China lend May14aThe above chart is the blog’s simple guide to forecasting China’s auto sales.  We know from all the data that most Chinese are far too poor to afford to buy a car out of their income.  Average per capita consumer spending in the towns is just $2600/year, after all.  While rural incomes are only a third of urban ones.

Thus money spent on cars normally has to come from loans.  And cars are quite expensive.  So the loans depend on the wealth effect created by China’s property bubble.  The chart highlights how it works:

  • In 2008, before the crisis, lending averaged Rmb 400bn/month ($65bn) and car sales averaged 560k/month (purple number)
  • In 2009, lending doubled to Rmb 800bn/month and car sales to 850k/month (blue)
  • Then 2010-12′s red-hot property market meant car sales averaged 1150/month, even with lending lower at Rmb 650bn/month, as players used the windfall house price gains to finance high-value purchases (black)
  • But 2013 saw lending’s role return, as loans jumped to Rmb 750bn/month and car sales to 1300/month (green)

So far in 2014, lending has averaged Rmb 950bn and car sales 1500/month (brown).

But Q1 is always somewhat special, as the banks like to lend as much of their quota as early as possible in the year.  And in recent weeks, there have been clear signs that they government is turning off the loan tap, with new rules to restrict lending being introduced all the time.

Of course, the government may change its mind and allow lending to jump again.  This is what most analysts still expect.  But this would make solving China’s debt burden even worse, and it would also increase pollution in the major cities to even more dangerous levels.

And lets not forget that President Xi opened November’s economic policy conference, the 3rd Plenum, by announcing:

The good meat is all gone; all that is left are hard bones to chew”

These do not sound like the words of a man who intends to maintain ‘business as usual’ in terms of China’s economic policy.  The bad loan ratio of China’s banks is already rising, as the squeeze continues on the property sector.

Equally important is that sentiment is turning against property developers in financial markets – the junk bond market is now effectively closed to them, and shadow banking rates have reached 10% – 12%.

A prudent Base Case Scenario for the rest of the year would therefore be:

  • Once the government has the shadow banking sector under control, it will no doubt feel confident enough to cut official lending quite sharply
  • This could be as early as H2, given that the leadership needs to resolve its problem before 2017, before its reappointment is due in March 2018.

We could therefore start to see China’s car sales fall quite sharply later in the year, as the lending and housing bubbles start to be burst.