We Still Don’t See A China Hard Landing by Mark Mobius, Franklin Templeton Investments
After a long period of outstanding economic growth, many investors are now wondering about the future path of China’s equity market and its economy, with some making doom-and-gloom predictions. Although China’s gross domestic product (GDP) growth is slowing compared with past years, the transformation of the economy from investment- to consumption-driven growth is under way and is going to have tremendous implications for every part of that economy. China’s economic transition—along with incredible economic growth already experienced—has resulted in a much larger economy so that the percentage growth numbers will naturally decelerate going forward. In our view that’s not a reason to panic. The changes aren’t going to happen overnight. The important continued urbanization of the country, which is still behind the urbanization rate of the United States, is moving forward and should have a significant impact. China’s growth rate, while slowing, is expected to continue to outpace global growth by a wide margin, as you can see in the chart below.
Here, I join my colleagues Dennis Lim and Eddie Chow for a discussion about China. Dennis is senior executive vice president and a 25-year veteran of Templeton Emerging Markets Group based in Singapore. Eddie, based in Hong Kong, is senior executive vice president and has been a member of the team for more than 20 years. If you’d like to know more about my recent travels in China, read my blog series covering the cities of Wuhan, Nanchang, Fuzhou, Nanning, Guiyang and Shenzhen. I have found the situation in China, when you see it with your own eyes, is often different than what you read in the popular press.
On China’s Shifting Economy
China is an important trading partner for most—if not all—countries around the world, and therefore, it’s an economy widely watched around the world. Recently, we have seen some negative headlines about the health of China’s economy. There have been concerns that Chinese manufacturing is in recession, and that the investment-led growth over the last three decades in China has ended with the need to shift the economy from manufacturing- and investment-led to a services- and consumer-oriented direction. We know that China’s currency, the renminibi (also known as the yuan), continues to be under pressure because of events in the Chinese manufacturing sector. In the fourth quarter last year, we saw a big drop in the value of the renminbi versus the US dollar, but since the beginning of this year, we have seen a sustained recovery in the exchange rate. The government’s crackdown on corruption in China continues, and there’s a theory that it has created some caution on the part of the Chinese consumer because of perceived scrutiny on conspicuous spending. Those who can spend are likely holding back because of a concern that they could be targets of investigation.
Some investors continue to expect a hard landing in China—a rapid shift from high growth to slow/no growth or even recession. They look at the country’s economic statistics and the Chinese government’s announcements with skepticism. We don’t see a hard landing for China, and according to our research and on-the-ground observations, the numbers coming from the National Bureau of Statistics of China seem to be a fairly good indication of where the economy is headed. Credit continues to ease, and one of the repercussions appears to be the housing market, which we think could be showing signs of a small bubble in some areas of the country.
There is a lot of debate about China’s GDP numbers and statistics coming out of China in general. I think people have to remember that China is a planned economy and, to a large extent, it can engineer and plan growth to meet specific targets.That means orders from China’s leaders in Beijing go out to the various provinces, cities, towns and villages to obtain a particular growth rate. The regions are thus empowered to make investments to ensure that the growth rate they have been assigned is met. This can, of course, lead to substantial amounts of waste; for example, roads or bridges that shouldn’t have been built and apartments or other buildings that aren’t fully occupied or are empty. But at the end of the day, most of these projects do turn out to be worthwhile. China’s high-speed railways, for example, have been a tremendous boost to the economy—which I’ve been able to experience myself while traveling throughout the country. I believe the Chinese are aware of the problems of not having a fully market-oriented economy, where the allocation of resources is done by the market instead of central planning. Nevertheless, I believe the economic numbers we see out of China are, by and large, no less accurate than what we are getting in many other parts of the world.
We recognize that the era of double-digit growth in China is probably over. Going forward, we expect to see growth in the range of 4% to 6%, which isn’t all that unexpected or disconcerting given the tremendous increase in the base of the economy. Single-digit growth rates should be more the norm going forward, in our assessment.
There’s clearly been great investment going into the rail system in China. At the end of last year, there were a total of 121,000 km of railway in China (19,000 of which is high-speed), and the system carried about 2.5 billion passengers in 2015.1 In spite of this very rapid growth in recent years, the railway density of the big Chinese cities is still below that of other large cities including London, Paris and Tokyo. In our view, there’s still a need for more investment in rail.
There is a similar dynamic when comparing the subway systems of China’s major cities with others around the world. For example, Chengdu, a major city in the southwest part of China with 7 million people and a municipality of 14 million, has two subway lines—one going north-south and one going northwest-southeast. Compared to Tokyo, a city of about 13 million, the difference is quite stark. In spite of the very high investments in infrastructure that we have seen in China in recent years, it is nowhere near saturation, so we expect to continue to see investments in areas including rail, roads and ports.
In terms of manufacturing activity, capacity utilization remains low. That’s a real concern for us because of the years of big investments. Railway freight traffic has also reflected a slowdown, and the last two years in particular have been weak. Power generation paints a similar picture. Since the global financial crisis of 2008-2009, there has been a slowdown, and power generation today reflects low-single-digit growth rates, which I think is probably going to persist for the next couple of quarters.
On China’s Equity Market
China’s A-share market is large, with more than 2,000 companies listed on the Shanghai Stock Exchange and about 1,000 listed on the Shenzhen and other stock exchanges in China. Quoted in local currency, only residents of the People’s