China’s economy rebounds more than expected

By Robert Xiao, Beijing director

Last week, China’s National Bureau of Statistics released its economic data for the first quarter of this year. Supported by strong consumer spending and a surprisingly large trade surplus, China’s Q1 GDP grew by 4.5% year-on-year (2.2% quarter-on-quarter). This reading exceeded the expectations of many and reflects the strength of China’s economic recovery, even if it remains unbalanced. In light of this, the EIU has revised its forecast for China’s annual GDP growth upward, from 5.7% to 6.1%. After the release of the first-quarter economic data, I immediately received many inquiries from our members, focused mainly on two aspects.

  • What were the main drivers of GDP growth in the first quarter and why did the numbers exceed market expectations?
  • What are the main challenges facing the Chinese economy for the rest of the year?

In terms of economic growth, China’s better-than-expected performance in the first quarter was spearheaded by a sharp rebound in consumer spending, especially in services, non-durable goods, and semi-durable goods. Specifically, consumption showed the strongest recovery after relaxation of the zero Covid policy in China, contributing 66.6% to actual GDP growth in the first quarter. Retail sales in March grew by 10.6% year-on-year, the fastest pace since July 2021. The service sector led this recovery with a surge in sales in the catering industry of 13.9% from January to March reflecting “revenge spending” after the lifting of Covid-19 restrictions. The EIU also observed that sales of non-durable and semi-durable goods outperformed durable goods spending, particularly in areas related to offline social activities like textiles and sports goods. Sales of gold, silver, and jewellery exceeded our expectation for a partial recovery in the luxury goods market, although this may reflect recent anxiety related to global financial turmoil, with gold prices rising in March following the collapse of Silicon Valley Bank. Although China does not publish quarterly national accounts data, the EIU estimates that the upside surprise in China’s goods export growth in March also drove much of the headline real GDP number, with strength in outbound shipments mirrored by robust readings for industrial output that month. In particular, the headline export figure in March (14.8%) was driven primarily by shipments to Southeast Asia, which grew by 35.4% year-on-year. These trends indicate that ongoing supply-chain diversification into (and trade rerouting via) Southeast Asian markets will sustain demand for Chinese goods, particularly intermediate inputs for use in local factories.

It is worth noting, however, that the strong economic performance reflected in the readings does not mean there are no hidden concerns. First, real GDP growth outpaced average real household income growth in the first quarter, suggesting that the strong economic performance has not yet translated into an improvement in household incomes among lower-income groups. Second, although the overall unemployment rate decreased marginally, a recent survey conducted by the People’s Bank of China indicated significant weakness in household confidence in future income, hinting at caution in future spending patterns. Third, China’s strong headline growth number has not translated into wider regional (or global) economic momentum. Average growth in goods imports fell by 7.1% year-on-year in January-March (in US dollar terms), affirming earlier warnings that China’s reopening would provide shallower support to the global economy in 2023 than in previous years. Firms operating within China therefore look better placed to benefit from the country’s post-Covid consumption rebound, partly as supply chains have developed onshore and demand has tilted towards domestic brands. By contrast, many overseas exporters may continue to struggle with tepid Chinese import demand in the coming months.

Next, let’s talk about the challenges worth noting for the Chinese economy in the remaining year. The EIU’s most recent report has identified three specific challenges to watch out for in 2023.

First, the latest data affirmed the EIU’s persistent concerns over the industrial sector in 2023: Real industrial value-added increased by 3% year-on-year in January-March, lagging behind improvement in services. This was driven by a few industries in which Chinese enterprises are enjoying an export boom including cars (13.5%) and electric machinery (16.9%). Alarmingly, however, our analysis finds that capacity utilisation levels in eight out of 13 manufacturing industries lie in the bottom quintile of historical data. These overcapacity strains probably reflect both the slowdown in the global economy as well as policy-driven capacity expansion in recent years. As demand slows, overcapacity is intensifying competition—especially among automakers—and will hold back future fixed-asset investment (FAI) by manufacturers.

Second, housing market challenges persist even as new home sales and overall prices have rebounded: Growth in new home sales (4.1% year-on-year in January-March) was probably facilitated by an acceleration in housing completions, which soared by 14.8% under government efforts to deliver unfinished projects. However, construction remains weak: property FAI slumped by 5.8% over the same period while new home starts declined by a deeper 19.7%. Land acquisition, a leading indicator of housing development activities, also continued to fall by double digits in the first quarter. We therefore maintain our expectation of a full-year contraction in property FAI, which will act as a net drag on the economy for a second consecutive year.

Third, China’s strong economic rebound has also failed to alleviate high youth unemployment: The monthly surveyed unemployment rate for those aged 16‑24 years rose sharply in March, to 19.6%, exceeding the 16.7% rate recorded in December 2022 (and posting its second-highest level on record). Structural factors explain some of this including a long‑standing supply glut of university graduates, even as Chinese factories have struggled with labour shortages. Nevertheless, we interpret higher youth unemployment as affirming our view of the uneven nature of China’s ongoing recovery. Sluggish investment by the private sector, which contributes nearly 90% of urban job creation in normal years, will continue to put a cap on youth employment.