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An Economist Education live learning event called China’s Growth Outlook:  Challenges to Sustainable Profitability took place May 9, 2012 at 10:00 AM EST.  It was hosted by Paul Lewis, Editorial Director of Economist Education and consisted of a conversation with Duncan Innes-Ker, Senior Editor and Economist for Asia from the Economist Intelligence Unit.  Below is my summary of 10 trends I learned about from this live learning event. 

1.  Current growth rate sustainable in medium term; inflation probably under control

China’s economy is officially the 2^nd largest economy in the world at this point, and will become the largest economy by 2020.   The growth rate for 2012 is estimated to be 8.7%.  This is a certainly a slowdown from the double-digit growth of the preceding decade, but concerns about a “hard landing” have been overblown; growth will probably continue in the 8-9% range for the next 5 years.

There has been a lot of concern about China’s inflation rate based on its tremendous growth rate.   However, the inflation rate is expected to be about 3.7% next year, down from about 5% last year, so it appears that the government has inflation somewhat under control.   The only caveat is that there has been some doubt expressed about the official inflation rate.  The reason is that this is estimated based on a representative sampling or “basket” of consumer goods, and this sampling may not be keeping pace with the rapid change in consumer preferences that has been occurring with the emerging middle class (see trend number 3 below)

2.  China’s economic center of gravity shifts westward

The East coast of China is obviously the most developed; average earnings per person are about $4000-$5000.   But the interior provinces are being developed, and earnings will approach the East coast level by the end of the next five-year period.   Export manufacturers may take advantage of the infrastructure buildup that was done during the period after the financial crisis.   This may ease the current mismatch between supply and demand in the housing and commercial construction market (see trend number 9 below).

3.   Middle class expanding, generational shift occurring

The expansion of the middle class means that there is increasing pressure on the government in areas relating to labor issues and the environment.   The expansion of the middle class also comes with the growing economic power of the younger generation.   The previous generation in China was very averse to taking on debt, but the younger generation does not have any such compunction, so this shift in attitudes plus the growth of the middle class mentioned above will mean a growth in private debt and consumer financing.

4.  Trade deficit starts to shrink, appreciation of currency continues

There is pressure from foreign governments for China to depreciate its currency and thus slow its export growth; however, from China’s point of view, there is pressure to appreciate its currency because of the tremendous gains in productivity that have been occurring and will continue to occur.

The shift of China’s economy from a concentration on exports to the domestic market will cause the external trade imbalance to shrink in the next five years, and the demands by foreign governments for depreciation of the Chinese currency renminbi should also shrink.

5.  Reform of state sector is increasing government priority

Those in the government that are pushing for reform of the state sector are getting increasing hold of the policy agenda.   For those wanting a good overall pattern of the direction the Chinese economy is taking, the national budget plans are a good place to start but they are pretty vague.  Once you get into details, however, here is increasing likelihood that the government will deviate from these plans.

6.  Increasing focus on quality

For example, the electric vehicle industry was projected to be a growth industry in China, partially because it got the backing from the government as one of 7 strategic industries.  However, electric battery production hit several obstacles, mainly due to the Chinese problems with quality control and quality volume (capacity).   China is determined to move up the chain when it comes to quality.

7.  IP still problem for foreign manufacturers, but outlook improving

Foreign manufacturers need to be sure to register patents locally, and to try to innovate to stay ahead of Chinese domestic competition.   There is increasing legal protection for patents in China.   A survey of the American Chamber of Commerce in China said that about 2/3 of the participants who had taken their patent cases to Chinese courts were satisfied with the outcome.   However, although there is increasing legal protection, enforcement is still not uniform and remains a problem.

8.  Skilled labor shortage decreasing

There is no shortage of unskilled labor in China, but there was a skilled labor shortage, mainly due to the fact that the skills of graduates of higher education in China were not in line with the requirements of foreign companies.   However, this mismatch has been addressed in three ways:  1) having in-house training, 2) moving facilities closer to cities that have more high-tech centers like Xian, and 3) greater coordination between businesses and higher education centers to address training needs.   The first method is obviously the most expensive in the short-run, and it is being steadily replaced by the latter two.

9.  Housing prices trend hard to predict

There has been a huge oversupply of residential and commercial construction in China; to put it in perspective, China has been building the equivalent of the entire housing stock of Spain each year.   On the other hand, the increasing demand for housing as factories move production inland from the coast may help to mitigate this mismatch between supply and demand.   Of all the trends mentioned in the program, the outcome of this one is probably the hardest to predict.

10.  Increasing use of internet

The increasing penetration of cell phones, computers, and particularly the internet mean that one of the biggest overlooked potentials for growth in China is that of e-commerce.

These trends show that China has tremendous potential for growth for companies, but that the political, legal and economic landscape is constantly changing, so companies must do their best to keep up.   In my opinion, this Economist Education event was extremely helpful in this regard.

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