China’s Middle Class: Not What You Think It Is

There seems no end to the American delusion that it can and should keep its economy buoyed by

consumption and borrowed money.

But much of Asia is guilty of two related delusions. The first is

that it can ever get back the trillions loaned to the US, except, at

best, in heavily devalued currency. The second, and more recent, is that even

if the US

consumer fades, the growing wealth of a billion Chinese consumers will

compensate and enable the rest of the region merrily to carry on.

The latter delusion

has been helped along by the foreign media, who imagine that most of China

is like the top 10 major cities they visit, where most households already own

the standard electrical appliances and a growing number have cars. The phrase

“middle class” is bandied about as though China

now had huge numbers happily consuming at the rate of your average Los Angeles suburbanite.

Even taking into

account the huge income disparities in China and accepting that most

people are still poor, that would still seem to leave a few hundred million people

with significant and fast-growing disposable incomes. So it’s worthwhile to

look at the actual numbers. Who might be in this free-spending, upwardly mobile

urban economy? Who is going to buy all the clothes, toys, electronic gizmos,

cars, shoes and assorted bric-a-brac that currently gets shipped off to earn

dollars for the nation’s leaders to squander on acquiring more foreign exchange


While bullish investment

banks have been peddling daydreams, the Swiss bank UBS has an economist,

Jonathan Anderson, who has come up with some startling numbers. Although

official data say there are 577 million urban residents, many of those are

farmers living on urban fringes, or in towns where income levels are a world

apart from the major cities. By UBS’s more stringent criteria of what constitutes

a city, the number is reduced to 244 million and to just 115 million if one

uses the populations of the 50 largest cities where most wealth is


How many of those

115 million people have a household income of $10,000 or more, the minimum likely

needed to afford a significant level of consumption – a mortgaged apartment, a

car, a computer, the occasional karaoke visit?

This group may total 70 million. Up the household income level to

$18,000, the point at which it might begin to equate in purchasing power terms

to a median household income in the west, and the number falls to 25 million.

Of course, the 95

percent of Chinese who do not fall into these top categories are also consumers

– but their purchasing power for items beyond very basic food, clothing, fuel

and housing is tiny. Take the overall GDP numbers and China’s consumption expenditure was only 12

percent of the US!

Of that, the consumption of the urban “core” ‑ 70 million people ‑ was only 3

percent of the US

figure. Even if one assumes that China’s official data overstates

investment and understates consumption – highly likely given the amount of

“investment” diverted to entertainment and cars for company officials – the gap

is immense.

On a purchasing

power parity basis China’s

consumption would be higher because of the very low cost of services, and hence

of some retail prices also. But the higher up the income chain Chinese go, the

less the gap between their income and real prices. For instance, rice and a

pair of local jeans, let alone a haircut, may cost much, much less in China than in the US but cars and computers cost

about the same.

Even if China can sustain 8 percent growth while

reducing investment and shifting private consumption from 40 percent to 55

percent of GDP – where it used to be and should still be – it will be several

years before it can have an impact on global demand approximating that of the US.

The fact that

Chinese growth has had a huge impact on commodity prices should not lead one to

assume that it will play a similar role in stimulating global demand for consumer

goods. Supply of commodities is inelastic and may require several years to

bring new capacity on stream. The same does not apply to most consumer goods. China’s

domestic growth has been led by infrastructure development and construction,

both heavy users of metals and minerals. Even on the consumption side, the

biggest impact of higher incomes has been on food consumption – the shift to

higher value-added foods requiring more inputs of other commodities – and


Of course, much more

could be done to spur consumption at all income levels at the expense of (often

wasteful) investment. But it is hard to imagine that the higher income groups

in China

will start to spend more of their income and save less while they, a now ageing

group, face the costs of health and education and uncertainties over social

security. This will change, but not fast enough to offset the impact of a

reversal of two decades of growth built on exports geared to consumers in an

increasingly indebted west.

None of this is to

argue that we are headed for the abyss, along with the US consumer. Taking Asia as a whole, policies could stimulate demand

throughout the region to offset some of the decline (yes, decline, not just

stagnation) in US import consumption. Consumption can rise in rich Japan, Korea

and Taiwan as well as in low-income


Investment can rise throughout middle-income Southeast Asia and parts of South Asia. But even with the most expansionary policies

and lots of luck it cannot be enough, if only because the US locomotive role has only been possible

because of its reserve currency status and the touching willingness of Asia to

believe that the USA

is an AAA-rated risk.