What is the right conclusion to draw from the above graph? Much rests on the answer, as China’s polyethylene (PE) demand is a good indicator for the overall state of its consumer demand:
• Was the dramatic leap in demand growth (blue column) in 2009 just a one-off?
• Or are we likely to see sustained growth at this level from 2013 onwards?
A second key question relates to the trend of GDP growth (red line). Will this now accelerate again, back to the 10%/year level seen through the 2000s? Or should we believe the new government when it says it is aiming for 7%/year?
Until recently, most people believed that China’s demand was “inevitably” going to grow at dramatic rates. Co-author John Richardson was in a small minority a year ago, when arguing in chapter 6 of ‘Boom, Gloom and the New Normal’ that:
“Being “middle class” in China and India is radically different from the West. Income levels are a tenth of those in developed markets and will remain so for years and decades to come. This has major implications for the nature of consumption in China and India – the type of products that will need to be made if companies are to prosper. And further, the transition from developing to developed country status was never guaranteed and is fraught with risk.”
Today, however, the evidence is starting to starting to pile up on John’s side. There has been no follow-through since 2009. And crucially, the ratio between PE demand growth and GDP (green line, right hand scale) has fallen back below 1x GDP. This is quite different to the earlier consensus, which believed it would run at 1.5x or even 2x GDP.
The reason for the slow growth is that China has followed the wrong policies for the past few years. As discussed last week, it focused on ‘quick wins’ from infrastructure spend and a rising ‘wealth effect’ from the property market. Almost uniquely in history, this meant that personal consumption actually fell as a share of GDP as the country’s economy grew.
Now the new leadership has to turn back the clock. It knows that another $580bn stimulus programme, as in 2009, would lead to a major inflation risk. And governments of poor countries like China, where 70% of the population earn less than $10/day, know they risk major social unrest if prices for food and other necessities start rising.
So the new leadership has little choice. High growth would be a very high risk strategy. So although markets today believe that new stimulus will emerge after Lunar New Year, they are likely to be disappointed. And then, perhaps, a more balanced discussion might begin to take place about the real risks facing China’s economy.
The key question for the rest of 2013 will be simple. Can China actually sustain even 7% growth, as it tackles the major challenges of trying to boost rural consumption whilst cutting back wasteful infrastructure spend and corruption?