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69023141 gk-seminar-hk-arthur-china


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69023141 gk-seminar-hk-arthur-china

  1. 1. What, me worry?Why China can keep on going September 2011 Arthur KroeberManaging director, GK Dragonomics Research Editor, China Economic Quarterly
  2. 2. Six crises: the bear case 1. China’s economy is an unsustainable investment bubble 2. China’s housing market is an unsustainable investment bubble—”ghost cities” prove it 3. China’s investment is financed by an unsustainable and rapidly rising public sector debt 4. China’s growth is dangerously unbalanced and there is not enough consumption 5. China is running out of surplus agricultural labor 6. China’s growth is about to slow sharply because of the “middle income trap” 2
  3. 3. An answer for everything 1. Investment bubble?  Fact: China’s capital stock is very low 2. Housing bubble?  Fact: China has a severe urban housing shortage 3. Too much debt?  Fact: Sovereign debt load is manageable and finances productive investments 4. Not enough consumption?  Fact: China has the fastest growth in per capita consumer spending in world history 5. No more workers?  Fact: Rural-urban labor transfer has a decade to run 6. Middle income trap?  Fact: There is no “middle income trap” 3
  4. 4. More investment needed (1) Capital stock per capita in China and the US China’s per capita capital US$ at constant 2005 prices stock is far below$140,000 developed country levels.$120,000 • China’s physical capital$100,000 per head is about the same as Japan’s in 1970. $80,000 $60,000 $40,000 • It is less than half that $20,000 achieved by the US at the beginning of the Great $0 2010 2010 1930 2009 Depression. China China at PPP US • It is less than one-fifth that of Japan at the Capital stock per capita in China and Japan beginning of its bust in US$ at constant 1990 prices 1990.$70,000 • China needs to invest a lot$60,000 more before it achieves developed-country status.$50,000$40,000$30,000 • There is no evidence that China is “over built.”$20,000$10,000 $0 2010 at PPP 1971 at PPP 1990 at PPP China Japan 4 4
  5. 5. More investment needed (2) Chinas capital-output ratio China’s investment Net capital stock relative to annual GDP, at current prices efficiency is well within3.0 the normal range.2.5 • There is no evidence to2.0 support claims that China’s1.5 investment is in aggregate “wasteful and inefficient.”1.0 • For most countries, the0.5 ratio of capital stock to0.0 annual GDP (capital-output ratio or COR) is between 2 and 3. Capital-output ratios in Asia • China’s is now at 2.4, Net capital stock relative to annual GDP, at current prices boringly middle-of-the road,4.0 and substantially lower than3.5 that of the US, which is3.0 1980 around 3. 20072.5 • The increase in China’s2.0 capital-output ratio since1.5 1980 is also a normal sign1.0 of capital deepening, and0.5 much smaller than the0.0 increases in other Asian China Philippines Taiwan Indonesia Thailand South Japan countries. Korea 5 5
  6. 6. Housing shortage (1) China’s housing market Housing stock vs urban households, in m units is in shortage, not bubble. • Of China’s 225m urban 300 300 households only 150m are adequately housed. 250 250 Urban households: • China still must house 1/3 200 200 migrants of existing urban households (75m), plus 150 150 Urban 100m new urban households: households to be created natives 100 100 over the next 20 years. Units of • After accounting for 50 50 independent depreciation, this implies housing annual housing completions 0 0 must average about 10m a 1998 2005 2009 2015f year for the next 20 years vs 6m/yr in 2000-08. • Many cities are building ahead of this demand - creating “ghost cities.” But these are just China’s equivalent of 1950s suburban Levittowns. 6 6
  7. 7. Housing shortage (2) Few migrants own Migrant worker accommodation by type homes. share of total • The vast majority of the 0.9% unhoused are recent 3.9% migrants from rural areas, who account for about one 18.8% Employer-supplied housing quarter of urban households. Shared rental • Only 1% of migrant Self rental households own their home. Most migrants live in Other 57.1% employer-supplied housing Own home in factories or on work sites. 19.3% • Meeting migrant demand for housing will require a large increase in the supply of both purchase and rental units. 7 7
  8. 8. Public debt burden Public debt burden is Chinas public debt as share of GDP manageable, even after100% 2009-10 stimulus.90% • Pre-stimulus, public debt80% was stable at 80% of GDP.70% Financial sector • Explicit liabilities of the60% central government were NPLs on bank balance just 26% of GDP in 2010.50% sheets • Local government debt40% Local govt jumped from 17% of GDP in30% 2008 to 36% in 2010.20% • But the contingent liability Central govt10% from bank NPLs has shrunk 0% dramatically. • 90% of other financial 1998 1999 2000 2001 2003 2005 2006 2007 2008 2009 2010 2002 2004 sector debt is PBC sterilization bills and policy- bank bonds; neither will likely cause a direct liability to the central government. • Unlike US/Europe China’s debt finances economically productive infrastructure. 8 8
  9. 9. Strong consumption (1) Consumption growth is Chinas consumption paradox very robust.50% 20% • Critics focus on the private45% consumption share of GDP, which fell from 46% in 200040% 15% to 33% in 2010. • Yet during the same35% period, real per capita consumption growth30% 10% accelerated from 7% p.a.25% to 10%. • China’s per capita20% 5% consumption growth over 1996 1998 2000 2002 2004 2006 2008 2010 the past decade is almost Private consumption share of GDP (lhs) certainly the fastest ever recorded by any nation. Real growth in per capita private consumption, 3yma (rhs) • The falling consumption share of GDP is a natural phenomenon during a successful industrialization. 9 9
  10. 10. Strong consumption (2) Decline in consumption share of GDP after take off The fall in China’s consumption percentage points ratio is similar to that of other 0 Asian success stories. -5 • The fall in China’s consumption ratio since 1990 is about the same-10 Japan (T=1955) as that experienced by Japan in China (T=1990) 1995-70, and much less than that-15 South Korea (T=1975) of South Korea in 1975-90.-20 India (T=2001) • Consumption ratios normally when countries transition from-25 agriculture to industry, because T T+10 T+20 T+30 T+40 T+50 capital earns a greater share of national income. Consumption ratios in major Asian economies Private consumption share of GDP • Even the US saw a 25pp fall in its100% consumption ratio from 1900-1950. 90% • The only thing unusual about 80% China is how low its consumption 70% India ratio was when it started Taiwan industrialization in 1980. 60% Japan South Korea • This is a legacy of the communist 50% China system, which suppressed 40% consumption, and may also reflect 30% measurement problems. 1955 1965 1975 1985 1995 2005 10 10
  11. 11. Lots more workers Share of workforce in agriculture China still has plenty of70% agricultural labor waiting to move to the modern economy.60% • By our estimate (lower than official figures), about 34% of the50%40% China current Chinese workforce (268m30% South Korea people) is employed in agriculture. Taiwan20% Japan • China has achieved faster growth, with less rural-urban labor transfer,10% than S. Korea or Taiwan. • China has a higher share of0% At $2,000 per capita GDP At $7,500 per capita GDP workers in agriculture than did Agriculture and development in Asia Japan, S. Korea and Taiwan at a comparable stage of development. Share of workforce in agriculture 80% 70% • Growth in those countries did not 60% 50% slow until the agricultural share of 40% employment fell to about 20%. 30% 20% • Based on NE Asian precedents 10% China can still plausibly enjoy 0% another decade of high-speed 0 5 10 15 20 25 30 growth based on transfer of Per-capita GDP, 000 US$ PPP workers from traditional China 1980-2009 South Korea 1963-2005 agriculture to the modern urban Taiwan 1963-2005 Japan 1953-1990 economy. 11 11
  12. 12. Middle income trap (1) Actually, there is no Two types of successful catch-up growth evidence for a middle- Percentage of US per capita GDP at PPP income trap. 100 90 • Our survey of 96 80 economies since 1970 70 shows that 80% of countries that started poor 60 (<15% of US p/c GDP) are 50 still poor today. 40 Pre-1970 low 30 • By contrast, one-third of 20 Recent average middle-income countries in 10 1970 (15-50% of US p/c 0 GDP) became rich by 2010. • So there is much more of a “poverty trap” than a “middle income trap.” European integrators Asian exporters • Two kinds of countries have achieved sustained catch-up to US living standards: countries on the European periphery, and Asian export champions. China fits comfortably in the second group. 12 12
  13. 13. Middle income trap (2) Will China be more like Asias partial catch up: Japan/Korea, or more Percentage of US per capita GDP at PPP like Thailand/Malaysia? 100 • In Japan, catch-up 90 Japan growth slowed at 75% of 80 US p/c GDP and stopped at Taiwan 70 90%. In Korea/Taiwan 60 South Korea slowdown started at 55- 60% of US GDP. 50 Malaysia 40 • China is only at 20% of 30 Thailand US GDP, suggesting China another decade or two of 20 fast catch-up growth is 10 India possible. 0 • But there is some risk 1950 1955 1965 1970 1980 1990 1995 2005 1960 1975 1985 2000 that it will follow Thailand/Malaysia, whose convergence slowed at 30% of US p/c GDP. • However China’s industrial structure and policy system much more closely resemble NE Asian models than SE Asian. 13 13
  14. 14. Middle income trap (3) There is no pattern to Which threshold will China hit? when catch-up growth Levels of per capita GDP (% of US) where catch-up slowed stops. 100 • Historically, the slowdown 90 in catch-up growth starts 80 anywhere from 20% of US p/c GDP (Thailand) to 80% 70 (Finland). 60 • China has just begun to 50 enter the very broad range 40 where slowdown becomes 30 more likely. 20 • The average slowdown 10 threshold is 55% of US p/c 0 GDP, suggesting China could have a continued 1952 1960 1968 1976 1984 1992 2000 2008 2016 2024 2032 2040 2048 long run of catch-up growth. 14 14
  15. 15. Nothing to worry about? Well… • Our exhaustive review of the evidence suggests that, with sensible policies, China can reasonably expect at least another decade of high-speed growth. • But “high-speed” means average real GDP growth of 8% in 2011-2020, vs 11% in 2003-2010. • Meanwhile, structural CPI inflation is rising because of an inexorably tighter labor market. In 1997-06 CPI inflation averaged 1%; in 07-11 (excluding 09), it averaged 5%. • Slower growth and higher inflation mean that capital must be allocated more efficiently. This is especially true in light of the “stimulus hangover” of increased debt. 15
  16. 16. Credit over-easy Deleveraging needed. China bank loans and total credit % of GDP • Between 2008 and 2011170% total credit soared from160% 117% of GDP to 160%.150% • Much of the increase came from off-balance140% Total credit sheet “shadow banking,” (incl shadow which rose from a stable130% finance) 18-20% of GDP in 1997-120% 2008 to 42% in 2011. Bank loans110% • China “shadow banking”100% is mainly dressed-up bank lending, rather than the90% risky leveraged derivative80% products in pre-2008 US “shadow finance.” 1997 1999 2001 2003 2005 2007 2009 2011e • China successfully deleveraged in 03-08, thanks to nominal GDP growth of 18% p.a. • With slower GDP growth, the next deleveraging will require greater capital efficiency. 16 16
  17. 17. Concluding thoughts • Structurally, there is no reason why China cannot achieve average 7-8% growth, with average 5% CPI inflation, over the next decade. • This performance would be about the same as Japan’s in the 1960s and South Korea’s in the 80s. • Financial sector reform to improve the efficiency of capital is essential to long-run (post 2020) growth. • But financial reform would also attack one of the key pillars of Communist Party rule. • If China grows without financial reform and deleveraging in the next decade, the 2020s could be a replay of Japan’s 1990s. • But if it does deleverage, then the 2020s could see a solid average growth rate of 5-6%. 17
  18. 18. GK Dragonomics, a GaveKal company, is an independent research and advisory firm specializing in China’s economy and its influence on Asia and the world.