China’s Strong Economic Recovery and the Chinese Consumer
By Bjarke Roed-Frederiksen, analyst, Nordea Markets

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Bright Macroeconomic Outlook
GDP growth has peaked, primarily because of the fading boost from the government fiscal package from late 2008 and the gradually tightening of monetary policy. Also the measures taken aimed at curbing speculation and dampening house price increases are likely to dampen economic growth somewhat due to slower construction investment growth. But the macroeconomic outlook is still bright even though the days of double-digit GDP growth are probably soon over. Growth is still expected to be around healthy 8 percent on average throughout this decade, as growth is becoming more sustainable, driven more by household consumption and less by public investment and exports.

Sustaining such high growth rates beyond 2020 could prove more difficult and requires continued reforms in many areas such as education, environment, financial institutions, liberalisation, health care, social security and the political and legislative framework.

One important challenge beyond 2020 is the ageing of the population, which is an implication of the one-child policy. Whereas the falling number of children per person in the working age population (the children dependency ratio) since the 1970’s has supported economic growth, the situation will change forward in the future. The number of children per person in the working age population will remain fairly constant, but the number of elderly people per person in the working age population (the elderly dependency ratio) will increase dramatically by 2050, presenting huge challenges with regard to pension schemes and elderly care. Some even argue that the unfavourable demographics from 2020 and onwards could send China on the same path of sluggish growth that Japan has followed in the past 20 years.

Ageing population a challenge longer out

Urbanisation Process Far from Over
The strong economic growth is closely connected to the urbanisation process, where poor rural people move to cities, which increases their productivity and wages and leaves room for more consumption. With the emergence of the middle class, private consumption has taken off, even though consumption as a share of total GDP has fallen in recent years, due to exports and investments being the main growth drivers.

Consumption’s share of GDP will increase

The consuming middle class will continue to grow enormously, as the urbanisation process is far from over. A little less than half of China’s 1.3 billion inhabitants currently live in cities (572 million in 2005), compared to 254 million in 1990. But only one third of this 300-million increase was due to migration (the rest was due to city expansion and organic growth). By 2025 the cities will grow by another 350 million people. And this time, most of the increase will be due to migration. Thus, by 2025, almost 1 billion people will live in urban areas, and 221 Chinese cities are expected to have more than 1 million citizens. In comparison, Europe has only 35 cities of over a million inhabitants today. This rapid increase in the urban population is the number one reason why there is a huge consumption potential in the years to come. Consumption could be dampened if households save for the future instead of spending their increased income. But with gradual reforms of health care, social security and pension systems already in progress, and despite many challenges remaining, there should be less reason for the so-called precautionary saving in the future.

Urbanisation process will accelerate

The process of an even stronger consumption growth will set in soon and last throughout this decade. Note that one of the Chinese authorities’ explicit goals is to promote private consumption, so that it will play a much larger role in the economy’s development.

Not Easy to Enter the Consumer Market
With such a tremendously growing consumer base, the Chinese consumer market is the place to be in the coming decades, also for Danish companies. But it is not easy to enter the Chinese market. First of all, one cannot talk about the Chinese consumer, because Chinese consumers are not homogeneous. For instance, only roughly half of the population speaks the main language, Mandarin. And there are also huge ethnic divergences. The income distribution and purchasing power also vary widely among households and various cities. And as some point out, it is actually somewhat misleading to use the term middle class, because the urban households that are currently consuming are, in fact, not in the middle as regards their incomes. Instead, the current urban population roughly corresponds to the richest half of the Chinese population.

The second reason why the Chinese market is difficult to enter is China’s protectionism and bureaucracy. Despite the many improvements following China’s WTO membership in 2001, regulation still makes it difficult to sell goods in China, which have not been manufactured domestically. And even in the case where production facilities are set up locally, an import licence is needed to be allowed to use inputs from abroad. It is also an obstacle that different rules and legislation apply in different provinces. The good thing about the high degree of autonomy for individual provinces is the fierce competition between provinces in attracting investments. Especially in the inland provinces obtaining relatively favourable terms and conditions is still possible.

Another important factor concerning the future consumer market is demographics and the ageing population. The macroeconomic consequences were discussed above, but the one-child policy has also had wide-ranging consequences on the micro level. The family pattern is changing toward the so-called 4 2 1 families, with four grandparents, two parents and one child. Note that the terms siblings and cousins might soon be superfluous in China. For the consumer market, the implication of only one person looking after two parents is that the demand for elderly care products will explode. Looking at it the other way round, the considerable attention that an only child receives might be one explanation for why young people from at least the more affluent part of the urban population are very individualistic when it comes to fashion, trends and lifestyle.