Andrew Sheng & Xiao Geng: The making of China's consumer society

China's transformation from a manufacturing-driven and export-led economy to one underpinned by services and domestic consumption is firmly underway. And that's good news not just for China, but also for the future of the global economy.

The 2016-17 edition of the Blue Book of China's Commercial Sector by Fung Business Intelligence and the Chinese Academy of Social Sciences maps the change. China's retail markets reached $4.6 trillion in 2015. Household consumption has begun to climb and now exceeds 60 per cent of gross domestic product. Though the consumption growth rate has slowed to 10.7 per cent, the Blue Book projects that China's domestic market may reach CN¥50 trillion by 2020.

A key driver of this transformation has been internet technology. Building on heavy investments in public infrastructure, such as ports, airports, roads, rail, and telecommunications, the internet is now expanding rapidly the range of choices available to Chinese consumers, while lowering costs.

As a result, China's online retail sales have surged in recent years, from 6.3 per cent of total retail sales in 2012 to 12.9 per cent by 2015. By 2020, 40 per cent of all retail transactions in China may be conducted online. Online sales via mobile phones have jumped from only 1.5 per cent in 2011 to 55.5 per cent in 2015, and may reach 73.8 per cent by 2018.

China has now overtaken the US to build the world's largest online retail market. And despite growth in Internet use - the number of connected Chinese has risen from 253 million in 2008 to 688 million last year - there is plenty of room for further expansion.

This progress reflects innovations that enable broad-based consumption without the construction and maintenance of expensive brick-and-mortar outlets. In fact, growth in mobile sales has been driven by lower-income consumers, particularly in rural areas, where more than 81 per cent of Internet use occurs via mobile devices.

One key innovation has been multi-sided platforms like Alibaba, which, by providing access to production, logistics, distribution, and payments, challenge traditional business models - and with considerable success.

By connecting small and medium-size enterprises (which account for 80 per cent of employment in China) with the consumer base, such platforms erode some of the competitive advantage of large state-owned enterprises (SOEs).

In online retailing via mobile devices, Alibaba held an 84.2 per cent share of the market last year. In the business-to-consumer market, Alibaba's Tmall claimed a 58 per cent market share in the third quarter of 2015. In third-party online payment services, Alipay held 47.5 per cent of the market, while UnionPay, the only service developed by the banking community, had 10.9 per cent.

As a result, SOEs have begun to recognise that they need to re-tool to compete both in China and globally. Given that SOE reform has long been on China's agenda, this extra impetus may prove beneficial.

As China's e-commerce platforms become increasingly global, they may erode the dominance of giant multinationals in international trade. Already in 2015, China's cross-border e-commerce amounted to 17.6 per cent of the country's total trade.

All of this is great news for China; indeed, at a time of slowing performance in traditional sectors, online retailing could be a lifesaver. But it also represents a challenge for a government that has long relied on top-down decision-making.

China's e-commerce revolution enables consumers to decide where to put their money. They can choose not only what kinds of goods and services they deem worthwhile, but also where to live and receive an education. As a result, they have become a key driver behind the transformation of the housing market, supply chains, finance, and even monetary policy.

The task for China's leaders is to respond more effectively to citizens' needs and desires by accelerating progress on economic reform. Specifically, they must phase out obsolete supply chains saddled with overcapacity, bad debts, and falling employment.

China's transformation into a consumer society will have profound implications for domestic and global firms. At first, it might hurt some trading partners, particularly emerging economies that have long depended on Chinese demand. The decline in Chinese imports has already contributed to a decline in commodity prices. Moreover, foreign importers may find that Chinese-manufactured consumer goods now cater more to local tastes and preferences.

Whatever challenges emerge, the fact is that a prosperous China, underpinned by local consumers, will contribute to - and shape - a prosperous global economy. We can thank e-commerce for that.

Andrew Sheng is Distinguished Fellow of the Asia Global Institute at the University of Hong Kong and a member of the UNEP Advisory Council on Sustainable Finance. Xiao Geng, Director of IFF Institute, is a professor at University of Hong Kong and a fellow at its Asia Global Institute.

©Project Syndicate, 2016

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