Caixin
Apr 13, 2021 04:09 PM
ECONOMY

In Depth: Can China Overtake U.S. to Become World’s Top Consumer?

China took the crown of the world’s biggest manufacturer from the U.S. in 2010, and as rivalry between the two countries continues to dominate the headlines, the focus is now switching to consumers.

Given China’s sheer size — its population of 1.4 billion is more than three times bigger than that of the U.S. with 331 million — and expectations that the economy is likely to continue growing faster than America’s, it’s only a matter of time before the country becomes the world’s biggest consumer juggernaut.

By some measures, China is within sight of the top spot –– retail sales amounted to $5.7 trillion last year, government data show, while U.S sales stood at $6.5 trillion. Analysts at JD Technology, the fintech arm of e-commerce giant JD.com Inc., estimated in a December report (link in Chinese) that China could well take the title of the world’s largest retail market in dollar terms this year on the back of a much greater increase in sales than the U.S. and the currency translation benefit of stronger yuan. Analysts at Citic Securities Co. Ltd. are not quite as optimistic (link in Chinese), although they expect China to take the title at some point during the 14th Five-Year Plan that runs from 2021 to 2025.

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China has already overtaken the U.S. in some categories — it is, for example, the world’s biggest market for cars, smartphones and computers. It is also high up in the rankings in other areas –– it’s the world’s third-largest market for personal luxury goods, according to management consultancy Bain & Co., which ranks China against the blocs of the Americas and Europe, rather than against individual countries. In its latest annual report on the global luxury goods market, it estimates sales in China were 44 billion euros ($52.3 billion) in 2020 compared with 57 billion euros across Europe and 62 billion euros in the Americas. It predicts China will shoot to the top by 2025 and that Chinese consumers will account for 45% of global purchases by then.

The absolute numbers only tell part of the story, however. Other measures show how much ground China still has to make up. In terms of car ownership, for example, 33 households out of 100 in China had a car in 2018, compared with 78 in the U.K. and 91 in the U.S. Smartphone penetration was 60.8 per 100 people in China in 2020 compared with 81.6 in the U.S. and 78.4 in the U.K., according to data compiled by Newzoo, a games and esports data company.

Although China is the world’s second-biggest insurance market it has a long way to go to catch up with the U.S., where premiums totaled $2.46 trillion in 2019, according to a report from the Swiss Re Institute, the research arm of Swiss Re Group. That compares with total premiums of $617.4 billion in China.

So while China is No. 1 or No. 2 in many market segments, it could take years for the country to become the world’s largest household consumer overall, because spending on services such as healthcare, insurance, leisure and education is far lower in absolute terms and in terms of consumption per capita than in the U.S., where they account for around two-thirds of household spending.

Data on personal consumption expenditures (PCE), an indicator that covers the value of goods and services purchased by residents, illustrates the gap. In 2019, PCE in China was 38.7 trillion yuan, or $5.6 trillion at the average exchange rate that year, 61.4% lower than the expenditure in the U.S., figures compiled by economic data provider CEIC show.

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Policymakers and some economists expect that China will move up the World Bank rankings from its current position of an upper middle-income economy to a high-income country by 2025. The ruling Communist Party in October set a longer-term target of becoming a “medium-level developed country” by 2035, although there is no internationally accepted definition or criteria for this. In an explanation of the party’s proposals for the five-year plan and long-term objectives through 2035 published in November, President Xi Jinping referred to doubling per capita income and GDP by 2035.

 Read more  
In Depth: China’s Long March to Become a Consumer-Driven Economy

Achieving these goals will depend on many factors including China’s continued dominance of global manufacturing. But it will also require a significant increase in consumption, particularly from households. Many economists expect their spending to grow at least as fast as GDP over the next one or two decades, but that may still not be enough to overtake the U.S.

Analysts at U.S. investment bank Morgan Stanley estimate that private consumption in China could more than double from its 2019 level to about $13 trillion, or 83.1 trillion yuan at the current exchange rate, by 2030, matching the size of the U.S. market today, as per capita household disposable income doubles to $12,000. Changes in income, distribution and technology will all play a part in that growth which will create an economy where services overtake goods in terms of value and share of GDP, they wrote in a January report.

They expect the share of private consumption in GDP to increase to 48% in 2030 from 39% in 2019, and the share of services in household consumption to rise to 52% from 45%. The growth will be driven by urbanization, more economic opening up and reforms that will attract capital inflows and resolve consumption bottlenecks such as logistics and the household registration, or hukou (户口), system.

It’s generally accepted that services will lead the increase in consumption, and Morgan Stanley, for example, estimates a compound annual growth rate of 9.2% for services compared with 6.7% for goods. Its analysts estimate the health insurance market for example will grow to 2.96 trillion yuan in 2030 from 862 billion yuan in 2020, a compound annual growth rate of 13.1%.

“There’s an inevitable trend that once people’s food and clothing needs have been satisfied and a country becomes more developed, per capita consumption of services… will gradually increase,” Gao Huan, a senior director specializing in the consumer sector at consultancy Alvarez and Marsal Holdings LLC, told Caixin in an interview.

One major growth driver will come from what have been dubbed sink, or lower-down, markets (下沉市场), smaller town and rural areas where incomes are relatively low compared with major cities.

Spending there has been held back not only by relatively low incomes but by under-developed infrastructure, but they have high potential, analysts at Guotai Junan Securities Co. Ltd. wrote in a February report. Improved internet access, the growth of e-commerce and digital innovation and better logistics have fueled the growth of e-commerce platforms such as Pinduoduo Inc. which has unlocked massive pent-up demand for low-cost, value-for-money goods and services, the analysts said.

Another area of growth is expected to come from demographic change, especially the country’s rapidly aging population. The party’s official proposals for the five-year plan and long-term objectives refer to the need to “develop the silver-haired economy” (银发经济) and promote the development of the elder care industry.

Saving too much

Economists generally agree that the elderly population will have a higher demand for services. But on top of that, due to the impact of the now abandoned one-child policy, the majority of working age people in China do not have siblings to share the burden and will have to outsource the care to professionals.

People can only spend if they have income beyond what they need for basic necessities so the projections for private consumption in China will to a large extent depend on the level of growth in wages and, increasingly, on returns from personal investments in stocks, mutual funds and wealth management products. Many analysts worry that factors such as income inequality, the need for high precautionary savings and elevated housing prices present significant long-term obstacles to achieving the kind of spending the government is hoping for.

The 14th Five-Year Plan promises to tackle these issues through a range of policies including redistribution of income through fiscal policy including tax reform and higher welfare spending, along with a property tax and measures to make housing more affordable. Government ministries are now working on more detailed policies and implementation measures.

The gap between the wealthy and the poor is a long-standing pain point. China’s Gini index –– a widely used measure of income distribution that goes from 0, an expression of perfect equality, to 1, denoting perfect inequality, stood at 0.465 in 2019.

Although that’s down from 0.49 in 2009, it’s above 0.4, a level often associated with growing social tensions. In 2019, the annual per capita disposable income of the wealthiest 20% of urban households was 91,683 yuan, almost five times higher than the 15,549 yuan average income of the poorest 20%, data from the National Bureau of Statistics show. That’s almost the biggest gap in data going back to 2000 when the difference was just under three times.

Another damper on consumption is China’s high household savings as a percentage of disposable income, some economists say. Latest data from the Organisation of Economic Co-operation and Development put the rate at 36.4%, among the highest in the world and compared with just under 7.9% in the U.S. and 8.7% in South Korea the same year. China’s high household savings rate is partly due to cultural reasons but is also due to the need to save to pay for healthcare and pensions, services that have not traditionally been provided by the state. An increasingly important factor in the persistently high savings rate is property –– house prices are now so high that young people and their parents are having to save ever greater sums of money for down payments.

Unaffordable housing

To persuade consumers to spend more and save less, the government itself needs to increase its outlays on public services to remove the burden from individuals, economists say. The share of China’s government spending in GDP has been below the world average for many years, analysts at Ping An Securities Co. Ltd. wrote in a report (link in Chinese) in February. They said that higher spending on providing public services rather than on investment would spur growth in household consumption as it would not only relieve the current pressure, but also improve consumer expectations for the future, thereby reducing precautionary savings.

Economists say the government needs to take action to address the problem of housing affordability, which is becoming a more significant obstacle to increasing consumption. Residential property prices have surged over the past two decades, increasing at a far higher rate than average earnings, especially in large cities. Last year, China’s urban housing price-to-income ratio rose to 9.2, the highest in more than 20 years, according to (link in Chinese) the EJ Real Estate R&D Institute, a Shanghai-based property research institute. That compares with a ratio of three to four times generally viewed as normal and the roughly seven times seen in the U.S. at the peak of its housing bubble in 2006.

A high price-to-income ratio means home buyers have to borrow more and allocate more of their income to mortgage repayments, leaving them with less to spend on other types of consumption.

The government is well aware of the problem. High housing prices, high land prices, and high mortgages have led to a sharp decline in residents’ consumption power, Yang Weimin, a former deputy head of the general office of the Central Financial and Economic Affairs Commission, the country’s top economic policymaking body chaired by President Xi, said (link in Chinese) in a speech in March. The crowding-out effect of residential debt on expanding consumption has become increasingly evident, said Yang, who is now the deputy director of the economics committee of China’s top political advisory body.

Yang said in an interview with Caixin in late February that authorities should prevent housing prices and mortgages from rising faster than residents’ incomes and establish a housing system that encourages both purchasing and renting in mega cities.

Da Fan, 33, an employee with a large state-owned enterprise in Beijing, is one of millions of homeowners burdened with high mortgage payments. He bought a newly built two-bedroom apartment under the government’s affordable housing program in a northern suburb of Beijing last year. Although he hasn’t got the keys yet he’s already paying the mortgage which consumes nearly 10,000 yuan a month, about half his disposable income. After paying all his other living costs he can barely save a penny. “I am reluctant to even buy a new cellphone right now,” he said.

Contact reporter Guo Yingzhe (yingzheguo@caixin.com) and editor Nerys Avery (nerysavery@caixin.com)

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