China’s national bureau of statistics recently revealed that in 2015 the country’s gross domestic product (GDP) grew at its slowest rate in the past 25 years. This headline added to nervousness and even panic in global markets. But the recent economic volatility may be a signal of an important social shift in China. This transition, like similar transitions over the past 20-30 years, could prove to be a key driver of China’s future growth.

Understanding this transition means understanding how China’s national balance sheet has evolved over time. One way to interpret the recent GDP figures out of China is to conclude that China’s economic assets have become less productive. This has happened before – in the decades after the founding of the People’s Republic of China productivity dropped because people saw less incentive to work more productively.

Leaders such as Deng Xiao Ping in the 1980s, and Zhu Rongji through the late 1990s, took steps to reverse that. They removed guarantees in employment, housing, and pensions for Chinese citizens, while simultaneously providing new economic rights and privileges to the people. That in turn led to the explosive economic growth China experienced in the following two decades.

Since 2008, however, expansion of credit has made assets more expensive – and less productive. The long standing assumption by Chinese citizens of a ‘government put’ means that the state is now faced with the problem of unaffordable capital guarantees for a large swath of assets held all across the country. To manage that, it’s again changing the social contract by removing implicit guarantees on the value of market assets. It’s compensating through plans to create a nationwide health insurance system and a pension scheme.

But it will take several years for the new social contract to gain traction – and until it does, we expect volatility. In time, however, I believe that this type of inflection point will likely prove extremely positive for future growth of the Chinese economy. In fact, I would argue that this change in the social contract is a pre-requisite for a real, credible transition from a capital investment-led to a consumer-driven economy.

You can read more on where I think China’s brightest prospects might lie, in this article.

Disclosures:

This material is not an offer, solicitation or recommendation to purchase any security. Nothing contained in this material is intended to constitute legal, tax, securities or investment advice, nor an opinion regarding the appropriateness of any investment, nor a solicitation of any type.

The general information contained in this publication should not be acted upon without obtaining specific legal, tax and investment advice from a licensed professional. The information, analysis and opinions expressed herein are for general information only and are not intended to provide specific advice or recommendations for any individual entity.

Russell Investments is the owner of the trademarks, service marks and copyrights related to its indexes.

Russell Investments is a trade name and registered trademark of Frank Russell Company, a Washington USA corporation, which operates through subsidiaries worldwide and is a subsidiary of London Stock Exchange Group.

Copyright © Russell Investments 2016. All rights reserved.

This material is proprietary and may not be reproduced, transferred, or distributed in any form without prior written permission from Russell Investments. It is delivered on an “as is” basis without warranty.

UNI – 10846

© Russell Investments

Read more commentaries by Russell Investments