At a time in which the powers that be have talked down their prior GDP targets, there has been a lot of intelligent debate about China’s transition from an industrial to a consumer led economy, and what that means for global growth. An article in Bloomberg caught my eye yesterday. It sums up an economic situation that has the possibility to roll from virtuous cycle to a vicious one and than back again, wreaking havoc on global growth expectations:
China’s demand for cars has slowed, but overcapacity will remain the new normal https://t.co/oHdUk4IkqWpic.twitter.com/eTKGi0TKm7
— Bloomberg Business (@business) November 9, 2015
That headline could have been written 3 years ago for housing in China, or other industries that rely on large consumer purchases. As the Bloomberg article covers, despite demand moderating, automakers in China will maintain or even grow capacity for fear of losing market-share in a very competitive environment, a notion that makes little economic sense in a period where capacity utilization is at 50%, and passenger car sales went negative year over year in Q3:
But as one would expect, the PBOC is willing to do what it takes for the transition from an “industrial led economy to a consumer led economy”:
Carmakers recently got help when China’s government, prompted by the sharp slowdown in auto sales in this year’s first three quarters, announced a tax cut on vehicle purchases from Oct. 1 through the end of 2016. China’s purchase tax on vehicles with efficient engines 1.6 liters or smaller has been cut in half, to 5 percent. Buyers have responded, with retail auto sales in the first three weeks after the tax cut rising 11 percent from the same period last year, according to the China Passenger Car Association.
So is the tail wagging the dog? Like most other countries in the world, China has spent the last 6 or 7 years spending billions (in this case trillions) of dollars on fiscal and monetary stimulus, just to keep the ship afloat. GDP is at decade lows with below target inflation and the entire thing is susceptible to new lows without stimulus.
Those trying to gauge the strength and the prospects of the Chinese consumer through recent sales and guidance by U.S. brands like Apple, Nike and Starbucks, you are likely looking through the wrong lens. While those premium brands are doing well in almost every region of the world, remember that the US is much further along in our post financial crisis consumer deleveraging (we have already come out the other side), and by all accounts China’s consumer is still expanding leverage. It makes sense for them to spend on aspirational products like iPhones, Air Jordans and $5 lattes. But if recent history has shown us anything it is that second car purchases and home purchases are going to do the deed at the tipping point. SO massive industrial overcapacity for the sake of not losing market-share to a saturated over levered consumer seems like a disaster waiting to happen. Just saying.
So no matter what stage of the cycle China’s transition may be in at the moment, it will be fraught with pitfalls and market volatility inducing headlines like this weekend’s trade data that showed weak import demand, (and possibly as troubling) weak export demand to important economies like Japan and Europe, highlighting just how inter-related the rest of the world is with that of China’s “transitioning” economy.