China Slowdown: Consumers Refuse to Spend

A man checks his phone while resting in a shopping mall in Beijing on July 18, 2023. Greg Baker/AFP via Getty Images

News Analysis

In the last week of October, China experienced a decline in factory activity, with the manufacturing sector slipping into contraction. Meanwhile, growth in the services sector eased, highlighting the economy’s fragile state.

The manufacturing purchasing managers index (PMI) fell to 49.5. This indicates a contraction, as scores below 50 signify a downturn. The non-manufacturing gauge, which measures activity in the construction and services sectors, also decreased from 51.7 to 50.6, though it remained above the contraction threshold. It is evident that demand is falling as the new-orders indexes for both manufacturing and non-manufacturing PMIs slipped below 50.

Real Estate Sector

The most significant structural challenges within the Chinese economy revolve around the real estate bubble and its associated debt issues. Over the past decade, there was an excessive incentive to initiate new construction projects through loans rather than prioritizing the sale or completion of existing projects. Meanwhile, in a country with a population of 1.4 billion, the demand for housing remained high. Consequently, this artificial scarcity led to soaring prices for the apartments that did reach the market. The real estate sector grew to account for 20 percent of the economy while providing employment for just 2 percent of the workforce.

Paradoxically, China has millions of unoccupied apartments. The reason prices remain artificially high and the glut remains unresolved is due to local government-imposed price controls. Chinese property developers are required to register their prices with local housing authorities before selling homes. Local governments heavily depend on land sales for 80 percent of their revenue, incentivizing them to maintain high prices. Additionally, the real estate sector serves as collateral for hundreds of billions in bank loans, so allowing prices to decrease would lead to a surge in loan defaults.

Now, as China grapples with a severe economic deceleration and a substantial decline in housing demand, local authorities are reluctantly permitting price reductions. While potential new buyers may welcome this change, existing homeowners are incensed, witnessing the devaluation of their life savings. For many Chinese families, the majority of their wealth is tied to real estate. When property values decline, so does their financial security. In some cities, home prices have plummeted by as much as 50 percent compared to their 2020 or 2021 levels. However, when existing homeowners sought compensation for their losses from local governments, the response was to instruct developers to nullify all new contracts.

Unemployment

Manufacturers selling to export markets continue to face a declining trend, as indicated by the new export order index. In addition to this, approximately 300 million migrant workers in China, who moved from rural areas to urban centers for factory employment, are currently struggling to secure jobs. These workers are not accounted for in China’s official unemployment figures because they are registered in their hometowns or villages. The official jobless rate of 5 percent only covers urban workers, thus excluding the broader employment issues faced by migrant workers.

As employment opportunities continue to diminish, an increasing number of young individuals are vying for positions within provincial and central government agencies. A record-breaking 2.83 million candidates recently took the civil service examination, competing for just 39,000 positions. Local governments are burdened with substantial debt, and with declining land sales, their prospects for recovery are bleak unless the central government intervenes. The government sector was already excessively bloated, but now, during a period when young job seekers are seeking government positions, some provinces are grappling with payroll challenges while others are cutting jobs.

‘Downgraded Spending’

The Golden Week holiday at the start of October typically provides a boost to both travel and consumer spending. However, this year, the increased number of travelers can be attributed, in part, to wealthier Chinese individuals choosing to stay within the country due to reduced overseas holiday spending.

While the total spending during this period was only slightly higher than in 2019, this does not indicate a true recovery. Instead, it signifies the loss of three years’ worth of growth. This also implies that China had to rely on a greater volume of travelers this year to generate revenue equivalent to that of 2019, further underscoring financial constraints among the population.

Understandably, Chinese consumers are seeking cost-cutting measures, with discount retailers gaining ground while luxury brands are losing favor. In the first five months of the year, China experienced a 9.3 percent surge in retail spending as COVID-19 restrictions were lifted, but this apparent recovery has now stalled.

The term “downgraded spending” is trending on the Chinese social media platform Weibo. Traditional retailers like Alibaba and JD.com have witnessed declining sales, while discount shopping sites like Pinduoduo are on the rise. Consumers are also opting for cheaper domestic cosmetics and clothing brands over foreign ones. Meituan, a Chinese platform offering food and product delivery services, reported a drop in orders due to consumers avoiding additional delivery fees.

When citizens harbor uncertainty about the future, they tend to save money, leading to increased bank deposits. The central bank has reduced interest rates in an attempt to encourage spending, but so far, there are few takers. This presents a challenge for Chinese officials hoping to boost the economy by stimulating domestic consumption.