China's taxing problem
Although China gave us both its full December data-release as well as its 4Q GDP results, we learned only a very limited amount. For years now, the rule governing China's monthly data is 'no drama please'. And so it was again today: industrial production up 4.3%, electricity down 2.1%, retail sales 1.7%, urban investment 4.9% ytd. These are all weak, but also all quite tightly in line with consensus. None of them featured in my shocks & surprises index for China. My momentum indicators barely flickered: my aggregate consumption momentum indicator down 0.1SD, industrial momentum up 0.2SDs, monetary conditions up 0.1SD.
And it's much the same with the GDP result: the 4% yoy rise claimed for 4Q means the quarterly movement was almost exactly in line with historic patterns. Nominal growth of 8.2% yoy confirmed the quarterly growth is still sinking below trend; the more so when you ex-out the 14.2% yoy rise in trade surplus to find domestic demand up 7.9% and slowing; and when you further ex-out the fiscal deficit of 4.1% fo GDP, you get private domestic demand rising only 7.6% yoy.
But none of this matters much compared to the real problem rising to confront China, and worsened again in 2021. That is simply that the government has never been able to raise enough taxes to satisfy their ambitions.
This is not immediately obvious, because the central government certainly does look munificently funded. But the thing to remember is that the fiscal revenues all run up to central level, rather like what happens in the Sopranos. Below the boss, there are pyramids of levels of government, all of them kicking upwards. So provinces are less well financed than central govt, but are better off than those in the prefectures that answer to them, and so on down to county and township/village level, where things can get quite desperate.
All those further down the fiscal food chain must find their own finances, and selling land development rights is, of course the most lucrative way of doing it, which is a big reason why China's real estate sector grew so wildly, and why the real estate bankruptcies really matter.
What's clear from 2021's numbers is that the situation is getting worse. We have all the fiscal data until November, so have a very good idea about what going on. Revenues will have risen by about 10% in 2021, whilst nominal GDP 12.6%. This means revenues/GDP shrank to 17.6%, the lowest since 2006, and continuing a decline which has been underway continuously since the high point in 2016 of 22.4%.
The real estate industry is bust for the foreseeable future, so China's provincial and local governments urgently need to find a new source of finance. As China's government works out how to cope with the Evergrande & related bankruptcies, that's the next question that will be being asked in Zhongnanhai.
