The most recent version of the Westpac-BREE China Resources Quarterly (CRQ) provides us with a rather interesting snapshot of what may be lying ahead for China's economy and its conclusions suggest that all does not appear to be well. The report, a co-production of Westpac Bank and the Australian Government Bureau of Resources and Energy Economics (or BREE), looks at China's economy through the lenses of one of its major suppliers of raw materials, that is, Australia. What happens to China's economic engine is of particular interest to Australian natural resource companies since they supply a substantial portion of China's inputs, particularly iron ore, metallurgical coal, thermal coal, liquefied natural gas, bauxite and copper among others. For the purposes of this posting, I want to focus on two aspects of China's economy; the housing market and the household sector. Although consumer spending forms a much smaller part of China's GDP (about half) when compared to the United States, as is the case in most large economies, consumer perception is very important when it comes to economic growth.
The CRQ opens by noting that the Chinese economy grew at a rate that was close to but slightly below its potential for the first three quarters of 2014 and suggests signs of "deterioration". Aggregate demand has weakened in the latest quarter and this has been accompanied by weakness in both real estate and heavy industrial investment.
Let's start with this graphic showing how three of the four key sectors of the economy has shown weakness when compared to previous years:
All of the downtrends, particularly in real estate and manufacturing, could prove to be problematic over the longer term.
As shown on this graph, nominal GDP growth, domestic orders and the business situation are all at levels that haven't been seen since the late 1990s (excluding the Great Recession):
As shown on this graph, the same downward trends are evident in construction starts, imports and real estate investment:
Let's start by looking at real estate. Real estate is split 70/30 between residential and non-residential with state-owned real estate enterprises comprising 16 percent of the total. Over the year 2014 to the month of September, nominal real estate investment grew by 12.6 percent which, in most other economies, would be exemplary. Unfortunately, this is China and the trend does not look good; In December 2013, nominal real estate development grew by 22.3 percent, falling to 12.5 percent in June 2014 and falling further to 7.9 percent in September. Not only has investment fallen but the pace of housing sales has declined across all regions of the nation as shown on this graph which shows the percentage of cities (out of China's 70 largest urban areas) with month-over-month house price declines:
Housing sales and starts are looking rather anemic as well but have improved slightly after a very weak first half of 2014 as shown here:
Now, let's take a look at China's household sector. With over 400 million households (401.5 million according to the 2010 population census), and with Chinese consumers household expenditures comprising around 35 percent of GDP, it is relatively important that China's consumers feel confident in their futures. Unfortunately, this is not the case. Here is a graph showing consumer sentiment for employment security and current and future personal finances:
All three measures have been dropping for the past few months. Chinese households are concerned about job security, family finances and the housing market and these concerns have led to higher levels of savings. Perceptions of job security have declined for the past five months which has led to modest spending on automobiles and decelerating retail sales growth rates. The negative economic perceptions by Chinese households is also impacting the real estate market with only 15.6 percent of consumers in October 2014 choosing domestic real estate as the "wisest place for savings", down from 22.1 percent in June 2014.
Let's close with this graph which shows the uses of household income in China and how it has changed since 2007:
Compared to 2007, a substantially higher percentage of income is going into savings because of greater fears of job and income losses, a substantially lower portion of income is going into investments and, particularly over the latest quarter of 2014, a significantly higher portion of household income is going to service debt, the highest level since 2007.
With China's economy being the strongest in the world, a significant decline in its economic performance could have a substantial impact on the world's economy. Europe's economic growth has stalled and the American economy is hardly growing at what would be considered normal inter-recessional rates. If China's economy does continue along its current downhill path, the world's economy could well suffer from a severe case of economic contraction.