China's Consumption Slump May Be Bottoming Out, But Downside Risks Remain

Consumption remains the weak point for China’s economic recovery. Headline figures in May suggest that China’s consumption has finally started recovering after the slump caused by COVID-related restrictions during the past months. However, this recovery is being driven by a subset of indicators and is therefore not indicative of stronger consumer confidence. 

What’s happening?

• The latest data suggests an improvement in retail sales. While growth remained negative in May, having registered a -6.7 percent y-o-y drop, it softened compared to April, when it contracted by -11.1 percent.

• The recovery is being driven by a subset of indicators, such as online retail sales, sales of food products, and car sales. But heavy lockdowns and mobility restrictions have continued hampering spending in many regions, and this has especially affected in-person consumption, as reflected by the continued decline in catering sales. Meanwhile, the persistent property downturn continues to negatively impact sales of new homes. 

• Unsurprisingly, consumer sentiment continues being weak. May’s consumer confidence index (86.8) remained largely unchanged from April (86.7) and well below the 100 mark (a

What it means

• Don’t trust headline figures! China’s consumption is indeed recovering, but a deeper look at the data reveals that this is mostly being driven by a subset of indicators. Online sales, for instance, rebounded strongly from -10.2 percent in April to 2.9 percent y-o-y in May thanks in part to a relaxation of COVID restrictions and the resultant improvement in logistics. But online sales represent less than one-third of total retail sales; and while COVID restrictions are being relaxed, they have continued hampering in-person consumption. Catering sales, for instance, continued their downward trend with a -21.1 contraction in May.

• While Chinese authorities are stepping up policy support, this is not having the intended effect in some sectors. For instance, new home sales showed only marginal improvement, and still declined by -41.7 percent y-o-y in May. This is happening despite the relaxation of property restrictions over the past month and the series of measures that authorities have implemented at the local level to boost sales. In comparison, the auto sector, which has benefitted from several subsidies, rebounded strongly and almost returned to positive territory, with the y-o-y decrease in passenger car sales having softened from -43.4 percent in April to -1.4 percent in May. Also, local authorities in 16 provinces have been distributing consumer vouchers which are estimated to be worth RMB 5.34 billion. However, this will do little to offset the downward pressures on household consumption, which was equivalent to RMB 43.9 trillion in 2021. For vouchers and other types of subsidies to work as effective stimulus measures, they must be significantly larger in size and come from the central government given the tight budgets of local governments. 

• China’s ongoing weakness in the labor market presents a downside risk, as this not only impacts income levels and willingness to spend, but also consumer confidence. The urban unemployment rate in May dropped to 5.9 percent, a slight improvement from April’s 6.1 percent, but still well above the official annual target of 5.5 percent. The unemployment rate for China’s 31 largest cities surpassed its 2020 highpoint and reached 6.9 percent in May. Meanwhile, the unemployment rate for 16–24-year-olds reached 18.4 percent (0.2 percentage points higher than April) – also a historic high. Overall, the number of new jobs created over the first five months of the year contracted by 7.8 percent compared to the same period last year

What comes next?

• The experience from 2020 suggests that post-COVID recovery in household expenditure tends to be slower than industrial production and fixed investment. Moreover, labor market weakness and slowing income growth will likely persist in 2H, thus weighing on consumer sentiment. 

• We expect to see an increase in car sales in 2H on the back of policy support measures. Indeed, Chinese authorities recently decided to cut the purchase tax for some passenger vehicles, a measure that is expected to result in RMB 60 billion of total savings for buyers and stimulate spending as seen during previous tax reductions (e.g.: 2009-10, 2015-16). 

• A broader recovery in consumption will require more time. Policy support will be necessary, but more effective than that will be the further relaxation of COVID restrictions in order to reduce uncertainty. Recent measures and declarations by Chinese authorities suggest that they are aware of the importance of doing this to accelerate the country’s economic recovery. However, this will likely be balanced with the need to maintain a stable, COVID-free environment for the 20th National Congress of the CPC later this year. 

• College graduation season has just started and more than 11 million graduates from both domestic and overseas colleges will be competing for jobs in large cities. High unemployment levels among the younger generation, if long lasting, would not only drag on consumption growth but also raise the risk of social instability, so it may drive the government to implement stronger measures to reboot service sector growth.