How the US Shale Gas Boom Could Derail China

With oil production at a twenty year high and predictions of a manufacturing renaissance for the U.S. economy, one of the world's largest investment banks has detailed how the "shale revolution" will negatively affect emerging markets such as China.

Workers chat at gas drilling rig exploring the Marcellus Shale.
Mladen Antonov | AFP | Getty Images

Hydraulic fracturing, or "fracking," has helped lead a revolution in gas and oil production in the United States. The new technology is unlocking oil and shale gas resources, spurring economic activity and giving industry a competitive edge with less expensive gas and electricity prices.

These developments could lead to the industrialization of the U.S. economy and could deliver sustainable growth, Morgan Stanley said in a research note on Wednesday.

With the help of cheap energy, manufacturing will pick up and move down the ladder to capturing the production of less "sophisticated" goods (computers, fabricated metals and automobiles) currently manufactured in emerging nations. As a result, the United States will likely compete with emerging markets for market share rather than being a consumer, Morgan Stanley said.

"As the manufacturing renaissance takes hold in the U.S., the move down the value-added ladder in the U.S. is likely to clash with China's need to further increase the sophistication of its manufacturing base," it said.

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And as the bank details, China needs to move up that ladder to not only produce medium-term growth but to protect against economic stagnation, the "middle-income trap" and move from an emerging to a developed market.

U.S. crude oil production exceeded an average 7 million barrels per day in November and December 2012, the highest volume since December 1992, the Energy Information Administration (EIA) said last week. The International Energy Agency (IEA) projects it could even leapfrog Saudi Arabia and Russia to become the world's biggest oil producer by 2020.

A continued fall in U.S. oil imports means North America could become a net oil exporter by around 2030, according to the IEA, and the United States could become almost self-sufficient in energy by 2035.

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But it's not just oil production causing this potential reindustrialization. Morgan Stanley also highlights a resilient (non-financial) private sector and a decade of dollar depreciation against emerging market currencies.

Malaysia is another country set to lose market share and should hope to move up the "value-added" ladder, Morgan Stanley said. Brazil could also suffer, with a Mexican economy that's closely knitted to the U.S. attracting more automobile manufacturing, it said.

"U.S. reindustrialization will likely challenge Russia's presence in steel, chemicals and industries to support that very renaissance," it said.

(Read More: Shale Gas Will Transform US Economy: Eni Chairman)

The bank admits that the threat to China is still some time away. Its research suggests that to decrease this potential threat it needs to rebalance its own economy. The country should move away from an export-led economy and concentrate on domestic consumption to drive growth, it said.

"Should consumption continue to rise steadily, a manufacturing base that caters to domestic consumption would be less threatened than one that relies on investment and has to cater to external demand because of insufficient domestic demand," it said.

By's Matt Clinch