McKinsey Suggests Plan For China Economy to Shift to 50% Household Consumption

Shifting China’s economy towards services would do much more than strengthening the social safety net as a way to boost the miserly share of consumption in GDP, McKinsey Global Institute (MGI) said on Friday.

The 74 page report is here in pdf form and requires a free registration to view it. “If You’ve Got It, Spend It, Unleashing the Chinese Consumer”

The three broad categories for the recommendations are rebalance income and investment (boost 3.4-6%), directly stimulate (boost and expand the social safety net.

The conventional wisdom is that Chinese spend so little because they have to pay for health and education out of their own pockets and can look forward to at best a flimsy pension.

MGI estimated that reducing precautionary savings by reinforcing the social safety net would add only 0.2-1.1 percentage points to China’s consumption share by 2025. The smallest impact of the three recommended broad actions.

Many of the policy changes that MGI identifies do not directly relate to consumer behaviour but rather aim to encourage more efficient investment and capital allocation, which would ultimately create faster growth in private income.

If China could raise the share of services in the economy to South Korea’s level of 55 percent — instead of the government’s current goal of 49 percent — the resulting job and income growth could boost the consumption share by up to 4.8 percentage points

MGI finds that a comprehensive program of reform would also enrich the global economy with $1.9 trillion a year in net new consumption, boosting China’s share of the worldwide total to 13 percent—4 percentage points higher than its share without further effort. China’s household income would also be 15% higher than current trends. Higher consumption will make China’s growth sustainable.

The implied increase in GDP would be 0.8-1.2% over the projected 7.7% from 2010 to 2025.

MGI set out a wide range of policies that it said could raise the share of private household consumption to 45-50 percent of gross domestic product by 2025, or 6-11 percentage points more than the rate of 39 percent it is likely to reach on present trends. Consumption made up just 35.3 percent of China’s GDP in 2008, according to the National Bureau of Statistics. Japan’s consumption share is 55 percent and the United States’ is 71 percent, MGI noted in a report.

If China were to accomplish the transition mapped out by the report, its share of world consumption would increase to 11-13 percent in 2025, up from 9 percent projected today, according to MGI. In the process, China would account for more than a quarter of all new consumption worldwide over the next 15 years.