China Cheat Sheet Helps Investors Survive: Ben Simpfendorfer
Ten years ago, China barely registered on global financial markets. Today, it is front and center. Yet, the market’s understanding of the world’s second- largest economy has struggled to catch up. It is big, foreign, and suffers from a serious lack of economic data, meaning speculation can be as important as fact.
So here are five simple points that go a long way to understanding one of the world’s most complex places:
First, China doesn’t publish gross-domestic-product data in the same way as other countries. It publishes a growth rate, but no quarterly breakdown of real demand. It is one of two Asian nations that don’t publish such data. The other one is Laos.
This is a problem. National-accounts data is an economist’s most important tool. It shows how much consumers have spent on food, or companies have spent building factories. It is the breakdown that helps us understand if the composition of growth is healthy or reliant on just a few sources of demand.
In the case of China, there is a risk the country is spending too much on building highways and factories, resulting in overcapacity and bad debts. And since there is no reliable quarterly data on such investment spending, it is hard to understand whether last year’s rocket-fuelled recovery has only worsened imbalances.
So when third-quarter growth figures are released in early October, it’s worth attaching a health warning to the report.
Second, food almost always explains surprise changes in the consumer-price index. Part of the problem is that the average Chinese household is more likely to purchase fresh food to be cooked at home. By contrast, in neighboring Hong Kong, food eaten in restaurants accounts for half of the food sub-index, so labor and rental costs help to damp the impact of a sudden increase in fresh-food prices. Not so in China, where fresh-pork prices alone, for instance, can visibly shift the CPI.
The upshot is that the country’s weather patterns, rather than its economic cycle, are arguably more important in forecasting the CPI.
Third, China’s domestic demand provides less support to the global economy than popularly believed. Its imports have surged in the past decade, but it’s important to understand what exactly the country is buying.
About a third of imports are destined for the re-export trade. Chinese factories buy semi-conductors and mother boards from producers in Singapore and Taiwan, for instance, assembling them into notebook personal computers, and then shipping the finished good to retail shops in the U.S. and Europe.
Almost another third is commodities. China accounts for much of the world’s demand for many raw materials and is the main buyer of iron ore. Its commodity imports benefit countries such as Australia, Brazil, Chile and South Africa, even as this trade inflates prices for other importers.
The final third is made up of goods such as turbines from Germany, excavators from Japan, and aircraft from the U.S. These are the real drivers of global growth. Yet, such imports were valued at only $430 billion in 2009. To put that into perspective, Korea’s imports were worth $320 billion in the same year -- not much less.
Fourth, China is big, but poor. Its per-capita GDP is $6,600, as measured by purchasing power parity. Yet, this still ranks China alongside Algeria and Namibia in terms of wealth.
Moreover, much of the country’s growth has so far benefited companies, rather than households. That’s one of the downsides of a low-cost business model. Exports and corporate profits have surged, but low wages have generally depressed private consumption and created social stresses.
It’s no surprise then that the government is now aggressively trying to address these imbalances, by lifting minimum wages and improving working conditions. The focus on raising wages and preventing job losses is one reason China has yet to revalue its currency, as critics have demanded, and why it is likely to resist such calls in the future.
Fifth, structural-growth drivers are as important as cyclical ones. The liberalization of China’s housing industry in 1998, for instance, explains much of the country’s surging growth. Until then, the state provided most of the housing stock. But reforms allowed households to buy bigger and better homes, and property developers built them.
It might be that the structural drivers are now being overwhelmed by cyclical ones and that China is experiencing a housing bubble no different from those of the U.K. and U.S. If so, the bears will soon be proven right as the bubble bursts and China’s decade-long boom will be brought to a screeching halt. But if the bears are proven wrong, it will be because of the emergence of new structural drivers.
Urbanization is one such driver. Some analysts say China’s urban population will grow by 15 million people annually over the next 10 years, implying an extra 5 million apartments annually -- a huge source of demand.
Services are another. China’s manufacturing is still the largest driver of growth, but there are the early signs of an emerging services sector, from car rental to cinema multiplexes.
These five points are by no way exhaustive. But China is unusual compared with many of the world’s largest economies, perhaps because of the country’s status as a developing, Asian, or formerly planned economy. The usual set of analytical tools won’t always apply, however tempting it is to do so.
(Ben Simpfendorfer is the chief China economist at Royal Bank of Scotland Group Plc in Hong Kong and the author of “The New Silk Road.” The opinions expressed are his own.)
To contact the writer of this column: Ben Simpfendorfer at firstname.lastname@example.org
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