The Economist says that the Great Adjustment is well underway in China:
The good news is that the [current account] surplus is already shrinking. The strong rebound in China’s economy in the second quarter—pushing GDP 7.9% higher than a year ago—came entirely from domestic demand. This sucked in more imports, while exports continued to slump. ...
China’s real domestic demand is likely to grow by at least 10% this year. In fact, the popular perception that China has always relied on export-led growth is rather misleading. Its current-account surplus did soar from 2005 onwards but until then was rather modest. And over the past ten years net exports accounted, on average, for only one-tenth of its growth.
So what's the bad news? The rising domestic demand comes from investment, not consumption:
The problem is more that the mix of domestic demand between consumption and investment is unbalanced, and becoming even more so. In 2008 private consumption accounted for only 35% of GDP, down from 49% in 1990 (see chart 2). By contrast, investment had risen from 35% to 44% of GDP. This year the bulk of the government’s stimulus is going into infrastructure, further swelling investment’s share. Chinese capital spending could exceed that in America for the first time, while its consumer spending will be only one-sixth as large. This is China’s most glaring economic imbalance.
Consumption makes up only 35% of Chinese GDP, compared to 70% in the U.S. The Chinese savings rate remains over 50% (!), and the vast majority of that comes from households and companies. Part of that comes from the fact that China has a very weak social safety net, but another part remains the undervaluation of the RMB, which hurts the purchasing power of Chinese consumers. From 2005 to early this year the RMB appreciated substantially against the dollar, but has since fallen back as China re-pegged to the dollar. One estimate quoted in the article claims that the RMB should appreciate by as much as 25% to reach trade-weighted parity with the dollar.
Still, China appears to have turned a corner in its transition away from an export-led growth model. Now the emphasis must become transitioning towards a greater role for domestic consumption.
ht: Mark Thoma