When the Chinese trade wall came down

Five years ago this week, the China-NZ free trade agreement took effect. Half a decade on, has the deal delivered?

New Zealand's exports to China have more than trebled since the free trade pact between the two countries came into force.

New Zealand exports to China were worth $7.9 billion in the year to August (the most recent trade statistics available). That's up from $2.2 billion five years earlier, an increase of 260 per cent. China is now our largest export market.

Chinese exports to New Zealand have also expanded, from $6 billion five years ago to $8.2 billion, an increase of 37 per cent. China is second only to Australia as a source of imports.

Those figures do not include the trade in services such as tourism and education.

Visitor arrivals from China have also soared. In the year ended August there were 229,000 visitors, up 27 per cent on last year and 90 per cent more than five years ago.

China is also the largest source of foreign students.

"It has exceeded all expectations, I think," says Charles Finny.

Now with consultancy Saunders Unsworth, Finny was the Ministry of Foreign Affairs and Trade official who in 2004 was tasked with building the case with the Chinese for beginning negotiations, the first with a developed country, and then launched the negotiations in 2005.

They were to take three years.

And five years after the agreement took effect, the transition to free trade still has some way to go. Tariffs on beef, sheepmeat and kiwifruit will not go until the start of 2016, and not until the start of 2019 on whole and skim milk powder and wool. But by then 96 per cent of New Zealand's exports to China will be duty-free.

"I didn't do the whole negotiation," Finny says. "But it was always going to be tough because in a number of product areas we were seen by some Chinese interests as directly competitive."

Sheepmeat and wool, for example, were signalled as potentially sensitive areas from the outset because some minority peoples in northern China rely heavily on sheep rearing.

"Forestry was very complicated, not necessarily because of internal Chinese factors, but because when China acceded to the WTO the Americans had inserted into that accession agreement a clause which essentially means that for any liberalisation China agreed with anyone bilaterally, it would have to be applied to the whole WTO membership," he says.

"That's why we haven't got the agreement applying fully to the forestry sector. But that is not too serious because the level of protection is very low. You are talking about 5 per cent applied tariffs in that space and some forest products are duty free."

In any case, remaining barriers have not prevented rapid growth in exports of dairy and forest products to China. Between them they account for 60 per cent of New Zealand exports to that country.

But they are dominated by commodities - milk powder and logs - rather than products with more value added.

There is also a risk of relying on one country, with China taking almost a quarter of all dairy exports and more than 40 per cent of forestry exports, according to ANZ's analysis of trade flows in the year ended June.

"I do worry a little bit that some industries may be putting all their eggs in that one basket," Finny says.

"Most big companies have got a variety of markets. Maybe for smaller companies which are doing really well out of China right now, I would be encouraging them to be looking at other high value markets."

New Zealand now has a network of free trade agreements which covers all of Asean and all three Chinas - Taiwan and Hong Kong as well as the People's Republic - and that provides options to diversify, he says.

"If you look at markets like Taiwan, Singapore and Hong King where you have a proxy for a Chinese population at certain income levels, you see a disproportionately large spend on food and on things like high quality fruit. Look at Hong Kong and wine; it is just absolute upside."

Rabobank, in a report last week, is bullish about the prospects for lifting beef exports to China as rising incomes drive demand for what is considered one of the foods of affluence.

ANZ, which is very serious about China, has some advice for would-be exporters, in a paper titled Feeding the Dragon. Lessons from those who have gone before, it says, have shown essential elements for success include:

• Strong business relationships built up over time and based on mutual trust.

• An intimate knowledge of a targeted market segment.

• Cultural understanding of tastes and business practices.

• Local staff or collaborators.

• Some scale, as everything is super-sized compared with New Zealand, and therefore collaboration will often be required within a sector.

• Patience, because of the time and cost it takes to become truly established.

Finny takes a similar view. "The way to really take advantage of the Chinese market is to invest in it and the most basic investment is air fares. Get to know your consumers and your partners and invest in that relationship, because once you establish a really good The Chinese view, p18relationship it is likely to be a very longstanding one."

The relationship has grown so fast that it has taken New Zealand a bit by surprise, he says.

"MFAT has only just kept up with the expansion in the relationship and MFAT had the best infrastructure in terms of Chinese linguists and the number of staff committed to China. But even MFAT wasn't doing enough, so there is a rapid expansion under way right now.

"NZTE [New Zealand Trade and Enterprise] has likewise only just been able to cover the workload and is going to have to up its act.

"But it has been most obvious in the agriculture space and what is now MPI [the Ministry for Primary Industries] that the size of the trade and the speed of the expansion has overtaken the ability of officials to manage the workload. We still have meat plants uncertified and product held up at the borders. We just have to invest much more in those key relationships at central and provincial level, and have more people able to understand how to do business with the Chinese."

The private sector has similar issues, Finny says.

"For Fonterra and other commercial operations it is much easier to pick up native Chinese speakers who have good English than the other way around. But there are some jobs that really have to be done by New Zealanders. New Zealand Inc is going to have to be prepared to invest in the China relationship the same way MFAT is - and it's expensive."

But while the trade relationship has grown in leaps and bounds, it is a different story for investment.

Chinese investment in New Zealand in all forms, as at March this year, was $2.4 billion, or just 0.7 per cent of foreign investment in this country.

New Zealand investment in China was $1.2 billion, or 0.7 per cent of total investment abroad.

Some gung-ho early investment forays into China were commercial disasters - an experience shared by other countries - and have left people risk averse, Finny says.

"But now we are seeing an increasing willingness to invest there. Fonterra is obviously a prime example, and a number of tertiary institutions are working on a campus in China. So it is starting to happen on our side in the way we hoped it would, but people are being sensibly cautious, because you have to get the business model right."

As for inbound investment, despite the media attention it receives "it is not as if we are being overwhelmed by Chinese investment".

He cites dairy processor Synlait as an example of a constructive partnership, good for the relationship long term and good for the New Zealand economy.

"It's not as if we are flush with capital."

• Brian Fallow is the Herald economics editor