While so much of our work for clients is directed at understanding where the China market is, so much of our insight depends upon being able to see where China is going. Growth has cooled from the double-digit rates seen frequently in 2009 and 2010 to 8.9% in the fourth quarter of 2011. Easing GDP growth rates combined with widespread speculation of danger lurking in an overheated real estate market have left many wondering what 2012 will hold for China, both politically and economically.
Economic growth…likely to drop about 1 point in GDP from just above 9% in 2011 with a growth in domestic demand continuing to be a primary focus. Some government stimulus appears likely. Retail spending looks strong, as does infrastructure investment. Industrial production growth will slow. The Government will continue to enhance emphasis on sustained growth and job creation.
Currency fluctuation…continued modest appreciation of the Yuan to a level nearing 6.1 to the US dollar by end 2012, after about a 4% appreciation in 2011. We can expect increasing exchange rate flexibility to replace the recent trend of Yuan appreciation. Government may even allow the Yuan to weaken slightly for a period of time, of course depending on the tempo of US economic recovery and settlement of the Euro Zone debt crisis.
Trade…will continue the softening trend seen in 2011 with possible flat performance in exports and only moderate growth in imports. This is highly dependent on both a Euro Zone resolution and a sustained recovery in the US. Ongoing anti-China trade rhetoric could lead to some friction, but a softening trade gap may come to mute those sentiments. The 12th 5 year plan forecasts imports of $8 trillion over the next 5 years, though this is admittedly largely due to increasing energy requirements, i.e., imports of fossil fuels.
Policy reforms…several key reforms will be pushed forward in 2012, including converting business tax to VAT in services areas, expanding the property tax pilot program, fully reforming resource tax system, deepening energy price reform, furthering interest rate liberalization, and further developing capital markets. Tax reduction is becoming a hot topic as an alternative means to stimulate growth and restructure the growth paradigm.
Politics…2012 will be a year of US “election” and Chinese “selection”. President Hu Jintao and Premier Wen Jiabao are set to step down from their Communist Party posts at a Party Congress in late 2012. The National Peoples Congress (parliament) will officially install their successors in early 2013. In a year of transition to new leadership, maintaining stability (politically, socially, and economically) will be the central theme as reflected by a government statement released after the just-concluded annual “Central Economic Work Conference.”
M&A…continued focus by both foreign companies as a means to accelerate growth and access new markets as well as domestic firms to exploit trends in industry consolidation. Emphasis will be placed on consumer/retail segments, especially by private equity. SOE deals will become more challenging.
Sourcing…A general increase in operating costs due to both inflation and Yuan appreciation should be expected as well as a continued shift away from sourcing high labor/low value products which will continue to migrate to other regions in China as well as low cost countries (LCC). Labor rates will continue to rise in double digits, increasing both consumer economy and prices. Changing labor rates are encouraging people to “stay near home”, creating new sourcing opportunities away from places like Shenzhen and Shanghai. Also, the rise of CHINA for CHINA Sourcing. Companies will make in China for the China market.
US company activity in China…China will remain a top foreign market for investment. The financial performance of China-based operating companies is expected to remain strong overall, comparing favorably to corporate averages. However, sentiment is down compared with 2011 given various economic challenges in both China and the world. There will be a continued emphasis on capturing Chinese consumer spending. US-China relations will continue to have tense moments but will likely be stable overall.
Chinese company emigration…We can expect to see a rise in the number of Chinese companies investing in the US, either through acquisitions or organic business activity. In addition, an increase in outbound deals as Chinese companies seek to deepen positions off-shore and shift away from a pure exporting platform can be expected.
Implications to foreign companies looking at China…
In terms of growth…
- China should remain a focus of profitable growth strategies
- A rapidly growing consumer economy will change the nature of opportunities in China. Look for the opportunities especially in tier 2 and 3 cities.
- “In China for China” will become increasingly important versus just sourcing. Consider dual strategy of sourcing and local market penetration
- Government support for State owned enterprises (SOEs) will create challenges in certain industries and markets, e.g. environmental sectors
In terms of operations…
- Improved supply chain effectiveness will be a critical factor in achieving higher performance as margins are squeezed and retail networks expand
- Shift to more strategic sourcing (more direct, high visibility, on-the-ground presence, etc.) to off-set higher first costs
- Critical to bring “A” game to China to be competitive including people, technology and best practices
- Visibility into threat from China company emigration must be fully understood
