For years, China has publicly professed concern over its slow growth rate of consumption and for years the investment has continued to grow nearly twice as fast. Today investment comprises 48% of Chinese GDP with household consumption a relatively miniscule 36%. Nor does this pattern appear likely to change anytime soon, as fixed asset investment growth continues to chug along around 20% annually, with various measures of consumption growing in the low double digits between 6-13%. Despite the public relations campaign of change this is not economic rebalancing.
Leaving aside whether the government has any intention of rebalancing for the moment, let's consider the difficulty in rebalancing such a deeply unbalanced economy. Let's begin our little exercise by making one pretty realistic assumption: the government plans to keep economic growth about the same rate for the near future.
According to China's national accounts, using World Bank data, Chinese investment is 35% larger than consumption in absolute terms. The enormity of the disparity presents real problems for policy makers in Beijing. Though investment growth has significantly outpaced consumption for many years, to rebalance, this trend must reverse with consumption growing faster than investment.
This is where the problems begin. If we assume that growth remains constant, it implies that if investment slows consumption must grow significantly faster than the slowdown in investment. Because of the much smaller base from which consumption begins (remember it is about a third less than investment in total terms), consumption has to grow significantly faster than investment declines to achieve the same level of GDP growth. In other words, to rebalance and achieve GDP growth targets, consumption cannot just grow a little bit faster but significantly faster, assuming investment declines even a little.
If Chinese consumption grows 3% faster than investment, it would require 10 years just to return to a level where consumption is equal to investment. Should fixed asset investment drop much below its 20% annual growth rate, to maintain stable GDP growth, consumption would need to rise from about 12% to 18%. It seems difficult to expect Chinese consumers to increase consumption 18% annually with housing prices rising so fast.
Despite all the talk about rebalancing, the Chinese economy continues to become increasingly unbalanced. Currently in China, fixed asset investment is growing in China at about 20% annually while retail sales are growing at 13% annually. Nor is the existing evidence encouraging about rebalancing. The China Daily recently wrote:
Local governments in China are still relying on increasing investment during the current half to meet their 2013 GDP growth targets, despite the central government's call for a change indirection from investment to innovation and consumption….The shortfalls prompted a surge in local investment that experts warn may exacerbate the local debt burden and immerse the country again in the consequences of excessive investment.
In other words, the Chinese economy is doing just the opposite of rebalancing, but becoming more and more unbalanced. With disposable income growing at the relatively slow rate of 6.8%, less than real GDP growth, there appears little evidence that Chinese consumers have the ability to drive GDP and rebalance the economy.
However, even this lethargic 6.8% may be overstated. Research from Columbia University economists, Emi Nakamura, found that recent Chinese growth is marked by higher than official inflation and overstated household consumption levels. If the reality of consumption is overstated this further complicates the ability of China to delicately rebalance its economy.
If Beijing truly wants to rebalance its investment heavy economy it cannot continue to rely on a government driven fixed asset investment and credit expansion growing at 20% annually, while consumption grows at half that level. Any economic rebalancing is most likely going to require accepting lower levels of economic growth. Rebalancing the Chinese growth model is going to require all the work of the new leadership.