2016 a year of adjustment for China and the global economy

I was in Shanghai earlier this week, on the first of what will be several trips to the region in 2016, to give the opening address at UBS's 16th Greater China Conference. This event is a great forum which brings together industry experts and policymakers and our own analysts and economists to develop real insights into the challenges and opportunities that lie ahead.

See below for some key extracts and please let me know your thoughts. 

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2015 closed in a bumpy way and 2016 has opened in the same way.

Looking at 2016, at UBS we believe this will be a year of adjustment, both for China and the global economy. On China, we should be realistic and understand that challenges should be expected when you are building what will likely become the world’s largest economy.

The road is not always smooth. 

Some of the shifts that are playing out in the economy today are negatives for growth.
Some adjustments in property destocking and construction capacity are inevitable… as well as excess capacity in some industrial and mining sectors, which could suppress fixed investment and industrial demand.

But, we are entering into a phase where the quality of the things we do has a much more important impact than the quantity.

This week, UBS published a paper on the impact of climate change on the new middle class globally, with one of the biggest impacts potentially in Southeast Asia. The environment matters. 

China is, of course, very aware and played a full part in last month’s Paris Climate agreement. Those of you who were in Beijing during the red alert will know the size of the problem.
So there are challenges. But where there are challenges, there are also opportunities and we have to put into a wider global context what is happening in Asia.

The Chinese economy is undergoing the fundamental structural shifts you would expect as it matures. 

In fact, there are some very positive developments that will underpin long-term prosperity.
First, let's take a look at the impact some of the external factors will have.
GDP growth globally is still expected to improve slightly this year, with the US at around 2.8 percent, which is positive for China, as American consumers are expected to recover confidence. 

For China we expect 6.2 percent growth and, to put that in context, we see the Eurozone growing at 1.8 percent. Overall these numbers may be too rosy. Growth is of course very important, but in my opinion when we talk about China, by obsessively focusing on one metric, the percentage growth, some important truths get obscured. Particularly at this time it is more important to focus on the medium to long term rather than the short-term targets.

Let's step back for a moment and do the arithmetic. 
Since China opened up, its economy has grown - on a PPP basis in current US
dollars – roughly from $1 trillion to $20 trillion in 25 years.
What next?  Well, if we assume a 5 percent growth for the next 14 years, then in that time China will add another $20 trillion to its economy. 
So in around half the time, it will add more than the entire total of the last 25 years.
Effectively, China will add another whole China to the global economy.
Or if you prefer, adding Brasil, Russia and India, as well as Nigeria, Saudi Arabia and Mexico.
UBS sees four key shifts that will underpin this growth in China.
First, we see a continued move towards a service economy.  Services are now more than 50 percent of GDP, up 10 percentage points in a decade. And second and closely connected with the shift to a service economy, we see strong growth in consumption, especially discretionary consumer services.

For example, mobile Internet traffic doubled last year.  Movie ticket sales were up 50 percent. Air travel is up 15 percent.  Singles Day again broke all online shopping records with sales up 60 percent to over $14 billion, with a remarkable 70 percent ordered from mobile devices. Maybe not so surprising when you consider that Alibaba now has 386 million customers, more than the entire population of the US.  Which helps explain why China is the world’s largest e-commerce market.

Third, we see investment being channelled away from industries with overcapacity. The end of the commodities supercycle has had knock-on consequences for Chinese industries. As well as retrenching, some are adapting. Chinese steel exports were over 100 million tonnes last year for the first time. Of course, this is not just about China. A lot of countries in the region are feeling the knock-on impact of the slowdown. 

Finally, we see China increasing its outward direct investment. And with Qualified Domestic Institutional Investors (QDII) overseas investment standing at just $90 billion, compared to the $9 trillion in Chinese retail domestic deposits, China has not really started yet.

The increasing connectivity ‘one belt, one road’ will play out in investment as well as trade. And not just in commodity and resource investment, but we will also see Chinese companies with global ambition moving on to the world stage.

Asian M&A was over a trillion dollars for the first time in 2015, half of that relating to China. And given the relative state of, say, the Chinese and European economies, I suspect we will see investment opportunities being taken there. 
These four big shifts will be underpinned by the steady progress in building capacity and financial infrastructure.

As you know, the Renminbi became the first currency of a developing country to join the special drawing right basket of the International Monetary Fund. This reflected the currency’s importance as the second most-used currency in global financing and the fifth most-used in international payments. And it is another step on the way to full capital account convertibility and full reserve currency status.

Bond markets in China continued to grow and deepen. Issuing debt was $2.5 trillion in 2015, making it the world's third largest, behind the US and Japan.  Of the $7 trillion onshore credit market, foreign investors hold just a tenth, so there is room for growth. A growing bond market matters because, as corporate China matures, the sector will look for more sophisticated instruments to fund its expansion. We also see equity instruments like derivatives, especially futures, developing well. 
China’s new IPO registration system, which I’m proud to say UBS has been advising on, will standardize the process, improving speed and transparency.  And with foreign ownership in A-shares less than 1.5 per cent, there is room for very strong growth there too.

There are many proof points that China is creating wealth and moving forward.

The one example I'd like to mention as a great achievement is the rising number of Chinese female billionaires. There were 22 in 1995.  Our recent Billionaires Report found there were 145 last year.  And over 50 percent of them are self-made, far more than the US where it is less than 20 percent, or in Europe where it is less than 10 percent. But also we look at the expanding economy and the development of the financial sector. And lastly we see the continuing process of urbanization and the seven million new graduates this year. 

It's important that all of these developments ultimately lead to a more efficient allocation of capital and allow the private sector to develop. China has been very consistent in its development and should continue to do that.

For more than 50 years, Asia has been a central focus of UBS's global strategy.

We were the first institution to become a QFII (Qualified Financial Institutional Investor) and our Greater China Conference is only another example of our commitment to this region.

Despite the short-term issues to be navigated, UBS is very confident in China’s long-term future. That's the reason why we plan to double our headcount here over the next five years. We aim to further grow our businesses across the board and also to develop our business service centres in Shanghai and beyond. We already have a leading advisory business in Asia Pacific with a strong China component. In this respect, we were delighted to make our investment in Postal Savings Bank of China last month. Our securities business is one of the top domestic franchises. We are the number one equities house in the region, as voted by you, and the number one arranger of deals for SOEs (State Owned Enterprise). It's clear that our Investment Bank franchise in this region was a great contributor for the UBS recently being named as IFR's prestigious global Bank of the Year. In Wealth Management, we were pleased to open a new branch in Beijing in 2014 and we will open another new branch in Shanghai later this quarter. I have seen research that says there are over one million High-Net-Worth individuals with over 30 trillion renminbi in assets. We expect double-digit growth in this market. China-related business contributes a significant proportion of our regional revenue and we believe that will only continue to grow as China continues to reform its markets and open up to foreign investment.
In this respect, the people attending this conference play an important part in China’s development. The government and regulators set the policies for growth. 

The financial services industry intermediates between sources and users of capital, and helps allocate it efficiently. But it is our clients - companies and entrepreneurs - that ultimately create the wealth that improves the lives of the Chinese people.
I can assure you that UBS will continue to stay close to our clients and help them navigate the next important chapter in China's history.