One of the biggest worries for markets today is the slowdown in China’s economic growth. One telltale sign suggests that China’s economy might be growing a lot slower than what most people think.
Earlier this month the Wall Street Journal wrote, “China’s top leader sent the strongest signal yet that the government expects the world’s second-largest economy to shift to a slower pace, suggesting Beijing could tolerate growth as low as 6.5%….
[Chinese President Xi Jinping] hinted at a range of possibilities for China’s official five-year growth target, which won’t be announced until March, by saying that China could maintain its current pace this year of ‘about 7%’ — which would be its lowest in a quarter-century. His comments Tuesday underscore a key challenge for China’s leaders: how to manage expectations amid a difficult bid to shift the economy to a slower-paced ‘new normal.’”
Xi’s comments on Tuesday underscore a key challenge for China’s leaders: how to manage expectations amid a difficult bid to shift the economy to a slower-paced “new normal.”
For decades, China’s economy has been driven by manufacturing and industrial exports. But as China’s economy has developed, and its costs of production have risen, the country is no longer as competitive as it used to be.
In response to this, the Chinese government is trying to shift the focus of the economy towards consumption. In most developed economies, consumption – that is, buying things – accounts for well over half of the total economy (it’s 66% in the United States, and 61% in Japan). In China, consumption is just 36% of total economic output.
But while the Chinese government is trying in its latest Five-Year Plan to make this shift happen, the manufacturing and industrial sector is rapidly declining.
A stark sign of this is heavy construction machinery sales by Caterpillar, the world’s largest mining and construction equipment manufacturer.
According to the Financial Times, Caterpillar is estimated that it will sell about 23,000 full-sized hydraulic excavators. These are used for mining and large construction and infrastructure projects. That might sound like a lot. But it’s a 79% decline from 2011, when Caterpillar sold 112,000.
A senior official at Caterpillar told the Financial Times, “My expectation is within China and globally that the market will pick up to a level above where we are in 2015. But for China specifically, our expectation is that the market will rebound but we are not planning [for it to] get back to 2011/2012 levels.”
That’s bad news for Caterpillar, which in late September lowered its sales outlook for 2015. The shares of the company, which trade on the New York Stock Exchange, are down 24% this year.
But it’s even worse news for China. Many economists think that an economic growth target of 6.5% might be ambitious. Caterpillar’s numbers suggest that figure could be a lot lower. Investors should prepare for more volatility as the reality of China’s growth becomes more visible.