File picture of employees cheering the opening of a new Apple Store in Shanghai. But the cheering has died down with Apple announcing the shot down of all stores. Image Credit: AP

In 2002, when a pneumonia-like virus known as SARS emerged in China, the country’s factories were mostly churning out low-cost goods like T-shirts and sneakers for customers around the world. Seventeen years later, another deadly virus is spreading rapidly through the world’s most populous country.

But China has evolved into a principal element of the global economy, making the epidemic a substantially more potent threat to fortunes. International companies that rely on Chinese factories to make their products and depend on Chinese consumers for sales are already warning of costly problems.

Multinationals shut down

Apple, Starbucks and Ikea have temporarily closed stores in China. Shopping malls are deserted, threatening sales of Nike sneakers, Under Armour clothing and McDonald’s hamburgers. Factories making cars for General Motors and Toyota are delaying production as they wait for workers to return from the Lunar New Year holiday. International airlines, including American, Delta, United, Lufthansa and British Airways, have canceled flights to China.

China’s economic growth is expected to slip this year to 5.6 per cent, down from 6.1 per cent last year, according to a forecast from Oxford Economics. That would, in turn, reduce global economic growth for the year by 0.2 per cent to an annual rate of 2.3 per cent - the slowest pace since the global financial crisis a decade ago.

Cash injection

In a sign of deepening concern, China’s leaders on Sunday outlined plans to inject fresh credit into the economy when trading resumes on Monday. That will include a net $22 billion to shore up money markets as well as looser borrowing terms for Chinese companies. Stock markets around the world have plunged in recent days as the sense takes hold that a public health crisis could morph into an economic shock.

The Chinese government will do all it can to prevent a complete meltdown of stock markets and businesses. Plans are to inject $21 billion as a holding measure. File picture of a securities exchange house in Shanghai. Image Credit: Supplied

Though China’s factories still produce a mind-bending array of relatively simple, low-value products like clothing and plastic goods, they have long since achieved dominance in more advanced and lucrative pursuits like smartphones, computers and auto parts. The country has evolved into an essential part of the global supply chain.

China has also risen into an enormous consumer market, a nation of 1.4 billion people with a growing appetite for electronic gadgets, fashion apparel and trips to Disneyland.

Trade war scars yet to heal

The trade war waged by the Trump administration has prompted a partial decoupling of the US and China, the two largest economies on earth. Multinationals that have used factories in China to make their wares have sought to avoid American tariffs by shifting production to other countries - especially Vietnam.

The coronavirus might accelerate that trend, at least for a time, should global companies find themselves locked out of China.

Until now, the effect on factories was limited by the fact that the outbreak was unfolding during the Lunar New Year, the most important holiday of the year. Many businesses are closed during the holiday, while hundreds of millions of migrant workers return home to their families in the countryside.

A full stop to travel

A frightening epidemic coinciding with a major holiday will almost certainly spell a substantial loss of sales for China’s tourism and hospitality industries. Hotels and restaurants that would normally be full of revelry are empty. Concerts and sporting events have been canceled.

China is the second biggest market for Starbucks. The US coffee chain has so far announced closures for 2,000 outlets across its network on the Mainland. Image Credit: Bloomberg

IMAX, the large screen film company based in Toronto, has postponed the release of five films it had intended to showcase in China during the holiday.

Even as the holiday officially ends, business is unlikely to return to normal. Many major industrial areas - including Shanghai, Suzhou and Guangdong province - have lengthened the holiday by at least another week, preventing workers from returning.

With flights to China limited and emergency public health restrictions in place, the Chinese operations of multinational companies are likely to be constrained. Major banks, including Goldman Sachs and JPMorgan Chase, are directing that employees who have visited mainland China stay home for two weeks.

General Motors last year sold more cars in China than in the US. Its Chinese factories will be closed for at least another week at the request of the government. Ford Motor Co. has told managers in China to work from home while its factories remain idled, said a company spokesman.

Cut down orders

If customers cannot buy what they need from China, Chinese factories could, in turn, slash orders for imported machinery, components and raw material. “This could potentially disrupt global supply chains,” said Rohini Malkani, an economist at DBRS Morningstar, a global credit rating business. “It’s too early to say how long it is going to last.”

China’s annual economic output has multiplied to nearly $14 trillion from $1.7 trillion, according to the World Bank. Its share of global trade has more than doubled, to 12.8 per cent last year from 5.3 per cent in 2003, according to Oxford Economics.

“China today accounts for about one-third of global economic growth, a larger share of global growth than from the US, Europe and Japan combined,” Andy Rothman, an economist at Matthews Asia, an investment fund manager, said.

No one knows how long the coronavirus outbreak will last. It is impossible to calculate the extent to which it will disrupt China’s economy. But China’s formidable stature in the world economy means that the effect of the current outbreak is likely to substantially exceed that of SARS.

“The knock-on effects for the global economy are going to be much larger than they were,” said Nicholas R. Lardy, a China expert at the Peterson Institute for International Economics in Washington.

For manufacturers, the timing of the outbreak may limit the damage. They just completed the fourth quarter, when production increases to meet demand for the winter holidays. The end of January is typically slow.

Supply chains face the worst of it

But the effects of the virus on supply chains, which have grown notoriously complex, are difficult to anticipate. A single part of an advanced product like a smart TV may be made of dozens of smaller components, with each of these assembled from other pieces. Companies themselves often do not know the suppliers that are three and four rungs down the chain.

“If you run out of widgets that are essential to production processes and all those widgets come from China, then it may well be that your production lines go to a halt,” said Ben May, global economist at Oxford Economics in London. “These problems are likely to be popping up all over the world.”

Woes for Apple to Walmart

Apple assembles most of its products in China. The company has severely restricted travel in China for its employees, its chief executive officer, Tim Cook, said on an earnings call Tuesday.

Apple disclosed much wider volatility in its potential revenues for the current quarter in the face of uncertainties around factory production and sales of its products.

Those uncertainties deepened on Saturday. Apple, which derives about one-sixth of its sales from China, announced that it would close its 42 stores in the country.

Walmart buys vast volumes of its products from Chinese factories while operating 430 stores in the country, including in areas shut down by quarantine. The company has reduced hours at some stores, a Walmart spokeswoman said.

“We may still be in the early stages,” of the coronavirus crisis, Judith McKenna, who runs Walmart’s International business, wrote in an internal memo.

Past lessons

After SARS, China suffered several months of economic contraction and then rebounded significantly. That might happen this time, too. The only certainty is this: Whatever happens in China will be felt widely.

“Clearly China has become a much more dominant player in the world economy,” said May of Oxford Economics. “It’s just so much more involved in the global supply chain. Over the last decade, it has been the spender of last resort for the global economy.”