China‟s Two Economies
Contributing Analysts
Uwe Parpart +852 2843 1474
[email protected]
David Goldman +852 5328 3360
[email protected]
Steve Wang +852 2843 1464
[email protected]
Victor Kwan +852 2843 1480
[email protected]
CHINA‟S STORY CHINA‟S STORY IS CREATIVE DESTRUCTION – THE DESTRUCTION OF ONE CHINA AND THE CONSTRUCTION OF ANOTHER • Mao leveled the old imperial culture and empowered the peasants • Deng destroyed the countryside through mass migration and the One Child Policy, in favor of an urban smokestack, export economy • Xi‟s new government is tearing down large parts of the old smokestack economy and building a tech-based, consumption-oriented economy • Any snapshot of the Chinese economy captures two different things: the destruction of the old and building of the new • Aggregate GDP data don‟t capture the transformations now in progress • We drill down into the details to assemble a portrait of the emerging China
2
3
CHINA‟S TRANSFORMATION
CHINA‟S CURRENT ECONOMIC GROWTH REMAINS ROBUST
4
Import data are a good cross-check on China‟s GDP. Iron ore imports jumped in Q4 2013 and maintained this level during 2014. Crude oil imports in the 1Q totaled 74.72 Mt, +8.3% from 1Q 2013, in-line with the pace of economic expansion Mn Tonnes
Mn Tonnes
100.00
30.00 23.52
90.00
73.96 25.00
80.00 70.00
20.00
60.00 50.00
15.00
40.00 10.00
30.00 20.00
5.00
10.00 0.00
Imports of Iron Ore
0.00
Source: Customs
Imports of Crude Oil
Source: Customs
5 BUT GROWTH IS SHIFTING AWAY FROM PROCESSING EXPORTS BASED ON CHEAP LABOR
Academics, analysts and noted short sellers have repeatedly forecast the coming collapse of the Chinese economy. What is collapsing is China‟s old economy of cheap-labor based exports General Trade
Processing Trade
60.0%
55.0%
50.0%
45.0%
40.0%
35.0%
30.0%
Trade as % of Foreign Trade
Source: China Customs
SHRINKING LABOR RESERVE FROM RURAL SECTOR
6
…but China‟s access to cheap labor overseas allows it to shift to higher-value-added production at home mn
Total Population
Rural
Urban
1,600 1,400 1,200 1,000 800 600 400 200 0
China Total Population
Source: NBS
GDP GROWTH SHIFTS TO DOMESTIC CONSUMPTION
7
The transformational economic policies outlined in the 11th Five Year plan were specified further in the 12th Plan (2011-2015) with emphasis on “higher quality” and “inclusiveness” (narrowing of wealth gap) growth, a shift up the value-added chain in industry, and higher domestic consumption 25.0%
100.0%
20.0%
50.0%
15.0%
0.0%
10.0%
-50.0%
5.0%
-100.0%
0.0%
-150.0%
-5.0%
-10.0%
Contributions to GDP Growth
Net Exports Contribution Investment Contribution Consumption Contribution Consumption as % of GDP Contribution (RHS)
-200.0%
-250.0%
Source: NBS
CHINA'S 12TH FIVE-YEAR PLAN TARGETS 47% SERVICES GDP CONTRIBUTION
8
Sectors such as energy, automotive, IT infrastructure and biotechnology are in focus. The service sector (43.3% of GDP in the 11th plan period) is to grow to 47% of GDP 55.0% 50.0% 47% 45.0% 43% 40.0% 35.0%
36% 33%
30.0% 25.0%
Service Sector as % of GDP Growth China's Economic Planning Target
20.0%
China Service Sector Contribution and Target
Source: NBS
ANTI-CORRUPTION CAMPAIGN
9
Wang Qishan, Politburo Standing Committee member and Secretary of the Central Commission for Discipline Inspection (CCDI), China‟s top anti-graft watchdog, has led the anti-corruption battle since taking charge in November 2012. Behind scenes political corrupted mastermind is rumored to be Zhou Yongkang, former Politburo Standing Committee member for 2007-2012
Zhou Yongkang
Source: Politics People
Who‟s Next
Source: Politics People
DEATH SENTENCES
10
Liu Han (Left) was the ex-chairman of the Chinese energy conglomerate, Sichuan Hanlong Group. He was sentenced to death for crimes including murder and leading an organized crime group. Liu Wei (Right), Liu Han‟s younger brother, received the same sentence. The Liu brothers and their associates have been charged with 15 crimes, including murder, assault, illegal detention, blackmail and operating casinos
Liu Han
Source: China Hubei
Liu Wei
Source: China Hubei
WANG QISHAN CLEANS HOUSE
11
2012 was a year of political transition from the Hu/Wen to the Xi/Li leadership. On the political side, the fight against corruption was given top priority. On the economic policy side, Premier Li has emphasized market and private sector driven reforms and accelerated urbanization as key economic drivers
24 provincial officials
23 vice provincial officials
204 prefecture officials and above
3,003 county officials and above
49,579 government officials
“TIGERS” UNDER INVESTIGATION WITHIN THE COMMUNIST PARTY
12
General Secretary
Communist Party of China (CPC)
Central Committee
Standing Committee
Zhou Yongkang* Former member *rumored
Central Commission for Discipline Inspection
Central Military Commission
Political Bureau
Secretariat
Xu Caihou Former Secretary
Power Construction Corporation
State Owned China Resources
Central Compilation & Translation Bureau
Association for Science and Technology
Huang Baodong Manager /Secretary
Song Lin Chairman/Secretary
Yi Junqing Bureau Chief
Shen Weichen Group Leader
CHINA MOVES UP THE VALUE ADDED SPECTRUM China‟s transformation is unique: forget the BRIC story and look at China as a special case • Income growth by far the world‟s fastest
• Urbanization • Agricultural productivity approaching US levels • Tech capacity (twice as many science/engineering PhD‟s per year as the US) (74.8% in China vs. 34.0% in US) • R&D spending as % of GDP at European levels • Major high tech accomplishments (world leader in supercomputing and DNA sequencing, and a challenger in chip production, robotics and aerospace)
13
TWO STAGE ROCKET
14
STAGE 1: SHIFT WORKFORCE TO MANUFACTURING AND RAISE FARM PRODUCTIVITY • Low-wage, export model • State allocation of credit with enormous inefficiencies and corruption
STAGE 2: SHIFT TO HIGH-VALUE-ADDED MANUFACTURING AND GROWTH • Consumption growth leads economy, not profits (reduces excess saving by corporate sector) • Freeing of interest rates • Two-way flow of investment leading to convertibility of yuan • Defense and military high tech shift to private sector • China creates its own new markets and sources of labor: Build-out of “New Silk Road” infrastructure (high-speed rail and high-speed broadband from Beijing to Istanbul in the west and to Bangkok, Singapore and Yangon in the south)
GDP PER EMPLOYEE (CONSTANT 1990 DOLLARS AT PPP)
15
China‟s GDP per worker has just overtaken Brazil
US$ 70,000 United States
60,000 50,000 40,000
OECD members High income European Union Turkey
30,000 China
20,000
Brazil
10,000
Middle income Low income
0
GDP Per Employee (Constant 1990 Dollars at Purchasing Power Parity)
Source: World Bank
HOUSEHOLD CONSUMPTION
16
1,600 1,500 1,400
China Indonesia
1,300 1,200
Malaysia
1,100 1986=100
1,000 900
Turkey India
800 700 600
Middle income Low & middle income
500 400
Upper middle income
300 200 100
Mexico Brazil
0
Household Final Consumption Spending (Current Dollars at Purchasing Power Parity)
Source: World Bank
GDP PER EMPLOYEE (CONSTANT PPP BASIS)
17
The growth rate of GDP per worker is much faster than any other country
600.0 China
550.0 India
500.0 Middle income
450.0 1991 = 100
Turkey
400.0 Low income
350.0 United States
300.0 250.0 200.0 150.0 100.0
GDP/Employee (Constant PPP Basis)
High income OECD members European Union Brazil
Source: World Bank
AGRICULTURAL PRODUCTIVITY COMPARABLE TO EU
18
8,000 United States
7,000 China
6,000 European Union
5,000 High income
4,000 Brazil
3,000 Middle income
2,000 Lower middle income
1,000 Low income
0
Kilograms of Cereal per Hectare
Source: Food and Agriculture Organization
CHINA MANUFACTURING GDP PER WORKER
19
Industrial productivity has risen 500% since 1995 (vs. 80% in the United States)
RMB
Manufacturing GDP per Worker
120,000
Annual Growth
% y-o-y 40% 35%
100,000
30% 25%
80,000
20% 15%
60,000 10% 40,000
5% 0%
20,000
-5% -10%
0
Manufacturing GDP per worker and Annual Growth
-15%
Source: NBS
CHINA WAGES VS. PROFITS GROWTH
20
Fast wage growth suppresses profits
% y-o-y 100.0
Profit Growth
Wage Growth (RHS)
% y-o-y 20.0 18.0
80.0
60.0
16.0 14.0 12.0
40.0
10.0 8.0
20.0
0.0
6.0 4.0
2.0 -20.0
Profit Growth vs. Wage Growth
0.0
Source: NBS
US PROFITS VS. HOURLY EARNINGS
21
The US is the opposite: Slow wage growth supports profits
% y-o-y 140%
Profit Growth
Wage Growth
% y-o-y 6%
Profits, GDP Basis
100%
80%
5%
4%
60% 40%
3%
20% 0% -20%
2%
1%
Private Sector Hourly Earnings
120%
-40% -60%
US Profits vs. Hourly Earnings
0%
Source: BLS
URBANIZATION APPROACHES INDUSTRIALIZED NATION LEVELS
22
90.0% Brazil
80.0% High income
70.0% 60.0%
European Union
50.0%
Russian Federation
40.0%
China
30.0% 20.0%
Middle income India
10.0% Low income
0.0%
Percent of Urban Population
Source: World Bank
GROWTH SHIFTS TO CONSUMPTION
23
Sharp m-o-m expansion in industrial production and retail sales in March pushed 1Q GDP to a 7.4% annual growth rate, above the consensus forecast. Capex decelerated, especially in real estate. That is consistent with our forecast of a shift towards consumption-driven growth, away from the cheap-credit fueled investment-led boom % y-o-y
Investment
Consumption
Net Exports
Actual GDP
10.0 7.9%
7.6% 7.4%
7.9%
% YTD y-o-y 22.0 7.4%
2.3
6.0 4.9
3.9
Investment in Real Estate
7.7% 7.5% 7.8% 7.7%
8.0 2.6
Total FAI
4.7
4.0
4.0
2.2
21.0
20.0
19.8 19.3
5.7 19.0
19.6
4.0 4.3
6.1 2.0 3.0
3.7
4.6
3.6
3.7
17.0
2.7
-2.0
-0.2
0.4
-0.8
16.8 0.6
1.1 -0.9
17.9 17.6
4.5
0.0 -0.3
18.0
-0.5
-0.8
16.0 15.0
1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 1Q14
GDP Expenditure Components
Source: NBS, REORIENT
FAI: Total vs. Real Estate
Source: NBS
TOTAL AUTO SALES: CHINA VS. US
24
China‟s auto sales growth was not interrupted by the financial crisis of 2008, unlike the US
mn units
US
China
25
20
15
10
5
0 2005
Total Auto Sales
2006
2007
2008
2009
2010
2011
2012
2013
Source: China Automotive Information Net, Bloomberg
R&D SPENDING AS PERCENTAGE OF GDP
25
China‟s R&D spending as a % of GDP is now on par with the EC
3.0% United States 2.5% OECD members 2.0% European Union 1.5%
China 1.0% Russian Federation 0.5% Turkey 0.0%
Gross Domestic Expenditure on R&D as % of GDP
Source: World Bank
DEFENSE R&D LED US PRODUCTIVITY GROWTH
26
Defense R&D spending led US productivity growth in the past
4.0% 3.5%
Productivity Growth (5 Year Average, Lagged 5 Years)
120
Defense R&D Spending in Constant Dollars (2005 = 100) 100
3.0% 80 2.5% 2.0%
60
1.5% 40 1.0% 20 0.5% 0.0%
Productivity Growth vs. Military R&D Spending
0
Source: U.S. Bureau of Economic Analysis
CHINA EMULATES THE US DEFENSE-DRIVER MODEL
27
• “Beijing presses ahead with an ambitious program to privatize most of a vast arms industry employing more than a million workers at more than 1,000 state-owned enterprises. The long-term goal is to transform some of the leading contractors, such as China State Shipbuilding Corporation (CSSC), Aviation Industry Corporation of China (AVIC) and China Aerospace Science and Industry Corporation into homegrown versions of American giants Lockheed Martin and Northrop Grumman or Britain's BAE Systems.” (Reuters 9/16/2012) • “The Chinese have aggressively pursued a dual-use R&D strategy that stresses the development of advanced civilian technologies – particularly in the areas of electronics and information technologies, aviation, space launch vehicles, satellites, and advanced manufacturing – that can be spun off to defense products and production. Over the past decade, Beijing has worked hard both to encourage further domestic development and growth in these sectors and to expand linkages and collaboration between China‟s MIC and civilian high-technology sectors – and it appears to be paying dividends.” (Richard Bitzinger, 2008) • “China allows private investment in army equipment - China will open its defense sector to private enterprises by relaxing market access for military products. Concrete measures will include lowering market access requirements, reducing approval procedures, improving the pricing mechanism for military products and taxation policy, according to the People's Liberation Army's General Armament Department. The department said it will open a website for military procurement, regularly publicizing information on the demand for weapons and other equipment. It will strive to ensure fair market competition to encourage private enterprise to participate in the research, production and maintenance of military equipment. China began addressing private investment in defense sector in 2010 and pledged equal treatment to private investors in the industries and state-owned military enterprises in a 2012 guideline.” (China Daily 5/30/2014)
TECH DRIVERS OF CHINESE GROWTH
28
• China will have the most industrial robots of any country by 2014 (Booz Allen)
• Tianhe-2 is the world‟s fastest supercomputer • Beijing Genomics Institute has the world‟s largest DNA sequencing capacity • China had 505 million internet users in 2011 and expects e-commerce to double between 2012 and 2015 • China sold its first CNC machine tool to Germany in July 2013 • Satellites: “Starting from almost no live surveillance capability 10 years ago, today the PLA has likely equaled the US‟s ability to observe targets from space for some real-time operations.” (World Security Institute)
PHD‟S PER YEAR
29
China awards as many PhDs as the US, but twice as many in science and engineering
Number of Degrees Literature, 0.8%
55,000 US
Art, 1.6%
China
50,000 Administrators, 1.6%
45,000
Philosophy, 0.8%
History, 0.5%
Law, 3.5%
40,000
Economics, 5.0%
35,000
Agriculture, 6.2%
30,000 25,000
Science, 42.1%
Medicine, 6.3%
20,000 15,000 Source: China MOE, NSF Survey of Earned Doctorates
Engineering, 31.6%
10,000
PhD Degrees Awarded Per Year
2012 Breakdown of Chinese PhD Degrees
Source: China MOE
CHINA‟S LEAPFROG INTO E-FINANCE
30
China‟s fast-expanding Internet duo Alibaba and Tencent told the world they plan to compete with the big state-owned banks through their online-based payment platforms. The idea is to bypass the traditional bank payment infrastructure now monopolized by China UnionPay, which is held by a consortium by 85 Chinese banks
Making An Alipay Payment By Scanning A Barcode
Source: Xinhua
Guangzhou 7-Eleven To Allow Barcode Registry Check-out
Source: PC Online
INTERNET GIANTS TRANSFORM FINANCE
31
Alibaba‟s Yuebao money-market fund became the world‟s third largest within months. Technology is driving financial reform. Integration of e-commerce and e-finance will shift credit provision away from the chaotic Shadow Banking market into a transparent and information-rich Internet environment with real-time credit rating and flexible financing options RMB bn
AUM
No. of Funds (RHS)
1,800
180
1,600
160
1,400
140
1,200
120
1,000
100
800
80
600
60
400
40
200
20
0
Money Market Funds in China
0
Source: Wind
CYBER WORLD
32
As an illustration of the challenge to the banks, China's online and mobile payment transactions increased last year by 47% to RMB5.37 trn. Banks have responded by offering online payment options and wealth management products
Payment Turnover
RMB bn 25,000
100.1%
% y-o-y
118.1% 66.0%
46.8%
41.6%
39.9%
35.9%
20,000
30.7% 18,480
14,144
15,000
10,407 10,000 7,437
5,373 5,000
3,659 2,204 1,010
0 2010
2011
2012
2010-2017 China Online Third Party Payment Turnover
2013E
2014E
2015E
2016E
2017E Source: iResearch
BROADBAND CHINA STRATEGY
33
2012 – 2013: Period of all-round acceleration 2014 – 2015: Period of promotion and popularization 2016 – 2020: Period of optimization and upgrading
Million People
Fixed Broadband
3G/LTE
1,400
%
Fixed Broadband
3G/LTE
90.0
80.0
1,200
70.0 1,000 60.0 800
50.0
600
40.0 30.0
400 20.0 200
10.0
0
0.0 2013
2015E
Number Of Users for Broadband Access
2020E Source: Chinese Govt
2013
Penetration Rate
2015E
2020E Source: Chinese Govt
ELECTRONICS SURPASSES STEEL AS CHINA‟S LARGEST INDUSTRIAL SECTOR
34
For the first time technology companies surpassed the steel industry in aggregate, a continuing sign that the smokestack-and-cheap-labor regime that the Xi government wants to replace and the tech-andservice model it wants to introduce is working RMB bn
RMB bn
Steel Smelting 7,090; 7.7%
Electronics 7,723; 7.5%
Electronics
Chemical
6,917; 7.6%
7,633; 7.4%
Chemical
Steel Smelting
6,667; 7.3%
Others 37,851; 41.3%
7,632; 7.4%
Electrical Equipment
Others
5,329; 5.8%
42,279; 41.1%
Electrical Equipment 6,102; 5.9%
Power Automobiles
5,177; 5.7%
6,054; 5.9%
Agri-Food Processing
Agri-Food Processing
5,134; 5.6%
5,950; 5.8%
Automobile Oil Refinery 3,985; 4.4%
5,053; 5.5%
Non-Ferrous Non-metallic Metals Mineral 4,068; 4.4%
2012 Industrial Revenue
Power
General Machinery 4,279; 4.2%
4,319; 4.7%
5,483; 5.3%
Non-Ferrous Non-metallic Metals Mineral 4,654; 4.5%
Source: NBS
2013 Industrial Revenue
5,128; 5.0%
Source: NBS
COMPONENTS OF CHINA INNOVATION INDEX Significant efforts have gone into raising productivity
300 280
Patents per 10,000 R&D Personnel
260
Labor Productivity
240
R&D Personnel Per 10,000 People
220
% Workers With Higher Education
200 180
Per Capita GDP
160 140
Sci-Tech Papers per 10,000 people
120
R&D as % of GDP
100 2005
2006
2007
China Innovation Index Components
2008
2009
2010
2011
2012 Source: NBS
35
CHINA EXPANDS HIGH-SPEED RAILWAYS
36
On a single day, Dec. 28, 2013, China opened an unprecedented six new high-speed railway links spanning nearly 2,000km, pushing its total of high-speed track to more than 12,000 km. China is becoming the world‟s leader in global high-speed service
Track Length (Kilometers) 20,000
Throughput (Mn People)
Intercity Rail Links "4+4" National Grid High-Speed Rail % Total Tracks
18,000
12th-Five Year Target
▪
50% 45%
Forecast
16,000
4,000
100%
High-Speed Rail Other Rail High-Speed Rail % Volume
3,500
90% 12th-Five Year Target
40%
3,000 14,000
35%
12,000
30%
10,000
25%
8,000
20%
6,000
15%
▪
Forecast
80% 70%
2,500
60%
2,000
50% 40%
1,500
30% 1,000
4,000
10%
2,000
5%
0
0% 2008
2009
2010
2011
2012
2013
2014
2015
High-Speed Railway Operation in China Source: NBS, REORIENT
20% 500
10%
0
0%
2008
2009
2010
2011
Railway Passenger Volume
2012
2013
2014
2015
Source: NBS, REORIENT
PREMIER LI PUSHES RAILWAY EXPORTS 2014 is very possibly the year that China inks its first overseas high-speed railway deal. The sale would be a major triumph for Premier Li Keqiang, who has been busy on the road promoting the Chinese system
37
“NEW SILK ROAD” IS A GAME-CHANGER
38
2014 is likely the year that China signs its first overseas high-speed railway deal. China‟s “New Silk Road” opens new markets for high-value-added exports and links China to new sources of energy, food, and inexpensive manufacturing labor
Source: Xinhua
39
CHINA‟S MARKETS AND FINANCIAL SYSTEM
CENTRAL BANK LEARNS TO MANAGE THE EXCHANGE RATE
40
A steadily appreciating yuan encouraged a carry trade that distorted trade numbers and monetary aggregates. China‟s central bank now aims for constructive ambiguity. A weaker RMB in early 2014 flushed out the carry trade and encouraged corporations to adopt FX hedging techniques USD/CNY
USD/SGD (RHS)
8.4
1.8 1.7
7.9 1.6 7.4
1.5 1.4
6.9
1.3 6.4 1.2 5.9
CNY and SGD against USD
1.1
Source: Bloomberg
STOCK THROUGH-TRAIN BY OCTOBER
41
Mutual market connectivity between Shanghai and Hong Kong, or what we call the “northbound and southbound stock through-trains,” is to be officially launched by October. This marks another key milestone en route to full capital account liberalization. The added cross-flow of capitals will bring the next phase of international financial access to onshore and offshore investors
USD bn 100 90 80 70 60 50 40 30 20 10 0
QDII Quota
Approved Quota
USD bn 86.6
Source: SAFE
160 140 120 100 80 60 40 20 0
QFII Quota
Maximum Quota Approved Quota
RMB bn 150.0
300
Maximum Quota Approved Quota 270.0
250 200
200.5
150 53.6
100 50
0
Source: SAFE
RQFII Quota
Quota to trade in Shanghai: RMB300 bn total, RMB13.0 bn daily (net position) Quota to trade in Hong Kong: RMB250 bn total, RMB10.5 bn daily (net position) Stocks to trade in Shanghai: Shanghai 180, Shanghai 380, A+H stocks Stocks to trade in Hong Kong: Hang Seng Large Cap, Hang Seng Mid Cap, A+H stocks
Source: SAFE
12-MONTH EQUITY PRICE CHANGE TO MARCH 31 42 High-tech stocks are booming while stocks that embody the old China model languish. This is extremely important because it shows that Chinese private investors are sponsoring the shift up the value added spectrum
Sectors (Members)
-40.0%
-30.0%
-20.0%
-10.0%
0.0%
10.0%
20.0%
30.0%
40.0%
50.0%
60.0%
70.0%
Software & Services (17)
Consumer Services (16) Semiconductors & Equipment (11) Tech Hardware & Equipment (37) Health Care Equipment & Services (9) Transportation (63) Retailing (47) Automobiles & Components (39) Real Estate (83) Insurance (4)
Capital Goods (190) Commercial & Professional Services (6) Pharmaceuticals (51) Utilities (49) Materials (180) Banks (14) Diversified Financials (13) Energy (31)
Source: Bloomberg
DISTRIBUTION OF EQUITY RETURNS (YEAR TO MAY 31)
43
If macro risk were China‟s big problem, we would see returns clustered around the mean. But the opposite is the case: there are many things going on, not one big thing 30% US
India
China
Percent of Observations
25%
20%
15%
10%
5%
0%
One Year Price Change
Distribution of Equity Returns (12 Months to May 31)
Source: Bloomberg
FINANCIAL REFORM AGENDA
44
• Liberalize deposit rates and eliminate re-lending to shadow banks (comparable to lifting of Regulation Q in the US in 1982) • Clean up NPLs in unregulated banking (comparable to America‟s S&L restructuring during the 1980s) • Interest rate liberalization is a precondition for renminbi convertibility
STEPS TOWARD FINANCIAL REFORM • “China could accomplish basic or partial renminbi capital account convertibility in a few years… In another couple of years, China could announce full capital account convertibility of the renminbi.” – Guan Tao, State Administration of Foreign Exchange, July 3, 2013 • China eliminates floor on bank lending rates July 20 • China removes cap on life insurance lending rates August 5 • More important and more challenging: lifting the cap on deposit rates
45
CHINA‟S CREDIT SUPPLY AND MONEY SUPPLY
46
New loans remained at a steady level since the 2009 and 2010 surge. Excessive credit growth has been brought under control. PBOC 2014 credit policy guidelines: stronger support for economic reorientation and the development of selected strategic and emerging industries against an engineered pullback of unfavorable businesses. Real estate credit policy discourages secondary market speculation in the interests of first-time home buyers % y-o-y
Bank Lending
Broad Money M2
RMB bn
New Yuan Loans (3-mths Simple Moving Avg) New Loans/GDP
40.0%
1,800
5.0%
35.0%
1,600
4.5%
1,400
30.0%
1,200 25.0%
4.0% 3.5% 3.0%
1,000 2.5%
20.0% 800
2.0%
15.0%
600
10.0%
400
1.5% 1.0%
5.0%
200
0.5%
0.0%
0
0.0%
China Money Supply and Bank Lending
Source: PBOC
New Yuan Loans vs. GDP
Source: PBOC, REORIENT
JUNE 2013 INTERBANK LIQUIDITY SQUEEZE
47
New economy sectors surge and old economy underperforms
180.00
12.00%
160.00
10.00%
140.00 8.00% 120.00
May 31, 2013 =100
Overnight Repo Rate (RHS) Software & Services (17) Media (13) Real Estate (83)
6.00% Pharmaceuticals, Biotech & Life Sciences (51)
100.00 4.00% 80.00 60.00
2.00%
Banks (14)
Diversified Financials (13) Energy (31)
40.00
June 2013 Interbank Liquidity Crunch and SHCOMP Performance By Sectors
0.00%
Source: Bloomberg
CREDIT QUALITY SLIDES WHEN BANK LENDING OUTPACES NOMINAL GDP GROWTH
48
Rapid credit expansion to push economic growth on an emergency basis after 2008 hurt credit quality. The new government‟s priority is to clean up bank balance sheets % y-o-y 40.0% 35.0%
% y-o-y 35.0%
Banking Sector Loan Growth Nominal GDP
9.00
30.0%
8.00 June 2010
30.0% 25.0%
7.00
25.0% July 2008
20.0%
20.0% 15.0%
15.0%
6.00
5.00
10.0% November 2008
10.0%
5.0%
M2 Growth 5.0%
0.0%
Banking Sector Loan vs. GDP Growth
4.00
Source: PBOC, NBS
USD/CNY
Source: Bloomberg
3.00
China Re-Pegged RMB, Boosted Money Supply To Counter Global Crisis
BANKS DIVERGES FROM INDEX (12-MONTH TO MAY 31)
49
Variance decomposition across the universe of SHCOMP sectors tells us that the bank risk has diverged from the index. That‟s due to excessive worry about bank balance sheets. As banks clean up their books the sector will recover 3-Month Rolling Correlation With 1st Principal Component of Sector Returns
100% 90% 80% 70% 60% 50% 40% 30% 20%
Electronic Components Electrical Equipment Computers Banks
SHCOMP Banks Diverge from Index
Source: Eviews, Wind
DOMESTIC CREDIT PROVIDED BY FINANCIAL SECTOR (% OF GDP)
50
Although the pace of credit growth is fast, China still lags OECD members and other big economies
250% United States 200%
Asia PAC
150%
OECD members European Union
100%
China 50% India 0% 2006
2007
2008
2009
Domestic credit provided by financial sector (% of GDP)
2010
2011
2012 Source: World Bank
SLIM SHADOW OF CHINA‟S BANKING SYSTEM
51
Looking at the breakdown of PBOC‟s historical time series on „aggregate financing to the real economy‟, trust loans, entrusted loans and foreign currency loans stood at approximately RMB17.8 trn as of June 2013. That‟s equivalent to a quarter of outstanding bank loans. Shadow banking serves borrowers neglected by state banks RMB bn
Trust Loans
Entrusted Loans
FX Bank Loans
Bank Loans
90,000 80,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 0 2002
2003
2004
2005
2006
2007
Trust Loans, Entrusted Loans, FX Bank Loans vs. Bank Loans
2008
2009
2010
2011
2012
2013
Source: PBOC
OFFICIAL LENDING RATE VS. SHADOW RATE
16%
35%
14%
30%
12%
25%
10% 20% 8% 15% 6% 10%
4%
2%
5%
0%
0%
Medium and Long-term Lending Rates 3Y-5Y
Source: PBOC
Source: Wenzhou Private Lending Reg Service
Wenzhou Private Mortgage Rates
52
SHRINKING SHADOW BANKING
53
Shadow banking activity shrank in March while new bank lending was steady y-o-y
2013
RMB bn
2014
3,000
2013
RMB bn 1,400
2014
1,320
2,551 1,200
2,500
1,050 2,070
1,000
2,000 800
645
1,500 939
600
1,000 400
500
200
0
0 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
Aggregate Financing (Including Shadow Banking) Source: PBOC
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
New Yuan Loans
Source: PBOC
CHINA WEALTH MANAGEMENT PRODUCTS
54
Wealth management products are growing very quickly, and are expected to reach RMB16.8 trn by end of 2014
RMB trn
Outstanding WMP
WMP/GDP
25.00
30.0%
*Assuming 7.5% real GDP and 3.0% inflation in 2014 and WMP to grow identical
26.8% 25.0%
20.00 19.9%
16.82
20.0% 15.00 13.7% 10.00
15.0%
11.30
9.7% 10.0%
7.10 4.59
5.00
5.0%
0.00
0.0% 2009
2010
China Bank Wealth Management Products
2011
2012
2013
2014E* Source: PBOC, WIND, REORIENT
BANKING SECTOR‟S EXPOSURE TO LGFV BORROWING
55
LGFVs comprise 14% of bank lending, and grew by 6.2% y-o-y during the 1H of 2013. In comparison, the LGFV borrowing stood at RMB4.3 trn prior to the stimulus package. LGFV (Local Government Financing Vehicle) refers to an entity established by the gov‟t, promising repayments via cash flows of municipal projects RMB bn
LGFV Borrowings
% of Outstanding Loan (RHS)
16,000
20% 18%
14,000
16% 12,000 14% 10,000
9,200
8,000
7,380
7,660
9,590 9,700
12% 10% 8%
6,000 4,330
6%
4,000 4% 2,000 0
Banking Sector’s Exposure to LGFV Borrowing
2% 0%
Source: Wind
TRUST FINANCING VERSUS TOTAL LOANS BY FINANCE INSTITUTIONS
56
In the two years 2011-2013, AUM of trust companies has increased on average by 76.32% annually, while total loans by financial institutions rose 16.23% annually. Trust firms are believed to be the most popular institutions for securitizing bad loans RMB bn
Trust assets
Loans by Financial Institutions (RHS)
RMB bn
14,000
80,000
12,000
70,000
10,000
60,000 50,000
8,000 40,000 6,000 30,000 4,000 2,000 0
Trust Assets vs. Loans by Financial Institutions
20,000 10,000 0
Source: National Trustee Association
CHINA HOME PRICES AND FLOOR SPACE SOLD
57
Home prices dipped during the financial crisis in 2008, but recovered very quickly in mid-2009. 2012 was the year when China strengthened property curbs, leading to a more gradual rise in floor space sold
mn sq mt
200.00 Beijing
Shanghai
Shenzhen
Guangzhou
190.00
1,400
180.00
1,200
170.00 1,000 160.00 150.00
800
140.00
600
130.00 400 120.00 200
110.00
0
100.00
Home Prices In Tier 1 Cities (Dec. 2005 = 100)
Source: NBS
Total Property Floor Space Sold
Source: NBS
LOCAL DEBT UNDERSHOOTS ECONOMISTS‟ FORECASTS
58
China‟s long-awaited national debt audit report, released at the end of 2013, says that local government debt is not as big as had been feared. The broadest measure of all local government associated debt, summing up every contingent liability at face value, came in at RMB15.9 trn as at end-2012 and RMB17.9 trn as of this June RMB trn 20
Local Government Debt
18
III. CL - Bailout
16
II. CL - Guarantee
14
I. Official Debt
12 10 8
Note: 2011 interpolated; category breakdown n/a before 2010
6 4 2 0 1996
1997
1998
1999
2000
2001
2002
Long-Term Time Series of China's Local Gov't Debt
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
1H13
Source: REORIENT
LOCAL DEBT FUNDED NEEDED INFRASTRUCTURE
59
86.77% of debt-fueled spending by Chinese local governments went to infrastructure projects rather than consumption. Beijing is confident that these investments will pay off in due course
1H13
1H change
Govt Debt
6.71
9.63
10.89
13.1%
CL - Guarantee
2.34
2.49
2.67
7.2%
CL - Bailout
1.67
3.77
4.34
15.1%
subtotal
10.72
15.89
17.89
Govt Debt
9.44
CL - Guarantee
2010
2012
1H13
1H change
Govt Debt
16.7%
18.6%
20.0%
1.4%
CL - Guarantee
5.8%
4.8%
4.9%
0.1%
CL - Bailout
4.2%
7.3%
8.0%
0.7%
12.6%
subtotal
26.7%
30.6%
32.8%
2.2%
9.81
4.0%
Govt Debt
18.2%
18.0%
-0.2%
0.28
0.26
-8.3%
CL - Guarantee
0.5%
0.5%
-0.1%
CL - Bailout
2.16
2.31
6.9%
CL - Bailout
7.3%
8.0%
0.7%
subtotal
11.88
12.38
4.2%
subtotal
22.9%
22.7%
-0.2%
Govt Debt
19.07
20.70
8.6%
Govt Debt
36.7%
38.0%
1.2%
CL - Guarantee
2.49
2.67
7.2%
CL - Guarantee
4.8%
4.9%
0.1%
CL - Bailout
5.93
6.65
12.1%
CL - Bailout
11.4%
12.2%
0.8%
subtotal
27.77
30.27
9.0%
subtotal
53.5%
55.6%
2.1%
CL = contingent liabilities
Source: NAO
% Nominal GDP
Local
2012
Central
2010
Total
Total
Central
Local
RMB trn
CL = contingent liabilities
Source: REORIENT
LOWER-TIER HOME PRICES ARE VULNERABLE TO CORRECTION Existing home prices have stopped rising in some regions. The lowest-ranked cities are without any doubt the most vulnerable to correction. In the current cycle, their prices were the slowest to rise and the first to fall 130.0
130.0 Tier 1
Tier 2
Tier 3
Tier 1
125.0
125.0
120.0
120.0
115.0
115.0
110.0
110.0
105.0
105.0
100.0
100.0
95.0
New Home Prices
Jan. 1, 2010 = 100
Source: NBS, REORIENT
95.0
Existing Home Prices
Tier 2
Tier 3
Jan. 1, 2010 = 100
Source: NBS, REORIENT
60
NEW HOME SALES
61
New home sales during the Q1 fell both in value and in square footage after a very strong 2013. Overall sales in the next few quarters are expected to extend the declines, prompting developers alike to offer promotional discounts to move inventory and support sales volume
% y-t-d y-o-y
Home Sales Value
Home Sales Volume
95.0
85.0 75.0 65.0 55.0 45.0 35.0 25.0 15.0 5.0 -5.0 -15.0 -25.0
Home Sales
Source: NBS
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