Economic Outlook China: New directions

China’s economy has begun to rebound, but the pace of the recovery will be weak compared to previous standards.

Key indicators include a strengthening of Real GDP growth to +7.9% year-on-year in the fourth quarter of 2012, up from 7.4% in the third quarter. Industrial production is back above +10% growth and retail sales growth has also accelerated. In addition, the purchasing managers’ index bounced back into positive territory in October.

However, prospects of a robust organic growth rebound over 2013-14 still appear remote, as exports and non-state investment remain weak. Exports posted a +14.1% year-on-year increase in December, their strongest performance in over two years. However, this growth rate does not look sustainable given weak demand in the EU and the US, China’s largest export markets.

Even so, economic growth is unlikely to slow, with any slackening in investment growth cushioned by easing monetary and fiscal policies.
Real estate

The correction in the real estate sector is not over. With the economy showing signs of healing, the Chinese central government is likely to maintain tightening policies on the real estate sector to wring out the remaining excesses in the market. Even so, the overall policy stance for housing has eased to a certain extent since the middle of 2012, as evidenced by less-stringent policies for mortgages and property development.
Home purchase restrictions could remain for the next year to restrain the market, but lending policies are likely to be targeted to maintain lukewarm housing transaction volumes. Meanwhile the slowdown in commercial housing should be partially offset by the government’s infrastructure investment and low-income housing construction programme.

The good news is that home prices and home sales are rebounding. The new Chinese leadership has reiterated its support for a conventional mix of “proactive fiscal policy and prudent monetary policy.” They will most likely be successful in boosting growth from +7.8% in 2012 to +8.0% in 2013 and +8.3% in 2014. The implication for the construction market is that growth will continue, but expectations for the rate of expansion remain weaker than many have become accustomed to in the Chinese market, and the risks to the forecast remain higher than over the past decade.

The stabilisation in investment since mid-2012 has prevented China’s slip toward a feared hard landing, supported by a V-shaped recovery in infrastructure, which hit a trough with a -4% contraction in the first two months of 2012 and is now increasing by nearly +15% year-on-year.
Urbanisation, now presented as “new type urbanisation” supported by “information industrialisation and agricultural modernisation” have become important issues in leadership discussions. This has implications for the construction sector. In particular, is the launch of the “intelligent city drive”, which – relying on modern information technologies such as telecommunications and cloud computing – will involve the building of intelligent system serving a wide range of sectors from public security, healthcare, transportation and the power grid to food safety and household services.

Another result is the approval of the Zhongyuan Economic Zone development plan, a new regional economic development plan for 30 cities located in five central-northern provinces: Henan, Hebei, Shanxi, Anhui and Shandong. The idea is that these regions, all with great urbanisation, industrialisation and farm mechanisation potential, could pioneer the “new urbanisation.”

New direction

The end of the year saw a subtle shift of investment drivers in construction. While infrastructure growth was still strong, it was not gaining momentum because of the political drivers for stimulus following the leadership transition had subsided. Railway investment, for instance, fell from over +140% year-on-year growth in October to about +30% in November.

Fortunately, the troubled real estate sector showed its biggest acceleration of the year. A large portion of property investment growth in China, however, comes from land acquisition, which does not have much immediate impact on construction. For most of this year, the main construction driver will still be infrastructure.

Indeed, China has approved the construction of a second airport in Beijing to help ease congestion at the current main airport. The new airport will cost roughly US$ 11.3 billion, offering seven runways (six commercial, one military) and will have a capacity of 70 million passengers a year by 2025. Construction will begin in 2014, with opening scheduled for 2018.

Energy supply remains a constraint on China’s development, but the government has now laid out the criteria for nuclear power construction, following a temporary halt on approvals following the Fukushima disaster in Japan. The State Council has agreed that new plants will have to be in coastal areas for the next three years, and will be of third-generation design. Current nuclear capacity in China is 12.5 GW, with a further 30 GW under construction.

Outlook

While all segments of the construction industry are set to see slower growth, infrastructure investment will still lead the market, even a decade from now. However, as domestic consumption increases, and as the middle class continues to expand, housing will gradually overtake non-residential structures as the secondary mechanism of growth.

Within the non-residential structure sector, it is the industrial component that will grow most slowly, gradually losing share to commercial and institutional as the economy moves from export dependence to more domestic consumption. The retail sector in particular should improve as Chinese households reduce their extraordinary savings rate and purchase more goods and services.

The heyday of growth for China’s construction market is clearly over, and it is unlikely to recur at such a pace again. Indeed, apart from a modest cycle in the near term, the path of Chinese construction growth is one of moderation. However, this is typical of economic evolution, and even with a more moderate grow rate, the sheer size of this market will keep it among the most attractive in the world.