China’s Consumption To The Rescue?
Duncan Freeman
The Chinese government has said that boosting domestic consumption will be the focus of economic policy in 2012. This policy focus reflects a belief that has become axiomatic in discussion of the Chinese economy: China must rebalance its domestic economy away from investment to greater consumption. China, it is charged, under consumes. For the sake of the Chinese as well as the global economy it must consume more.
The primary grounds for this argument is the share of consumption in China’s GDP, which is low compared with other economies, and has been declining in recent years. The result, the argument suggests, is that China’s growth is unbalanced and unsustainable because consumption does not make a sufficient contribution to the economy. The debate revolves around the three components of GDP: investment, consumption, made up of government and household consumption and net exports. Weak consumption in China, it is claimed, contributes to trade imbalances, and with consumers in the developed world facing a crisis, the EU and the US hope desperately that Chinese will come to their aid.
Much of this discussion focuses on household consumption expenditure. In China, according to World Bank data, this accounted for 34.9% of GDP in 2010, which was less than half the 71.2% share in the US, the economy that is often held up as a comparison. It is also much lower than other major economies, whether the 58.6% share in Japan, a developed economy, or 56.9% in India, a developing one. In Europe the share is also normally much higher, the figure for Germany, the largest economy in the EU, is 57.5%.
The perception of under-consumption in China is reinforced by its declining share in GDP. Since China began is reform process, the share of consumption in GDP has fluctuated, but generally fallen. Over past decade household consumption has declined from 46.7% of GDP in 2000, although the figure for 2010 was a slight increase on the previous year.
The low share of consumption in the Chinese economy leads most discussion to the conclusion that China faces a unique problem of weak consumption with global as well as domestic consequences. This conclusion is based on a confusion between the absolute amount of household consumption and its share in GDP.
There is a stark contradiction encapsulated in the confusion. The belief that China fails to consume is contradicted by the evidence of our eyes. To anyone who has been in China over the past two or three decades, or even the last few years will see that consumption in China has expanded enormously. The idea that Chinese fail to consume is contradicted by the fact that virtually every luxury brand in Europe sees China as their main market for the future, and that even mass market retailers such as Tesco or Ikea pin much of their hopes for global expansion on the Chinese market.
Statistics show that retail or consumer spending are increasing rapidly in China. According to Chinese government statistics, in 2011 retail sales of consumer goods increased by 17.1% over the previous year, or 11.6% in real terms. While this may vary across different social classes and regions in China, the trend in rapidly increasing consumer spending is real and has been sustained in recent years.
Despite the received wisdom that Chinese are reluctant to consume, growth in household consumption in China has been among the strongest in the world over many years. Based on World Bank statistics, in the 2006 to 2010 period, growth of household consumption in China averaged 8.5% a year. This outstripped the growth in other major emerging markets: in India growth was 8.2%, in Russia it was 7.0% and for Brazil it was 5.9%. Developed economies registered much slower growth in household consumption. In the US household consumption growth averaged 0.9% in the same period, and in Germany, supposedly the economic powerhouse of Europe, the figure was a mere 0.5%. In most countries, growth in household consumption has been hit by the crisis since 2008, with many countries experiencing declines in household consumption, but this has not happened in China, although the rate of growth slowed in 2010.
Figure 1: Average annual growth household consumption 2006-2010 (%) Source: World Bank, World Development Indicators, author’s calculations
Figure 2: Average annual growth household consumption 2001-2010 (%)
Source: World Bank, World Development Indicators, author’s calculations
Figure 3: Average annual growth household consumption 1991-2010 (%)
Source: World Bank, World Development Indicators, author’s calculations
In the longer term, household consumption in China has also sustained strong growth. In the period from 2001 to 2010, the average for China it was 7.5%. At the other extreme, in Germany it was a mere 0.4% over the decade. In the past decade, only Russia among the major economies has experienced higher growth in household consumption than China. In the longer term the comparison is less favourable. For much of the 1990s household consumption in Russia collapsed, and did so once again when the its energy boom came to an end, whereas China has managed to sustain long term growth both in its economy and consumption. Over the past 20 years China has enjoyed by some distance the highest average growth rate in household consumption of any major economy
One consequence of this is a changing consumption map. Despite its low per-capita GDP, in contrast to the US and major EU and other developed economies, household consumption in China accounts for a rapidly increasing share of global consumption.
In 1990 China accounted for just 2.9% of total global household consumption, but by 2010 the share was 7.4%. Of course China is not the only country that has seen strong growth among emerging economies, although in the long term is it China that has experienced the strongest growth. In 1990 the countries that are the so-called BRICs countries accounted for 11.8% of household consumption, but by 2010 the BRICs had risen to a 19.2% share, with China experiencing by far the largest increase amongst these countries. The contrast with Europe is striking. In 1990 the countries that are now the eurozone accounted for 20.3% of global household consumption, but by 2010, their share had fallen to 15.1%. The share of the 27 current member of the EU has also fallen and even that of the US, the global consumption leader, has begun to decline.
Figure 4: Share of World Household Consumption PPP (%) 1990
Source: World Bank, World Development Indicators, author’s calculations
Figure 5: Share of World Household Consumption PPP (%) 2010
Source: World Bank, World Development Indicators, author’s calculations
The coming years will without question see a continued weakness in household consumption in most of the developed world. In the EU, the prospects are especially poor both within and outside the eurozone. We can therefore expect their contribution to the global economy to continue to decline. At the same time the signs are that the household consumption in China will continue its strong growth, and if the policies announced by Beijing are successful, then it is possible that this will be accelerated. Past experience suggests that even if there is no significant shift in China’s economic model, household consumption growth will continue to be strong.
The debate over the balance of different components in the Chinese economy is important. One thing is clear, the net export component, which has declined from its peak in 2007, will not be a significant contributor to growth. The markets for Chinese goods being engulfed by crisis in Europe and the US must be replaced in the short term. Domestic consumption must play an important part in this.
The relationship between investment and consumption is more difficult. The household consumption component of GDP in China has increased strongly for many years. However, the investment component of GDP has increased more rapidly, leading to a decline in the share of consumption in the total. Despite the argument that the Chinese economy is imbalanced toward investment, it is not the case that high investment has led to low consumption growth. In China over the past 20 years growth in household consumption has been far higher than in the US or the EU. If the world needs more consumption from China, then this is what it has managed to deliver over a sustained period more successfully than any other major economy.
Rather than dragging along in the rear, Chinese household consumption has been in the advance guard. This is one of the reasons why European exports to China have been booming in recent years. For Europe, the real problem will continue to be closer to home. The long-term stagnation of German household consumption is one of the root causes of the fundamental imbalances within the eurozone and the resulting crisis of the common currency. The current policies being adopted at the behest of Germany can only depress consumption in most other parts of the eurozone. If German household consumption does not rise, then the imbalances will not be resolved and growth will not be restored. Chinese consumption can make its contribution to saving Europe, but in the end Europeans can only save themselves.
Duncan Freeman is Senior Research Fellow at the Brussels Institute of Contemporary China Studies.