For Tax Avoidance China has a lot of hidden consumption which would mean the Economy is not so unbalanced

Data released this week showed that the mainland economy grew 7.7 per cent last year, suggesting that the imbalance is worsening, with consumption unchanged at just under 50 per cent of gross domestic product but investment growing.

Some economists, though, say official statistics have it wrong. To avoid taxes, consumers routinely get employers to buy stuff for them. That means the country has underestimated how much consumers spend and has exaggerated the lopsided nature of China’s US$9.4 trillion economy.

The implications of their research are far-reaching, at least statistically. If two economists are right, not only do consumers represent a larger part of the mainland’s economy than thought, but estimates of its household savings rates may be inflated, investment’s dominance may be overstated and China’s economy may be larger than current estimates.

Re-Estimating China’s Underestimated Consumption

28 page pdf download

Zhu Tian, an economist at the China Europe International Business School in Shanghai, and other economists say government estimates routinely overlook trillions of yuan in hidden household spending, particularly among the mainland’s increasingly affluent middle class. To compensate for lower wages, companies in the mainland routinely lavish employees with gifts ranging from mobile phones and household appliances to luxury cars and vacations.

By taking some pay in undeclared perks, employees lower their taxable income and companies reduce their taxable profits.

While the items are for personal use, once a company pays for them the expense is classified as a business cost and left out of consumption and GDP.

While housing consumption and company-paid private consumption have contributed to the underestimation of China’s household consumption, the most significant source of underestimation comes from the serious underrepresentation of high-income families in the household surveys, upon which household consumption expenditures in GDP are based. These surveys rely on randomly sampled households to record all monthly income and expenditure. These households receive only nominal compensation for participating. The aggregate household consumption expenditure is calculated by multiplying the average per capita consumption expenditure by the total population. High-income households are known to be under-represented because they have little incentive to participate in the surveys or to report their income and expenditure accurately. As a result, aggregate household consumption may be significantly underestimated.

Add those numbers, and household spending amounts to about half of GDP, more than 60 per cent when combined with government spending, according to Zhu’s study, which was published in September with Zhang Jun from Fudan University’s China Centre for Economic Studies.

Even at 50 per cent of GDP, the mainland still needs to get households to consume more domestic services if it wants to create a viable and growing middle class, says Kevin Lai, an economist at Daiwa Securities in Hong Kong.

“You can forever keep investing in new capacity, but where is the demand?” Lai says.

Zhu says that the mainland’s consumption levels are already healthy; it is Beijing’s emphasis on boosting consumption that needs re-examination.

“The focus of change,” he says, “should be on improving equity and the efficiency of investment, not stimulating consumption.”

In the paper, they have argued that official statistics underestimate China’s household consumption, and our re-estimation shows that the true consumption rate is more than 10 percentage points higher than the official figure. A consumption rate of 61.5% is still a lot lower than the world average, but for a fast growing developing country, it may be quite normal and also desirable. It is generally comparable to the level of consumption in Japan and the East Asian tiger economies during their fast growing years.

Even today, according to data from the widely used Penn World Table (PWT), the tiger economies still maintain relatively low consumption and high saving rates. Korea’s consumption has been around 60% of GDP since the mid-1980s; Hong Kong’s consumption rate has also stayed around 60% since 1960; and Singapore’s consumption has not exceeded 60% of GDP since the mid-1970s, with an average of 45% over the past 20 years, lower even than China’s. Taiwan has had a slightly higher consumption rate, but it has been below 70% for most years since the mid-1970s.

Indeed, partly because of this similarly low propensity to consume and high propensity to save, China may be on its way to becoming the next high-income East Asian economy.

They are also estimating that China’s economy is about 8% larger than government figures

SOURCE – South China Morning Post, Social Science Research Network working paper

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