Look beyond the headline numbers to see China’s economic transformation in progress
China’s rapid structural rebalancing has created polarisations across sectors, industries and markets. A simple average across all is no longer representative of China’s macroeconomic performance.
The notion of having one data metric - like the gross domestic product (GDP) - to capture the performance of an entire economy is becoming increasingly obsolete, particularly for a large, diverse and fast changing economy like China.
The rapid structural rebalancing which China is undertaking has created multifaceted polarisations across sectors, industries and markets. A simple average across all is no longer representative of China’s macroeconomic performance, nor does it do justice to the rebalancing that the economy has achieved.
Take last week’s release of October activity data as an example. Headline growth slowed a tad heading into the fourth quarter, with industrial output, fixed-asset investment and retail sales also losing some steam. But looking beneath these aggregate metrics, a stark divergence was apparent between the “new” and “old” economies.
Within industrial production, mining output declined by 1.3 per cent year-on-year, thanks to Beijing’s efforts to strengthen environmental standards ahead of the winter heating season. At the same time, production of electronic equipment, computers and IT-related products has continued to grow strongly, up 13 per cent relative to a year ago. Such a divergence is one indication that the economy is moving up the value-added chain.
A similar trend is evident in corporate investment. Growth in total fixed-asset investment eased in October, driven by a 2.2 per cent decline in heavy-polluting industries.
However, corporate capital expenditure in hi-tech sectors has continued to climb, up 17 per cent year-on-year. President Xi Jinping’s pledge to foster growth in innovation and cutting-edge technology should ensure that research and development, and hardware investments in these industries will continue to grow at a buoyant pace for years to come.
Finally, changing consumer shopping behaviour has driven an ongoing divergence between online and offline retail sales. The 6 per cent growth registered in offline sales was pale in comparison to the 34 per cent jump in online activities.
Bear in mind that the latter did not include this year’s record Singles’ Day sales from Alibaba Group Holding and JD.com. The November data, which will incorporate those results, is likely to show an even bigger divergence between e-commerce and main street activities.
The bottom line is that China’s rapid economic rebalancing is making many traditional and aggregate data less representative of the macroeconomic reality. More investigations into data granularity are needed to uncover these changing economic structures, and from which, selective investment ideas can be generated.
Another critical determinant of investment success in China is policy reading. Without appreciating the impact of major reforms implemented over the past 12 to 18 months, investors would have a hard time comprehending the movements in many Chinese markets this year.
The sharp rally in the equity market, with the MSCI China Index up by a whopping 51 per cent year-to-date; a turnaround in the renminbi’s value which appreciated 7 per cent against the US dollar; and a dramatic narrowing in capital outflows with China’s foreign exchange reserves rebounding to over US$3.1 trillion are just some of the market moves that few had considered possible 12 months ago.
So what was behind all these market surprises that caught the consensus massively on the wrong foot?
The answer lies in China’s official policies. Beijing has undertaken to tackle some of the fundamental problems in the economy, which have, in our view, led to a recalibration of the reform outlook and hence a repricing in asset markets.
In fact, some of these reforms have already started to generate desirable results. Capacity reduction has turned around industrial prices and corporate profitability; financial deleveraging has stated to curb shadow banking expansion; property de-stocking has restored balance in the housing market, and pollution prevention has gradually improved the environmental sustainability of economic growth.
All of these changes are necessary parts of what will make the economy more balanced and healthy, capable of delivering what people are demanding for a better life.
However, China is not out of the woods yet. We are still decades away from fulfilling Xi’s ambition of building a “beautiful China”. This means economic reforms and rebalancing will continue, creating further divergences between the new and old economies, and more policy-driven market dynamics.
For investors, paying attention to official policies and economic rebalancing will be critical, more so than predicting GDP growth, to ensure investment success in this market.
Aidan Yao is senior emerging Asia economist at AXA Investment Managers