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Can China's spenders lift the world?

[HONG KONG] The Chinese consumer has been one of the most important drivers of the world economy over the past decade, fuelling hopes of prolonged growth and profits. So it's worth looking at what's happening to household balance sheets as Covid-19 wreaks havoc on a population now feeling the downside of growing personal leverage from the boom.

In the last major financial crisis, big-spending Americans were hit hard, but the Chinese found new ways to open their wallets and took the rest of the global economy along for the ride. China accounted for 31 per cent of growth in household consumption between 2010 and 2017, World Bank data shows, bringing its share now to about 10 per cent. That includes around 30 per cent of spending on cars, luxury retail and mobile phones, and hundreds of billions of dollars on travel and tourism.

Chinese consumers are the "single most important thing in the world economy", Jim O'Neill, a former Goldman Sachs Group chief economist, told the Financial Times last year. They could be key to the next 40 years of growth, and it's unlikely that any other country could replace them.

Will they be able to spend away the global economy's gloom this time? They'll have their own worries to deal with first. In the quarter to March, disposable household income shrank sharply for the first time since at least 2013, putting strain on balance sheets in which new forms of credit and financial assets take up a bigger part. Consumer credit – from cards to peer-to-peer loans and other lending – has proliferated in recent years.

A central bank survey showed that around 60 per cent of household assets are parked in real estate; some 97 per cent of liabilities are tied up in bank loans, with mortgages almost 70 per cent of the total. As borrowings and incomes diverge, stresses on individuals and families rise. All told, households owe 63 trillion yuan (S$12.50 trillion), or 65 per cent of gross domestic product, according to CLSA analysts. Leverage is more than 130 per cent of last year's earnings. Adjusted on a GDP (gross domestic product) per capita basis, that puts China among the highest in relation to major countries. The debt service ratio is climbing much faster compared to the US, Australia and Japan.

Spending patterns are changing due to lockdowns, less money and changes in consumer psychology brought by the coronavirus. Online shopping has increased, of course. The gross merchandise value of essentials and goods like home hygiene products has surged. A UBS Evidence Lab survey in April showed that while people were returning to work, 54 per cent of respondents said their incomes had declined, and 60 per cent had reduced offline spending. Fewer than half expected a pay raise soon and just over a quarter planned to reduce their debts. Property purchases were being put on hold.

That austerity is probably a good thing. Early signs already point to trouble. Credit card delinquencies are rising. Consumption loan asset-backed securities are even weaker, with overdue payments rising sharply from 6 per cent in January to over 9 per cent in March. That indicates a deteriorating quality of household balance sheets between prime and weaker borrowers. Non-performing consumer credit is expected to double this year.

Middle-class borrowers have been China's big spenders, but much of the incremental growth was going to come from aspiring buyers trying to enter higher socio-economic strata. Now, they won't quite make it. If they're hurting, who will spend? Goldman analysts point out that in China, not only is the marginal propensity to consume for lower-income urban households greater than for higher earners. It also varies widely with migrant workers spending less than those in cities, even at similar levels of income.

Since China modernised its economy in recent decades, the new generations of consumers have arguably never faced a lesson in crisis management. The shock for them may be greater in some ways than what American households endured circa 2008. So far, delinquencies in the US have held steady. According to the Federal Reserve Bank of New York, first-quarter national non-housing debt was flat, and fell for credit cards. While there is no doubt that US consumer spending will suffer as income insecurity and joblessness rise, a social safety net is in place. China's remains underdeveloped and an unemployment problem is brewing.

How Chinese deal with these pressures will matter. Sure, it's comforting that a large portion of wealth is stashed in hard real estate assets. But a change in property values or prices doesn't really impact consumption of durable goods. What happens when cash flows shrink? The retail spending that the economy needs to revive won't materialise for countless businesses, incomes will continue to decline, and the vicious circle continues. Beijing's stimulus for individuals needs to be more robust.

Whatever a new normal looks like, the individual Chinese spender may no longer be as reliable a part of it. Those looking for a consumption boost may want to turn elsewhere.


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