The Savings Puzzle
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Key Capital Private, Investment Note #40
The Savings Puzzle
In May, Donald Trump travelled to Beijing for a summit with Xi Jinping, a follow-on from their meeting in Korea last year, where the two sides agreed to a détente in the first failed war of this Trump presidency, launched on “liberation day” last April. The summit didn’t produce much, but it was notable that the tariffs agreed in Korea, an average of 33%, have been left as-is. This is well above the level at the beginning of the Trump presidency, and historically high by any measure, but clearly, this is a level the Chinese find acceptable. Against this backdrop, China’s trade surplus in 2025 rose to a record €1.0 trillion.
This level of global imbalance in international trade is rare, and so it has been getting plenty of attention from both policymakers and economists. Rightly so, history tells us that when imbalances get this large, there are significant risks, per the Bank of England - “on each of the three occasions in modern history when [global imbalances] were higher, economic turmoil or crisis followed”. As well as the economic angle, the past decade has shown how persistent trade imbalances have social and political fallout.
At their most basic, trade imbalances are driven by the gap between what a country sells and what it buys. That gap is a function of the fundamentals of the macroeconomy – demographics, natural resources, developmental state, and the saving and investment decisions of households, firms and governments.
But despite the eye-popping surplus, the relentless export orientation of the Chinese economy is only partly a strategic decision; yes, the CCP have for years focused on developing ‘self-reliance’ across several vectors, most visibly in frontier technologies. But the fact that the product of all this investment must be exported isn’t entirely deliberate; it’s the consequence of weak domestic demand; households are saving too much in aggregate. Household consumption in China is only 40% of GDP, compared with a global average of 56% and as high as 70% in developed economies like the US. Even among developing economies, China is an outlier; its neighbour India, for example, has a much higher household consumption rate at 61%.
The big question then is why household consumption is so weak in China. The obvious place to start is with the 2021 property crash. No doubt this has played a role over the last couple of years, as will be familiar to Irish people of a certain age, much of Chinese household wealth was tied up in property values. But weak consumption predates the property crash; consumption as a % of GDP has been falling in China since the 1970s, despite GDP increasing more than 120x, so the root cause must be more structural.
In the 1970s, fears of overpopulation were rampant; books like The Population Bomb were bestsellers and were influential with both policymakers and the public. Gripped by hysteria, the CCP had been engaged in anti-natal campaigns since the early 1970s, but when Deng Xiaoping took over the leadership following Mao’s death, their efforts became more radical and ultimately led to the introduction of the one-child policy in 1979.
The consequence was a sharp drop in the nationwide fertility rate – from 5.5 children per woman in 1965-1970 to 2.6 between 1980-1985. The policy was strictly enforced in urban areas and partially implemented in rural areas. It obviously had far-reaching consequences for both Chinese society and the economy, but also a surprising effect on how Chinese households spend and, on their propensity to save.
Taking care of one's parents and elders is a big part of many East Asian Confucian societies, but it's the cultural bedrock in China; in fact, children are not just expected to provide assistance but are constitutionally required to. As with any legal rule, when you create a right, someone will eventually litigate it. And so incredibly, a lot of parents in China have successfully sued their kids for failing to provide financial assistance or for not visiting often enough.
Before the introduction of the one-child policy, a parent could reasonably expect that, between their children, they would provide financial assistance without overburdening any individual child. With the introduction of the policy, parents with only one child began to save at much higher rates to prepare for retirement. This only increased as the policy affected a second generation, what Chinese demographers now call the 4-2-1 family – Four grandparents, two parents, and one grandchild to provide for all of them. This societal pressure, combined with an underdeveloped social safety net and rising life expectancy, helps to explain why Chinese households save so much.
The policy ended in 2015 after 36 years, but the fertility rate has continued to decline, and household savings rates remain abnormally high. The problem of low domestic consumption is top of mind for the CCP. In December, President Xi told a top economic policy meeting that domestic demand needed to be the driver of growth in 2026. Unfortunately, in a classic case of fighting the last war, efforts so far have focused on increasing childcare supports and other pro-natalist policies, which might help long-term, but aren’t going to move the needle today or tomorrow.
Although by no means a silver bullet, a more helpful policy would be to introduce a meaningful social safety net, which might alleviate the need for high savings, increase household consumption, and thereby reduce reliance on exports and manufacturing. Unfortunately, despite its name, the Chinese Communist Party under Xi has been explicitly opposed to anything resembling “welfarism”. Which, even for those of us not constitutionally mandated to send our savings to our parents, is a pity. Any policy aimed at reducing the Chinese surplus should be encouraged; a rebound in Chinese domestic demand would be a genuine no-lose proposition for the global economy.
This is a Marketing Communication provided for general information only. It does not constitute investment research, advice or recommendation.
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