Can China keep up with its own middle class?

The Chinese middle class – those earning between $10,000 to $35,000 per annum  – has furiously emerged in the last 15 to 30 years, growing to 300 million people, a number encompassing a larger population than the USA, but only 22% of China’s.

Behind the headlines of 10% growth levels and unprecedented development, there emerges a more complex picture, all too known to historians and economists: the immediate threat of a widening income gap between the haves and have-nots.

This is likely to become a fundamental problem in China in the next decade as capitalism spreads further, making some cities rich while others stagnate in poverty. For a country with a population of 1.35 billion, which is over 20% of the world’s population, this can be catastrophic if the system isn’t predisposed to prevent the consequences before they occur.

To give context to how quickly China’s system of resource management has changed, under the rule of Mao Zedong from 1943 to 1976, the populous Chinese farmers were helplessly poor but made the government rich from extraction. This system was so inefficient at building wealth that it caused the death of 15 million Chinese citizens in famine.

Chinese citizens started to build other sectors like the textile, an industry more productive than farming that became vital to exports and the middle class in 1978 under president Deng Xiaoping. Farmers were given a taxed quota allowing a surplus to be created which could be kept and sold. People started to produce more and work harder because they could own what they produced.

For most of this time the Chinese government decided that unleashing the industrial revolution was  vital for the nation and, while heavily intervening, went with it. It helped form the 22% middle class but exports are now not so productive due to rising costs, the leading industry is slowing down and moving to Vietnam.

The renminbi ¥ (currency of China), despite appreciating in line with its perceived future value, is still undervalued by 27% according to the International Monetary Fund (IMF).

In order to secure this continued growth of Chinese wealth and their middle class the Chinese government cannot rely on exports any longer and must turn its eyes inwards. It must make itself self-sustainable by basing itself on domestic instead of foreign consumption, without which it has no way to bridge the widening gap between its middle class of 22% and the other billion Chinese citizens.

The benefits to this consumption switch are clear: a larger productive middle class means more wealth, more production and better day-to-day life for Chinese citizens. As wages rise this new wealth could reach as much as 51% of the population by 2020 and 70% by 2030.

According to the consulting group Mckinsey, Chinese consumption is at present a relatively miniscule 38% of its productive GDP. In perspective, that is half of the USA where consumption makes up a colossal 70% of GDP and far smaller than Brazil, France, Germany and India all of which see consumption levels of 60% GDP. The slack is there but the regulatory structure to support consumption is not.

Present levels, if the necessary economic reforms are made, consumption should double by 2022 building a much larger middle class. The second generation of wealthy Chinese are estimated to be three times more populous than the baby boomers that have shaped modern America with the same set of sophisticated Chinese demands. That will change the world.

The Chinese president Xi Jinping has the responsibility of making or breaking China at this vital stage. So far Mr Jinping has promised sweeping reform sand on 18^th November 2013, tactically presented a 60-point reform plan that promises huge changes by 2020, highlighting that China “must actively and steadily push forward the breadth and depth of market-oriented reforms”.

As these changes are implemented, state enterprises, local governments, banks, well-connected supply lines as well as the communist party power itself will be disturbed. Yet, the opposite path may be the more devastating of the two evils.

That is the fundamental problem that China faces: on the one hand, China cannot continue growing the way it has and risk massive social unrest if these reforms are not carried out; on the other hand, by pursuing reforms the party is actively diluting its privileged role of controlling its funds, its position in guiding China’s development and increasingly its sway over the people.

 Patrick Corby