The China Equity Paradox

In an earlier post we looked at Japan's boom & bust cycle. But just as Japan's economy was starting to falter, another Asian economy was taking its place. According to the World Bank the size of the Chinese economy in 1990 was just $847 billion, by the end of the century it was $2.2 trillion, and at the end of 2020 it was $11.8 trillion, the second biggest economy in the world after the U.S. Between 2000 and 2020, China's economy increased over 5.3x. Over the same period the U.S. economy grew just 2.0x. Yet the CSI 300 and its U.S. equivalent the S&P 500 had the same overall returns over that period, as shown below: 

While there are many factors and nuances behind why this may be so, one line of economic thinking believes the overarching reasons have to do with (i) relative strength of labor in China and (ii) higher corporate taxes (there vs here); with the former being by far the stronger driver. While median real wages in the U.S. has remained largely stagnant over the past two decades, wage increases in China has moved largely in lock-step with GDP growth. This brings us to the famous "elephant" chart from Branko Milanovic, a former lead economist at the World Bank and author of Global Inequality:A New Approach for the Age of Globalization,  covering the period between 1988 and 2008.

How labor and owners of capital fared generally over those two decades of globalization depended on where you were on the "elephant." Branko labels 3 points (A,B,C) as of particular importance. He explains that 9/10 people at point A are from Asian economies, mainly China and India. While 7/10 people at point B are from the older, mature OECD countries. Finally, point C consists of the global 1% or the biggest owners of capital, more than half of whom were in the U.S.

So, labor took in a larger share of corporate profits in China than in the U.S., where the lion's share of gains accrued to shareholders. So despite significantly higher growth in China, returns to equity were the same in both countries. Is it more complicated than that? Of course, but it is an interesting argument. Marx's revenge? 

Note, the above chart ended in 2008. It may very well be that China has moved closer to point B now more than a decade later. In which case, future equity returns could be better even as growth slows as the same labor-capital dynamics play out. But that's probably what the Communist Party is at pains to avoid.