Vast amounts of stimulus have not made China “middle class”

Consumer demand


China incomes Feb15cDebt can’t make a country middle-class overnight.  Even a massive amount of debt can’t achieve this.  Even the largest amount of debt in history can’t do this.  China’s experience since 2007, when it increased debt four-fold, proves this.

As McKinsey have reported, China increased its debt from $7tn in 2007 to $28tn by the middle of last year.  China now has more debt than either the USA or Germany as a share of GDP.  Half of all this debt went into the property market to create a ‘wealth effect’.

But wealth gets spent once and then disappears.  Then only the debt remains – and has to be repaid.  This is why, as fellow-blogger John Richardson reminded us yesterday:

  • “In 2007, $1 of credit added $0.83c to GDP
  • In 2013, $1 was only adding $0.17c
  • 2014 estimates suggest $1 will have added just $0.10c”

This is the simple explanation for why China’s new leadership have stopped doing more stimulus and are instead pursuing New Normal policies.  Anyone can see that if they continued on the old policy, each $ of new debt would soon actually be reducing GDP, not increasing it.

What does this mean for companies wanting to sell into China?  Or for investors seeking profitable long-term opportunities?  The answer lies in the charts above for per capita disposable income in urban areas and rural areas, based on China’s National Bureau of Statistics data:

  • They show incomes since 2000, divided into quintiles (eg Top 20% = High income etc)
  • The High income group in urban areas had $9k income in 2013, versus $4k in 2007
  • The Middle income had $4k in 2013 versus $1600 in 2007, and the Low income had $1900 versus $700
  •  The High income group in rural areas had $3.5k income in 2013, versus $1300 in 2007
  • The Middle income had $1300  in 2013 versus $500 in 2007, and the Low income had $400 versus $180

This is why China’s economy is now slowing fast.  Without the ‘wealth effect’ generated by the lending bubble, the country now has to rely on incomes to provide a sustainable basis for future  growth.  In turn, this explains why China’s leaders focus on job creation all the time, and aim to move up the value chain in order to boost incomes.

China incomes Feb15dThe key to future growth is thus going to be to supply basic goods to relatively poor consumers.  Of course, China has millionaires and billionaires.  But the chart above highlights the mass-market opportunity:

  • It shows ownership of basic consumer goods per 100 households
  • Most have 2 mobile phones, but only half of the population owns a computer, and fewer still a vacuum cleaner
  • It seems fair to assume those without these goods are in the lower-income groups
  • Thus one obvious growth opportunity is to supply low-cost versions of these products to urban residents with incomes less than $4k, and to rural residents with less than $1300

You can find further details of spending in my posts a year ago for urban and rural households, based on 2012 data.

The conclusion is simple.  There remain great opportunities for companies and investors in China.  But they are New Normal opportunities.  Successful companies and investors in the future will be those who avoid wishful thinking about future demand patterns.

The sad, and expensively-learnt conclusion from China’s experiment, is that vast amounts of debt can’t suddenly make a relatively poor country become middle class overnight.


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