The story of China’s investment addiction is well known. China invests more in factories, smelters, roads, airports, shopping malls and vast housing complexes than any modern nation has done in history. At its peak, after the stimulus that followed the 2008 global financial crisis, gross capital investment hit a vertigo-inducing 49 per cent of output. Worse, every time growth sags, as it did at the start of this year, central planners reach for the cement-mixers, pushing investment up again.
Yu Yongding, a well-known academic at the Chinese Academy of Social Sciences, worries about this a lot. China is storing up trouble, he believes, as it adds to its stock of white elephants and unprofitable industries. Take the steel industry, he writes in a recent article. China has more than 1000 steel mills and produces roughly half the world’s output. There is so much overcapacity that profitability last year was an atom-thin 0.04 per cent.
China’s high investment rate is the flipside of its high savings rate, which in 2007 topped 50 per cent of gross domestic product. This story is also well known. Chinese people save too much. One reason is that they stash away money to cover catastrophic events such as sickness or redundancy. In addition, the system penalises consumers by suppressing deposit rates so that cheap money can be funnelled to favoured sectors – all those steel mills. This propensity to save makes the necessary rebalancing of the Chinese economy harder. If consumers cannot be relied upon to spend and exports can no longer be the engine of growth, all that is left is investment.
Growth this year is likely to be about 7.5 per cent, quite a comedown from the nearly 12 per cent of 2010. But Xi Li, assistant professor at Hong Kong University of Science and Technology, says it will have to fall more. He calculates that if household consumption, now at 34 per cent of GDP, is to rise to 50 per cent in 10 years, annual investment growth would need to fall to minus 3 per cent a year. That would mean GDP growth falling to 4 per cent. Part of the basis for such assessments is empirical. You only need to visit China to see the investment, whether in the world’s longest high-speed rail network or in huge ‘ghost cities’. Part, though, is statistical. Each year, official data show investment at close to 50 per cent, savings at about the same level and consumption at about 35 per cent.
But what if the official data were wrong? That is the intriguing claim by two academics, Jun Zhang and Tian Zhu, respectively of Fudan University and China Europe International Business School, who argue that consumption has been consistently underreported. In a recent paper they find three important areas of undercounting. One is housing. China, they argue, does not properly account for ‘imputed rent’, an estimate of how much owner-occupiers would need to pay if they were renting. Second, they say, a lot of private consumption shows up in statistics as corporate expenses. For example, many executives pay for their private car on the company account. Although this appears in official data as investment, it is really consumption.
Third, and most important, they argue, GDP surveys underrepresent high earners, who may not relish the idea of officials with clipboards noting down their every expenditure. If high-income households are missing from the survey, so is their consumption. Taking these three factors together, the two academics calculate that China underestimates consumption by 10-12 percentage points.
That view, though still a minority one, has some support among investors. Jonathan Garner, head of Asian and emerging market equity strategy at Morgan Stanley, has long argued that Chinese consumption is higher than captured in official statistics. In a February report, using a bottom-up method, his team estimated household consumption at 46 per cent of GDP, $1.6 trillion higher than officially recognised. If he is right – or even half right – then some of the scare stories about China look slightly less scary.
For example, investment, though still excessive by anyone’s standards, might not be quite as outrageously wasteful as assumed. Garner puts capital investment at 41 per cent of GDP in 2012, not 49 per cent. “Our data suggest the transition to consumption-driven growth has already been under way for some time.” That, he says, is borne out by concrete data. Car sales, for example, are growing by 13-14 per cent, double the pace of the economy. Consumer-related stocks have long outperformed industrial ones.
Of course, if consumption data are wrong, that would imply investment data are wrong too. More work needs to be done to explain this. Nor do even the most optimistic estimates of consumption make concerns about chronic overinvestment vanish. They would, however, make them smaller. What seems like an obscurantist debate over the methodology for calculating GDP turns out to be of vital importance for China’s economic future.
Copyright The Financial Times Limited 2013.