strong dollar. The cost levels compared to the rest of the world is very high and got very high very quickly.” That’s blunted Australia’s competitive edge and sent investors looking to the US, Canada, Latin America and Africa.

Thanks to Australia’s reliability those costs are not prohibitive, according to Lee and Cocquerel. But Cocquerel thinks they’ll serve to slow investment for the next three or four years. While there may be fewer greenfield projects getting off the ground, Chinese state-owned enterprises and private investors could look to snap up existing assets spun off from big miners. Any such deals may hold the promise of supply agreements.

Against this tighter competitive background, Cocquerel says it’s vital that Australia remains as accessible as possible to Chinese investors. He expects over time that China’s gas, steel and coal importers will want to pay in renminbi, and welcomes Westpac’s move to become an AUD/CNY market maker. Similarly, he says Structured Commodity Finance will play an ever-greater role in enabling deals between Australia and its natural-resource customers. “I’m optimistic about the trade flows of commodities coming out of Australia into China and the investment flows from China into Australia, especially when we have the tools and regulatory framework to assist better access to the market,” he concludes.

“Over time, China’s gas, steel and coal importers will want to pay in renminbi…”

Issue 03 – September 2014 | 7

CURRENT AFFAIRS

“The big two in the world economy, the US and China, both reported better than expected growth in the June quarter.”

Economic

focus

$

$

The big two in the world economy, the US and China, both reported better than expected growth in the June quarter. Results elsewhere have been mixed, with the Eurozone apparently stalling again, Japan likely to contract and some important emerging markets losing momentum (Korea, Indonesia). Geopolitical concerns remain acute in Ukraine and Gaza, with the tragic loss of MH17 highlighting the instability afflicting Europe’s bread basket. US and EU sanctions on Russia have been increased, with the EU-Russia situation of volatility rising in early August from the ultra low levels prevailing in June – July. The S&P500 is up 3.9% year to date; Eurostoxx is down 4.5%; the Nikkei is down 3.7%; and MSCI EM $US is up to 5.4%.

Australia: The Reserve Bank Board decided to leave the cash rate unchanged at 2.50% after their meeting on August 5, as widely expected. The policy and exchange rate commentary in the post-meeting statement was replicated exactly from July. While the currency is surely not where the Bank would like it to be, given Australia’s declining terms of trade, the Q2 inflation report, and the expectation that growth will be back at trend in 2015, have prevented more adamant language on that front.

New Zealand: As expected, the RBNZ delivered a fourth consecutive official cash rate hike in July, then indicated that it would pause to assess the impact of the hikes to date. The tone of the July statement suggested that the RBNZ has softened its projections a little, as a result of lower than expected inflation and a drop in dairy prices. In particular, the currency market’s stubborn refusal to acknowledge the latter factor drew the RBNZ’s ire, bringing warnings that “the level of the New Zealand dollar is unjustified and unsustainable”.

United States: Historical revisions have substantially altered the previously observed path of the US economy. GDP growth is now estimated at 1.7%yr, 1.6%yr and 3.1%yr through 2011-13; that compares to 2.0%yr, 2.0%yr and 2.6%yr respectively that was previously reported. The pace of domestic final demand growth is now estimated

to be 2.3%yr in 2013 versus the previous estimate of 1.6%yr. The new estimates line-up better with observed growth in payroll employment, notwithstanding the reality that real wages remain stalled.

China: The economy grew at a rate close to, but slightly below its potential in the first half of 2014. The general impression left by the flow of data since our last report has been one of modest improvement. The principal sources of the better tone have been easier fiscal policy, firmer exports and the conclusion of the negative phase of the short run inventory cycle. The property market remains weak, with price declines deepening and broadening, but some tentative signs of stabilisation in sales and starts are evident in the latest update.

Japan: The partial data has been predictably soft in recent months, with the system re-orienting itself after the pull forward of activity that biased Q1 growth upwards. The weakness has persisted through all three months of Q2, with anecdotal evidence suggesting that the ship is righting itself as of July. On the politico-diplomatic front, Prime Minister Abe has been on an international charm offensive in recent times, visiting the commodity bloc nations of Australia, Brazil and Chile, with FTAs-EPAs on his mind.

Emerging Asia: Many of the region’s central banks have been in play lately. Malaysia and the Philippines both raised interest rates by 25bps at their July meetings, to 3.25% and 3.75% respectively. The Bank of Thailand, which lowered rates to 2.00% back in March, resisted the temptation to ease again amidst the political turmoil, and now looks a little more comfortable. The Bank of Korea is now widely expected to lower interest rates on Thursday August 14.

Europe: After several months at 0.5%yr, Eurozone inflation fell to 0.4%yr in July. Eurozone GDP data for Q2 will be published on August 14, and the region mostly likely stalled in Q2. Against this unprepossessing backdrop, Draghi noted after the August ECB meeting that “intensified” preparatory work for an asset purchase program was underway.

8 | September 2014 – Issue 03

Building on SCF successThe Structured Commodity Finance (SCF) team is going from strength to strength.

The bank has just closed a three-year, RMB 500 million syndicated pre-delivery financing for Binzhou Gaoxin, an alumina refinery in China. Westpac’s team of experienced SCF experts acted as the sole coordinating MLA, Westpac also acted as sole book-runner.

SCF has recently been mandated for two similar transactions in China.

These wins build on the success of the bank’s first transaction as an MLA for a three-year, USD 200 million syndicated pre-delivery facility for Dongying Lufang Metals Co., part of the Dongying Group, China’s sixth-largest copper producer.

Amanda Jiao, Head of SCF for Greater China, said the deals demonstrate

Westpac’s commitment and expertise in the natural resources sector. “The bank is focused on natural resources within Asia,” Jiao added. “We have local experts who understand the market dynamics. SCF brings an in-depth understanding of the commodity processing cycle. Our team is fully focused on delivering tailored solutions to our customers.”

SCF is actively building new product capabilities. Approval was recently gained to provide fixed-rate commodity repos under which the bank buys a commodity, simultaneously agreeing to sell it back to the customer at a future date for a fixed price.

If this sounds relevant to you or your customers, please contact:

Paul Gardner E pgardner@westpac.com.au

Amanda Jiao E amandajiao@westpac.com.au

Gauging spending sentimentChina’s household spending is already a key factor in determining global growth, and it’s only going to increase in importance as the economy continues its shift towards a consumption-led model.

That’s why Westpac has teamed up with MNI Indicators, an international research firm in the Deutsche Börse Group, to launch an independent monthly report on the Chinese consumer.

The inaugural Westpac-MNI China Consumer Sentiment Survey is published at 9:45am Beijing time on the final Wednesday of each calendar month; the inaugural reading was released on Wednesday 28 May.

“The Westpac-MNI China CSS will take the pulse of China’s consumer mega market on a monthly basis, thereby gauging one of the most critical rhythms of the global economy in a timely fashion,” says Huw McKay, Westpac Senior International Economist.

The June Westpac MNI China CSS has been released and latest data and reports can be found on WIB IQ or via your Relationship Manager

Solutions focus

To find out more about Westpac Institutional Bank’s focus on Asia, speak to your Relationship Manager today.

SOLUTIONS FOCUS

“The Westpac-MNI China CSS will take the pulse of China’s consumer mega market on a monthly basis.”

Issue 03 – September 2014 | 9

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