The Biggest Reason To Be Bullish On China December 21, 2012Posted by Ishmael Chibvuri in Latest Articles!!!.
Any kind of tool from a new railroad to a new software program can help increase productivity and efficiency. Investments in such tools are called fixed capital formation.
I’m going to show how China has been growing their economy, raising their productivity, strengthening their currency and seeing great improvements in real wages.
These gains should prove to provide strong investment gains in the years ahead as aggregate volume of goods and services translates into higher sales and profits for companies that participate in China’s growth.
Here is a chart showing the amount of money spent by both the U.S. and China on gross fixed capital formation from 1980 to 2011:
Note: Numbers in billions of US$
Note: Blue line is U.S.; Red line is China
In 2009, China spent $2.293 trillion on fixed capital formation. That same year, the U.S. spent $2.210 trillion on capital formation. This was the first time China had out spent the U.S. on capital investments.
By 2011, China spent approximately $3.366 trillion on gross capital formation. This is compared to the U.S. having spent $2.298 trillion in 2011. China had spent a little over $1 trillion more than the U.S. in 2011 on tools that will help them become more productive.
From 2002-2011, the U.S. spent $23.571 trillion on gross capital formation. In that same period, I calculate that China spent $15.480 trillion.
The U.S. had China beat on that 10 year period. But China has clearly taken over as top accumulator of fixed capital in terms of US$’s spent.
In the recent burst in gross capital formation spending, China has received in return:
- Awesome productivity gains in terms of output per hour
- Higher wages
- A stronger currency.
Starting with productivity of labor for China, the annual growth rates during the following periods were:
1996 – 2005 7.1%
2006 – 2010 10.8%
2011 est. 8.8%
2012 est. 7.6%
These gains in productivity are a testament to these capital investments not going to waste. Mal-investment or building empty cities alone would certainly not bring about these types of gains in productivity.
Wage increases have been substantial in China. According to a news report back in May of this year, from China Daily:
"BEIJING – The average annual salaries of urban Chinese workers at
non private companies hit 42,452 yuan ($6,717) in 2011, up 14.3
percent year-on-year, statistical authorities announced Tuesday.
After taking inflation into account, wages actually grew by about 8.5
percent, according to data from the National Bureau of Statistics (NBS).
Meanwhile, the annual salaries of workers at privately-owned
businesses in urban regions grew 12.3 percent (after deducting
factor of inflation) to 24,556 yuan in 2011, NBS data showed."
Wages for Chinese workers are rising far faster than the rate of inflation, thus giving the Chinese more buying power for other goods and services. This is a real virtuous cycle.
Compare this to the U.S. where average weekly earnings growth for all employees in the private sector have mostly remained below the rate of inflation since 2011.
Red bars are the year over year consumer price index and the blue bars are the year over year gain in weekly earnings.
Lower real wages are an economic death spiral. Less goods and services are afforded which in turn causes more unemployment which leads to less overall income and an even greater hit to aggregate demand for goods and services causing even more unemployment.
Lastly, the currency of China, the RMB or Yuan, since 2005, has been allowed to strengthen Vs. the US$.
Beginning in July of 2005, $1 US got 8.27 RMB. Today, $1 US gets just 6.23 RMB and the trend is down.
Here is a chart of the currency exchange since 2000:
If you wanted to buy something in China that costs 100 RMB in June of 2005, it would have cost you $12.09. Today it’ll cost you about $16.07 or 33% more! This includes all those imports we buy from China.
These investments in fixed capital formation are quickly turning a once very unproductive nation into a very productive nation.
Nearly all of China’s growth is coming from gains in productivity Vs gains in overall employment hours. (see pg. 6)
Gains in productivity will continue to be the driving factor for China’s economy.
Where is gets very interesting is what the next 10 years hold compared to the previous 10 years. I already pointed out how much the U.S. spent on fixed capital formation compared to China from 2002 – 2011 and pointed out that we spent more than China but that China has overtaken the U.S. in gross capital formation since 2009.
China spent 46% of their GDP on fixed capital formation in 2010 and 2011, substantially higher than the U.S. which only spend a little over 15% of GDP the last 2 years.
Gross capital formation in the U.S. has collapsed as a percent of GDP since 2009. Below is a chart showing the % of U.S. GDP that is spent on gross capital formation.
China is spending a very high percent of their GDP on fixed investments while the U.S. is spending very little as a percent of their GDP. So China needs to take the percentage rate down and the U.S. needs to take theirs up over the next 10 years.
Taking the figures of gross capital formation from 2011 for each country and growing each by 5% per year for the next 10 years, we get a chart that looks like this:
This is just a ball park guess as to just what the future investment figures are going to look like. I have low expectations of growth in fixed capital spending for China as a percent of GDP and high expectations for the U.S. as we really need to beef up our fixed investment if we are to continue to see gains in productivity.
From 2012-2021, based on the estimates above, the U.S. would spend $30.355 trillion and China would spend $44.460 trillion for a difference of about $15 trillion.
In the event the U.S. fails to improve it’s investment in infrastructure, real estate, utilities, automobiles, tractors and any other fixed asset investment as a percent of GDP, the difference can be even greater putting the Chinese economy that much more competitive to the U.S. economy.
That China is today rolling out its high speed rail network and for example, making their "traveling salesman" substantially more efficient and productive than they were just a few years ago is just a glimpse of what the future holds for China.
Here is an of a recently finished line in Northern China.
That China today is building 30 story hotels in just 15 days is testament to world class engineering and efficiency. Next up is a potential , the worlds tallest, to be completed in just 90 days expected to start early 2013.
China has nearly four times as many people as the U.S.. From the standpoint of GDP per person employed, China’s GDP was just 15.8% of U.S. GDP per person employed.
This is telling to just how much further China has to go before catching up to the U.S..
The biggest reason to be bullish on China is because they have been and continue to invest heavily in gross capital formation that should continue to lead to greater gains in productivity, higher real wages and a stronger currency. This will all lead to higher standards of living and greater consumption of goods and services for the Chinese people.
Investing in China does come with risk. The Shanghai composite is currently bouncing off 3 year lows and the US listed Chinese stocks have mostly been poor to disastrous investments with only a few bright spots.
My take is that this will likely change. China’s stock markets could prove to be the place money flows to as the West deals with its fiscal crisis which will very likely end with sovereign debt crisis beginning as early as next year.
One of the simplest ways to participate is by buying shares of iShares China 25 Index fund (FXI) which consists Chinese large cap stocks.
If the Shanghai composite does begin to shine next year, it may lift the boat on some U.S. listed Chinese stocks that have been so badly beaten over the last three years. Bottom like with investing in individual names however is to do your homework and stay diversified.
Outside of paper investments in China, folks looking to start a business that caters to the new affluent Chinese via tourism in the U.S. or becoming an exporter of U.S. made products and or materials to China may find they will have a promising growth market in the coming decade.
Lastly, nothing wrong with investing in our own household fixed capital formation to beef up our own productivity.