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China Slowing? Examining What That Means

Tom Hendrickson Feb 22, 2015


A popular narrative in today’s financial media is that the energy markets are experiencing a double whammy resulting in the downward pressure on energy commodities – simultaneously incurring a spike in supply and a drop in demand. I’d like to focus on the demand side of the equation today. While we’d be hard pressed to argue that the EU is under significant stress (which is creating many a bargain on a strict valuation basis – but that’s a piece for another day), which is affecting that huge pocket of global GDP’s demand, we’re less apt to blindly accept that the “slowing growth” in China is as big a factor as some pundits will have you believe.


In today’s piece, we want to look at some hard data related to China’s GDP in order to shake the assumption that China is a serious factor in stressing the price of Brent or WTI.

Let’s dive in.


First, Some Perspective


Unless you’ve been living under a rock or have despised macroeconomic-speak for the last 20 years to the extent that you’ve completely avoided any of it, you’ll know that China’s growth over the last two decades has been nothing short of astonishing. But those words don’t really do the growth justice, the numbers do. Look at the chart below, which maps China’s GDP since 1960, when its economy was less than any number of tiny U.S. states.


7% Growth In China Today Is a LOT Different Than 10 Years Ago


Depending on which forecast you believe, China’s GDP growth in 2015 will be in the 6%-7% range. Yikes, right!? That a huge drop from some of the boom years back in the mid-2000s when GDP was expanding at more than 12% (in 2007, for example). Well, yes and no. China’s running into the law of large numbers. Given the tremendous growth it’s experienced, the Chinese economy is now so large that adding to it and thinking about it in strictly percentage terms does the nominal GDP growth an injustice.

For example, in 2006 China’s economic growth was approximately 10%. That 10%, of course, is relative to the size of their economy at that time, which was $2.7T, so 10% added $270B in GDP to China and the world’s economy. Contrast this to 2013, when China’s economy topped $9T (more than 3x the size of 2006!). Even a 5% increase on a $9T base results in $450B in economic expansion, more than double the nominal growth back in 2006, when the percentage growth was much higher.

Below, you’ll see GDP growth by year.


Dig Into the Story Behind the Narrative


For us, we’re much more focused on the supply side and the unwillingness of producers (read: Saudi Arabia) to back off their current production levels in an effort to maintain market share when examining the drop in oil’s price. Digging into the narrative about China’s growth slowing uncovers that despite the percentage growth dropping, the size of the GDP expansion in nominal terms is still exceptionally impressive and is likely less of a factor in the drop in demand story than it is made out to be.

Often times, the financial media likes to distill exceptionally complex macroeconomic events and broad moves in huge asset classes into bit-sized captions and headlines. Be wary of this—we certainly are—there’s almost always more to the story.

Next week, we’ll address a common question in this discussion: how can an excess 1-2 million barrels of oil production daily, globally (in the context of 90 million / day), make the price drop by 50%+.

Have a great weekend.

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