Four Trends That Will Dramatically Change China

Four Trends That Will Change China's Financial Future
Four Trends That Will Change China's Financial Future

The financial media's coverage of China tends to focus on trade-related topics such as U.S. demands that China revalue the yuan, or the recent 48% rise in Chinese exports.

But to really get a handle on the possible risks and opportunities in China, investors need to keep track of powerful cultural and governance trends that could dramatically alter the financial and economic landscape in the years ahead.

Here are four longer-term trends that will change China, significantly affecting the finances of both its residents and trading partners in potentially unpredictable ways.

1. The Rise of the Labor Movement

Strikes at Honda Motor plants and unrest at tech manufacturing giant Foxconn are not isolated incidents, but rather examples of the growth of a new labor movement in China that seeks higher wages, better working conditions and meaningful respect for labor laws. Whereas in the past, the government's security forces broke up labor demonstrations, the new migrant workers know their rights and are tech-savvy, making use of China's 787 million mobile phones to send text messages about demonstrations and labor-law rights.

2. The Rise of Obesity and Diabetes

As the nation's traditional vegetable-based diet has given way to Western-style fast foods and other fat-and-meat-heavy fare, and as bicycles have given way to sleek subways and streets crowded with private automobiles, China's population has gained weight: Fully 30% of the populace is now overweight. A staggering 92 million Chinese people have type 2 diabetes, which is generally caused by a high-calorie diet and a sedentary lifestyle.

While China's central government has plans to offer basic health coverage to the 300 million citizens who currently have no coverage, the health care they will be offered is expected to be basic and won't address chronic diseases such as diabetes.

The International Diabetes Federation estimates that close to 500 million Chinese might develop the disease by 2030. Providing health care for such a vast population of people with "diabesity" will place a huge strain on China's economy and productivity.

3. Intellectual Property Rights Continue to Lag the Developing World

Though Microsoft's Windows and Office software are the dominant operating system and office-productivity suite in China and the rest of Asia, sales in Asia (excluding Japan) make up a mere 3% of the company's revenues.

Microsoft CEO Steve Ballmer recently summarized the situation bluntly: "China is in a class by itself: There is no software market to speak of." He said that Microsoft sees better opportunities in India and Indonesia.

Microsoft is not the only global company for which intellectual property rights and piracy are an issue. If China cannot create a culture of protecting intellectual property rights, global players will invest elsewhere, hurting China's prospects to advance beyond a reliance on cheap, low-profit-margin manufacturing.

Often lost in the discussion of piracy is the negative effect it has on home-grown entrepreneurs. If China's innovators can't profit from their own advances because of piracy and ineffective intellectual property protection, their incentives to invent will be undercut, placing a heavy drag on domestic innovation.

4. Limited Investment Alternatives Fuel Price Bubbles

Chinese households are prodigious savers -- China sports a savings rate of 38%, fully ten times that of the U.S. But Chinese savers have few choices on where to invest their money: They can either leave it in savings accounts which earn 2.25% interest, less than China's inflation rate of 3.1%, or invest in real estate or domestic stocks.

The money pouring into property has created a worrisome asset bubble in housing, which rose 12.4% year-on-year in May, according to China's National Bureau of Statistics.

As I reported earlier this year, Chinese authorities' attempts to cool the housing market have so far yielded little result. With so many people who no other options for investing their savings other than domestic real estate and the Chinese stock market, it's little wonder that both the Chinese stock market and housing market have both experienced massive bubbles.

Despite the general mood of optimism fueled by rising property prices in China, history suggests that all bubbles end badly. The bubble in Chinese stocks certainly did: The Shanghai Index has fallen more than 55% from its late-2007 peak.

The restrictions which effectively funnel China's vast savings into low-yield accounts that don't even keep up with inflation or into speculative asset bubbles in stocks and real estate boost the risks of serious losses for Chinese savers and investors. Widespread losses in real estate would cause long-term financial pain for Chinese households, many of whom have relied on the savings of three generations to buy those homes.