China moves ahead with its economic rebalancing

Consumption-based economy eyed

Prepared by Camille Accad

China’s plans to become a consumption and service based economy are progressing rapidly. In the 2000s, growth was fuelled by a surge in fixed asset investments and exports, resulting in strong industrial growth.

Services remained less important than the industrial sector. Since the global financial crisis, services has become a more important sector: first because industrial activity related to exports decelerated sharply amid weak global demand, and second as a result of important economic reforms.

For the first time in history, services account for more than half of the economy, with the gross domestic product (GDP) share at 51.7 percent in the third quarter of this year compared with around 45 percent before the financial crisis.

Within that period, the industrial sector’s share of GDP fell from over 45 percent to 41.0 percent. While the industrial sector has accounted for around 45 percent of GDP since the 1970s, the services sector came from as low as 36.6 percent two decades ago and 22.5 percent in 1975.

The latest purchasing managers’ index (PMI) figures suggest this trend is continuing in the fourth quarter. PMI, a survey about the conditions of the manufacturing and non-manufacturing sectors, is published by the National Bureau of Statistics of China (NBS) and Markit/Caixin on a monthly basis.

Both sets of PMIs point to the same information: first, that services expanded at a faster pace than manufacturing in October; second, that the services sector has been growing faster than manufacturing for most of the last five years, outpaced only once in the last four years; and third, that all four PMIs have been trending down this year. According to PMI, the economy is decelerating and services is gaining a greater share of the economy.

China’s quest for sustainable growth will result with slower growth in the short-term. The country’s leaders met in the fifth plenum of the 18th Party Congress on Oct 29 where they discussed the country’s 13th Five-Year Plan that will shape the economic course of 2016-2020. The plenum confirmed the leaders’ willingness to diversify away from exports and industry to a more consumption and services focused economic model.

Moreover, the fifth plenum acknowledged for the first time that the annual growth rate would have to fall to at least 6.5 percent, the lowest growth target yet. Important reforms that will speed up the transition have been introduced in the last five years, including the opening of the stock market, the liberalization of interest rates and the partial deregulation of the currency.

Within the upcoming five years, the current leadership will likely introduce more important economic reforms that will restrain the role of state-owned enterprises (SOE), reduce capital controls and strengthen the country’s social security system. Chinese household consumption and private sector activity will increasingly contribute to China’s economic growth.

China’s industrial slowdown has a global impact. Lower energy demand for industrial purposes will hurt energy exporters such as in the Gulf. This will have a similar effect on other commodity exporters. However, the gap left in industry offers opportunities for less developed economies such as in Southeast Asia to take over China’s role. Moving towards a consumerintensive economic model will also support these markets.

A stronger Chinese consumer base will result in greater energy demand for consumption purposes, such as for vehicles and housing utilities, strengthening the Gulf’s role as China’s energy supplier. The role of the newly industrialized Southeast Asian economies will also gain importance as they supply China’s growing consumer sector. Overall, the success of China’s transition from an industrial-focused economy to a consumptionbased one will be crucial to the rest of Asia and the Gulf.