Views on the integrity of global capital markets
11 January 2015

The Impact of Population Dynamics on the Chinese Capital Markets

Posted In: Market Structure

During the recent central government reform leadership council meeting in China, President Xi Jinping, refrained from acknowledging any successes from the previous six months, a customary feature of these addresses, and instead directly discussed the future action plan on foundational reforms. His delivery of the speech, in and of itself, carried significant weight in a culture where subtle gestures and indirect attitudes often say more than actual words.

What President Xi’s body language and talk conveyed was an unusually strong sense of urgency in getting things done rather than celebrating what has been achieved thus far. Such emphasis on foundation-building should come as no surprise given the major challenges that lie ahead for China.

The biggest issue currently facing the Chinese capital markets revolves around resource allocation. For the past three decades, the Chinese economy has grown at a tremendous velocity that has outpaced most other developing nations. At the end of 2013, China’s GDP stood at USD $9.24 trillion — ranking it second behind the US’ GDP of USD $16.8 trillion in current US dollars term.

China’s path towards economic dominance, however, has been anything but smooth. Even though it successfully clinched the title of the “world’s factory” a decade ago, China’s factories are generating so many products that, under normal circumstances, they would not be economically profitable. And the huge desire for economic glory without considering the environmental impact has led to several regions becoming almost uninhabitable. China’s capital, Beijing, happens to be one of them.

As a result, one of the pillars of President Xi’s reforms hinges on enhancing resource allocation at the national level. Henceforth, any future capital market-related reforms will be geared towards benefiting the entire physical economy rather than enriching a handful of mammoth financial services enterprises.

Once we consider the above-mentioned mindset, it is not hard to understand why Alibaba’s recent fundraising efforts largely bypassed the traditional banking intermediary segment but did not incur the wrath of industry regulators. Moving forward, safeguarding the private interests of state-owned enterprises will no longer be the top agenda of central government.

China’s Aging Population

China’s aging population is not a new story. However, to obtain a more objective view of what it implies, we need to examine some of the more revealing statistics (link in Chinese):

  • During the past 40 years, the labor participation rate rose from 57% to 74.5%.
  • During the same period, savings as a percentage of net income, rose from 30% to 53.5%.
  • Meanwhile, China’s urbanization rate hovers at approximately 52%.

Based on historical tracking by the World Bank, average labor participation rates globally tend to hover at approximately 60% to 65% once a nation reaches “developed” status. Hence, there is not much room for improvement with regards to China’s labor participation rate. Economic growth will have to come from either technological improvements or increased labor productivity. Technological improvement originates from intensive research and development, but given the manufacturing overcapacity, its eventual impact on economic growth might be muted by the expected shift in government policy towards favoring the service sector.

On the other hand, both the literacy rate and median educational levels have risen tremendously during the past 40 years. To a certain degree, this is likely to increase labor productivity and ultimately curb the decay in economic growth.

At 53.5% of net income, the savings rate in China is ranked No. 2 in the world, second only to oil-rich Qatar. Given China’s aging population this is unsustainable, even in the near future. As a result, Chinese economic growth likely will take another hit in the form of a shrinking savings base. The empirical link between savings rate and economic growth has largely been proportional: An aging population will spend more and save less, and that alone will likely contribute to an eventual economic slowdown.

Another important empirical relationship is based on the proportional relationship between population and housing prices. Take, for example, the collapse of the United States’ housing bubble in 2007, which unknown to most investors, was preceded by a peak in labor participation rates in 2006. Japan saw its peak in 1992, and coincidentally, its housing bubble started in 1991.

There is, therefore, no prize for guessing which direction general property prices in China will head in the short to midterm. However, we are seeing some opposing forces at work. Firstly, China is a massive country where different provinces and counties are urbanizing at different rates. Any price changes are likely to be zone specific. Secondly, given that overall urbanization only stands at 52%, property prices in key cities where employment demands largely outpace the housing supply are likely to remain highly resilient in the foreseeable future.

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Photo credit: Mette


About the Author(s)
Alan Lok, CFA

Alan Lok, CFA, is director of capital markets policy at CFA Institute. He is responsible for conducting research projects in the area of market instruments and market structures in the Asia-Pacific region. Mr. Lok works with regulators, institutional investors, academics, and various other stakeholders within the financial industry to uphold investor protection and market integrity.

8 thoughts on “The Impact of Population Dynamics on the Chinese Capital Markets”

  1. Jason Lin says:

    Thank you for this post, the point about the relationship between labor participation and housing price is very interesting. Would you mind sharing your resources re: this point?


  2. Alan Lok, CFA says:

    Hi Jason, I am glad that you have enjoyed the article. Regarding the source of the statistic, I came across it an online article written in Mandarin. You can either click on the hyperlink in paragraph 7 of the blog post, or simply click here.

  3. Joshua Wu says:

    Hi definitely looks like you stumbled upon several interesting patterns here! While correlation does not always imply causation, I think the relationship between labour participation and housing bubble makes sense and is worth a read at least. Do you have any good articles to share regarding this? Cheers

  4. Xiang Wang, CFA says:

    I totally agree with your point of view on labour participate rate being one of the drivers of decrease in economy grow. Regarding the housing prices, major cities still up-hold the restricted purchase rule however, prices has been quite stable. 2nd and below tier cities are seeing price decreasing!

  5. Alan Lok, CFA says:

    Thanks Joshua. I take note of your request and will recommend related web links in future blog posts that will allow you to drill deeper into the relationship between asset bubbles and economic indicators. Stay tuned!

  6. vijay HONNUNGAR says:

    Dear Author,
    Many thanks for this insightful article. The point about relationship between labour participation and housing price, with empirical notes, are worth reading.

  7. Alan Lok, CFA says:

    Thanks for your comments Wang Xiang! Real estate market pricing has always been highly elastic due to changes in government policy, and more so in China, where action from the top spearheads most economic events. Adam Smith’s invisible hand, though, is still functioning but to a much lesser degree.

  8. Alan Lok, CFA says:

    Thank you Vijay! I will cover more Chinese capital markets-related issues in this space very soon. Stay tuned!

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