Why China's Oil Consumption Will Continue To Grow

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Includes: CHN, CN, CXSE, FCA, FXI, FXP, GCH, GXC, JFC, MCHI, PGJ, TDF, XPP, YANG, YAO, YINN, YXI
by: Disruptive Investor

China's GDP growth has been sluggish, and I am of the opinion that even if the country grows at 5% for the next decade, the growth can be termed as good for an economy that is gradually transitioning from production and manufacturing to consumption.

China's sluggish growth has impacted commodity producers significantly, and industrial commodities have largely remained depressed since its economic growth started to moderate. Oil has been depressed for different reasons, but it's important to investigate if oil demand growth will be impacted, assuming that China's economic growth is below 5% for the next decade.

Before discussing that point, I want to mention here that China is a big economy, and it is entirely likely that some sectors can be in recession or slowdown, while other sectors witness strong growth. Therefore, even if the manufacturing sector remains depressed for the next decade, there can potentially be other sectors boosting the economy and propelling demand growth for oil.

The chart below that shows China's oil demand from different industries puts things into perspective.

Click to enlarge

With 42.1% of the crude oil demand for China coming from the transport sector (road and air), the consumer-driven segment is the key growth driver for oil demand. Further, the 14.9% commercial heating demand includes industry and consumer. Therefore, China's oil demand is not specifically driven by industrial growth. In the coming years, it is likely to be the consumer sector that will boost per capita consumption of oil in the country.

With the transport segment likely to be the key demand driver, further investigation is needed on the growth prospects for the airline and automobile sector in China.

According to IATA, China is expected to overtake the United States as the world's largest passenger market by 2029. In 2034, the country will account for some 1.19 billion passengers, 758 million more than 2014, with an average annual growth rate of 5.2%.

With this outlook, there is little doubt that the aviation sector will boost demand for oil in the coming years.

According to another estimate for the period 2015-2034, Airbus (OTCPK:EADSF) expects traffic between emerging markets to grow at 6.6% AAGR, and advanced to emerging market traffic flow is also likely to grow by 5.0%.

Coming to the automobile sector, the prospects remain bright for the long term, and according to the report by EUSME Centre and China-Britain Business Council, China's vehicle sale for 2014 was robust at 7.35 on a year-on-year basis.

The report also states that by the end of 2014, vehicle ownership per 1,000 people was 105 units, but this is still below global average of 140 units. In several European countries, the rate is 550-600 per 1,000 people.

Clearly, the automobile sector also has potential for the long term and is likely to drive incremental demand for oil. When Jaguar Land Rover reported best-ever sales for January 2016, the company's sales for China were up by 5%, and this is good considering the economic headwinds the country is facing.

Besides the consumption factor, China's strategic reserves growth will be another factor that will keep demand for oil robust. According to The Wall Street Journal, the country reached strategic reserves of 191 million barrels by mid-2015, and it targets 500 million barrels of oil reserve by 2020. It is likely that the storage ramp-up plan will be delayed beyond 2020, but it still ensures steady oil demand.

In conclusion, China's demand for oil is likely to increase in the coming years, and even if its GDP growth is around 5%, the consumer sector will drive demand for oil. It is important to mention here that China and India are home to 2.5 billion people, and per capita consumption of oil in these two countries is still below the global average. If these Asian giants continue to grow, this is more than enough reason to back the thesis on oil trending higher in the next decade.