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China on-site: GDP growth worries and the opportunities in electric vehicles

China on-site: GDP growth worries and the opportunities in electric vehicles

04-10-2018 | Insight

Are the worries about China’s growth rate justified? In this edition of our China on-site series, we look at the role population growth and demographics play and highlight the importance of productivity. We also focus on the electric vehicle segment, a strategic sector in the industrial upgrade theme.

  • Victoria  Mio
    Victoria
    Mio
    CIO China, co-Head Asia Pacific Equities, Fund Manager Robeco Chinese Equities
  • Hauke Ris
    Hauke
    Ris
    Client Portfolio Manager Asia-Pacific Equity
  • Jie Lu
    Jie
    Lu
    Head of Research China

Speed read

  • GDP growth is leveling off, but should remain high; productivity growth will be key
  • New economy sectors are expanding and will support future economic growth
  • China is already the top market for electric and hybrid cars and is set to grow strongly

Concern: How sustainable is GDP growth?

Ever since China has embarked upon its journey from a largely agrarian country to a world economic leader, experts have been worried that the country’s high GDP growth could not last. Sometimes with good reason, but sometimes – in hindsight – these fears are not so justified.

For this year, we expect 6.5% GDP expansion. Growth is gradually leveling off, which is typical of an economy that is moving towards developed status, but in our view, it will remain high for quite some time. The reason is the country’s vast potential that is yet to be unlocked: a large part of the Chinese population is still living in rural areas and contributing below potential to GDP.

Source: Wind, Bloomberg, CICC Research, Robeco

Positive Spiral

The Chinese government continues to invest in infrastructure to connect the rural areas with the larger cities. This is a proven method to fight poverty, as it enables people to work in the cities, where they can take on better paid jobs, allowing them to get an education themselves and to pay for their children. It sets off a positive spiral.

GDP growth has two important pillars: population growth and productivity growth. The former is not helping China, which is faced with a population that is not growing as a result of its family-planning policies. An increasing dependency rate - the rate of unproductive to productive people, is putting a strain on economic growth.

China therefore has to rely on productivity improvement, shifting labor from non-productive to productive sectors. With strategy initiatives such as industrial upgrading, this endeavor is progressing nicely. As the figure shows, new economy sectors are expanding rapidly and will be an important pillar of economic growth for years to come.

Opportunity: industrial upgrade : electric vehicles

With its industrial upgrade strategy, China is upgrading its industry to become a high-quality manufacturer. It focuses on ten strategic sectors, one of which is the new-energy vehicles (EV) segment. As a result, the EV industry is full of opportunities for active investors.

As far as ‘energy-saving and new-energy vehicles’ (EVs) are concerned, the goal is for Chinese firms to take 80% of the domestic electric and plug-in hybrid vehicles market by 2025. In addition, China should have two local champions among the world’s leading new-energy vehicles by that time, and Chinese companies are to dominate in smart connected vehicle technology.

China leads

China is already the top market for electric and hybrid cars, accounting for 53% of global new-energy vehicle sales in 2017. We expect China’s EV sales volume to show a 32% Compound Annual Growth Rate (CAGR) from 2016 to 2025, and within that, the passenger EV segment to demonstrate a 38% CAGR.

An important boost is provided by the dual-credit system the government introduced last April. This scheme targets carmakers that produce more than 30,000 vehicles per year. It rewards or penalizes them with positive or negative credits based on their car models’ fuel consumption and driving range. If a carmaker does not produce any EV, for example, it will need to buy credits from an EV manufacturer to meet the government’s goal

EV demand outlook 2016-2025

Source: Robeco

The credit system is one of the government initiatives designed to push the development of the EV industry in China. Electric bus sales are set to show a 5% CAGR due to the government-led electrification of public buses. Commercial EVs are expected to record a 30% CAGR driven by demand from the logistics sector.

Shake out

The EV industry in China has long benefited from significant government subsidies that aim to cut down on pollution. However, having learnt some valuable lessons from the heavy subsidization of the solar power industry, the government will fade out its subsidies and promote market competition. This will lead to consolidation in the battery sector and only the domestic leaders with advantages in size and technology will survive.

As many of China’s top traditional carmakers are pouring resources into EV technology, and a flurry of international auto giants have announced plans to make EVs in China, the dynamics of the market are constantly changing. As a result, it’s too early to call the winners and losers. In our Chinese Equity strategies, we hold several stocks with direct exposure to the electric vehicles theme, i.e. car manufacturers, or indirect exposure, such as battery manufacturing equipment producers.

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