China’s faltering economic growth and spiralling problems in the property sector, which accounts for around a quarter of GDP, are weighing on equities. Many analysts argue that the country’s long era of rapid growth is over. However, China’s strength in key industries – from artificial intelligence to electric vehicles – suggests careful stock pickers could still find value.
How to Invest in China’s New Era of Slower Growth
China’s faltering recovery
As China began dismantling Covid-19 restrictions late last year, following unprecedented protests across the country, hopes were high that a rebounding Chinese economy would lift global growth. In February 2023, the International Monetary Fund (IMF) forecast that the world’s second-largest economy would expand by 5.2% in 2023, compared with just 3% in 2022. The organisation added, ‘that’s good news for China and the world as the Chinese economy is now expected to contribute a third of global growth this year’. 1
However, the IMF’s economists warned that the factors that led to China’s slowdown, such as an ailing property sector and low productivity, remained in place and could, if left unaddressed, continue to challenge the economy. 2 That warning proved correct as China’s post-Covid recovery lost momentum amid weak consumption, falling exports and a deepening property debt crisis. A slew of monetary and fiscal measures to boost confidence has failed to jumpstart growth.
Economic data in recent months has generally missed expectations and there are concerns that deflation is gaining a grip. China’s headline consumer price index fell by 0.3% on an annual basis in July, to register deflation for the first time in more than two years. Reuters reported that ‘anxiety is rising that China is entering an era of much slower economic growth akin to the period of Japan’s ‘lost decades’, which saw consumer prices and wages stagnate for a generation, a stark contrast to the rapid inflation seen elsewhere’. 3
Senior officials now argue that structural reforms are required. Liu Shijin, a member of the People’s Bank of China’s (PBOC) monetary policy committee, said in September that the country has limited scope to ease monetary policy further given widening interest-rate differentials with the US. He called for demand-side reforms with a focus on giving migrant workers access to public services enjoyed by city dwellers, as well as supply-side reforms that involve igniting entrepreneurship in emerging industries.
Structural problems
China’s problems certainly appear deep-seated, as can clearly be seen in the property sector. Once a key driver of economic growth, accounting for roughly a quarter of GDP, the sector has slumped since 2021, when real-estate giant China Evergrande Group defaulted on its debt obligations following a clampdown on new borrowing.
As of the end of August, the number of vacant homes would be enough to house 3 billion people, almost double China’s 1.4 billion people, according to a former deputy head of the statistics bureau. If that estimate is correct, the government’s attempts to boost the sector appear doomed. Moreover, declining prices and negative equity could weigh on private consumption for many years, underlining concerns about ‘Japanification’.
Slumping birth rate exacerbates economic decline
Indeed, some economists argue that the 40-year era of rapid economic growth – fuelled by rising exports and massive investment in infrastructure and housing – is now over. The Wall Street Journal quoted Adam Tooze, a Columbia University history professor who specialises in economic crises, as saying, ‘We’re witnessing a gearshift in what has been the most dramatic trajectory in economic history’.
That view appears to be gaining traction. The IMF now forecasts that China’s economy will grow by less than 4% per annum on average in the coming years, less than half the average of the past four decades. Meanwhile, Capital Economics, a London-based research firm, estimates that trend growth has slowed to 3%, from 5% in 2019, and will fall to around 2% in 2030. 4
China’s economic growth falls as challenges mount
China’s worsening demographics are another cause for concern. The population shrank last year – the beginning of a long fall that demographers predict will persist for the rest of the century. The National Geographic cites experts as saying that even if the birth rate stabilises, the population will still fall by 50% or more by 2100, ‘when it might be only half as big as India’s and comparable in size to Nigeria’s’. 5
Unsurprisingly, against this gloomy background, foreign investors have fled the country. The Financial Times reports that in August alone, ‘foreign investors (including institutions) dumped a record $12bn of stocks listed in Shanghai and Shenzhen, more than any time since the launch of the stock connect scheme in 2014’. 6 The long-term outlook of declining growth suggests the Chinese stock market, which has trailed other global markets by a significant margin for much of this year, is unlikely to pick up soon.
Bargain prices?
However, some analysts remain bullish, citing the cheapness of Chinese equities. Goldman Sachs believes the MSCI China index and the CSI 300, the largest China A share stocks, trade at 40% and 30% discounts respectively to the average of developed markets and non-China emerging markets. Others cite the strong position of Chinese companies in various industries, from e-commerce to renewable energy, electric vehicles, advanced manufacturing and artificial intelligence. 7 They may well be right, but this also suggests that discretion is required when buying stocks and that buying the index is unlikely to prove fruitful.
Source: 1 https://www.imf.org/en/News/Articles/2023/02/02/cf-chinas-economy-is-rebounding-but-reforms-are-still-needed
2 https://www.imf.org/en/News/Podcasts/All-Podcasts/2023/02/03/china-a4-2023
3 https://www.reuters.com/world/china/chinas-consumer-prices-swing-into-decline-deflation-risks-build-2023-08-09/
4 https://www.reuters.com/world/china/china-cbank-adviser-proposes-structural-reforms-revive-economy-2023-09-24/
5 https://www.nationalgeographic.co.uk/history-and-civilisation/2023/03/chinas-population-is-shrinking-it-faces-a-perilous-future
6 https://www.ft.com/content/7e316b44-75f4-4a1d-ae5c-ef33d5272720
7 https://www.ft.com/content/7e316b44-75f4-4a1d-ae5c-ef33d5272720
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