Berr China And India Outlook

BERR ECONOMICS PAPER NO. 5

China and India: Opportunities
and Challenges for UK Business
FEBRUARY 2009

BERR ECONOMICS PAPER NO. 5

China and India: Opportunities
and Challenges for UK Business

FEBRUARY 2009

The views within BERR Economics Papers are those of the
authors and should not be treated as government policy.

Contents

Contents
Lists of Figures, Boxes and Tables ii
Acknowledgements iv
Foreword v
Executive Summary vi
1 Introduction 1
2 Opportunities for UK Business 3
2.1 The Growth of China and India 4
2.2 China and India’s Changing Consumer Market 14
2.3 UK Export Performance to China and India 25
2.4 Doing Business in China and India 36
3 Challenges for UK Business 45
3.1 The Growth of Chinese and Indian Exports 46
3.2 Education in India and China 53
3.3 Innovation in India and China 65
3.4 Chinese and Indian Businesses in the Global Economy 80
4 Conclusions 90
References 93

i

List of Tables and Figures
List of Figures
Figure 2.1: Historical Share of World GDP 4
Figure 2.2: China and India’s GDP 5
Figure 2.3: Projected GDP 6
Figure 2.4: Projected GDP Per Capita 7
Figure 2.5: Distribution of Urban Households by Income Group 13
Figure 2.6: Forecasts of Chinese and Indian Urban Consumption 15
Figure 2.7: Patterns of Urban Consumer Expenditure 16
Figure 2.8: Chinese and Indian Merchandise Imports 26
Figure 2.9: Chinese and Indian Service Imports 28
Figure 2.10: UK Merchandise Trade with China and India 29
Figure 2.11: UK Services Trade with China and India 30
Figure 2.12: Shares of China and India’s Goods Imports 31
Figure 2.13: Contributions to Change in UK’s Exports to China 32
Figure 2.14: Contributions to Change in UK’s Exports to India 34
Figure 2.15: Shares of China and India’s Services Imports 35
Figure 2.16: China and India’s Stocks of Inward FDI 37
Figure 2.17: Problematic Factors for Doing Business in India and China 39
Figure 3.1: Chinese and Indian Goods Exports 46
Figure 3.2: Chinese and Indian Service Exports 48
Figure 3.3: Offshoring Location Preference by Function 49
Figure 3.4: China’s Processing and Non-Processing Exports 51
Figure 3.5: Chinese and Indian Enrolment in Higher Education 54
Figure 3.6: Chinese and Indian Higher Education by Subject 55
Figure 3.7: Comparison of Enrolment Rates in Tertiary Education 56
Figure 3.8: Supply of Skilled Professionals in Selected Countries 59
Figure 3.9: Skills Gaps in Chinese and Indian Workers 60
Figure 3.10: Comparison of Enrolment Rates 65
Figure 3.11: Current Foreign R&D Locations 67
Figure 3.12: Most Attractive Foreign R&D Locations 68

ii

Figure 3.13: R&D in Selected Countries, 2004 69
Figure 3.14: Patenting Trends in India and China 70
Figure 3.15: Regional Distribution of Selected Industries in China 84
Figure 3.16: Chinese and Indian Outward FDI Flows 87

List of Boxes
Box 2.1: Changes in Chinese and Indian Government Policy 9
Box 2.2: What is a Middle Class Level of Income? 12
Box 2.3: Case Study - Marks and Spencer 18
Box 2.4: Brand Awareness In China and India 19
Box 2.5: Growth in Car Ownership 21
Box 2.6 China and India’s Regional Towns and Cities 25
Box 2.7: Case Study – JCB 38
Box 2.8: Lessons From Successful SME’s 42
Box 3.1: Vocational Training in China and India 57
Box 3.2: Case Study – Benoy 61
Box 3.3: British Education Institutions in China and India 63
Box 3.4: Case Study – Fiberweb Plc 71
Box 3.5: Case Study – AWI Group 82
Box 3.6: Infrastructure Congestion in Bangalore 86

List of Tables
Table 2.1: Estimates of the Size of China and India’s Middle Class 10
Table 2.2: China and India’s Economic Classes 11
Table 2.3: Forecasts of Car Ownership 21
Table 2.4: Ownership of Consumer Durables 23
Table 2.5: Doing Business in India and China 44
Table 3.1: Domestic and Foreign Value-Added in Exports 52
Table 3.2: Estimates of Skilled and Unskilled Workers 56
Table 3.3: Innovation Output in Selected Countries 70
Table 3.4: Key Communication Metrics for Selected Countries 76
Table 3.5: Regional Distribution of Selected Industries in India 83

iii

Acknowledgements
The following officials have contributed to this paper:

Daniel Mawson, Carol Murray, James Watson, Jenna O’Byrne

BERR is also grateful for comments, observations and discussion from a
number of academics, businesses and organisations, in particular:

Adam Cross

Benoy

British Chambers of Commerce

Bob Lyall

CBBC

CBI

Fiberweb

JCB

UKIBC

iv

Foreword
Globalisation has been good for the UK economy. It has created huge benefits,
both in lower costing goods of improved variety and greater quality, and larger
markets into which UK businesses can sell their goods and services. But as
recent events have shown, globalisation also brings with it new challenges and
uncertainties.

The international financial crisis has demonstrated the need for greater
international co-operation to strengthen the global financial system, alongside
the shorter term measures we have undertaken in the UK to improve businesses
access to finance.

But in the longer term, it is the successful incorporation of emerging economies
such as China and India which presents the greatest challenge for globalisation.
Their rapid economic rise is leading to a re-balancing of economic power around
the world, forging new economic linkages through trade and investment flows
and changing how businesses see the global economy.

The Manufacturing Strategy highlighted the longer run implications for UK
business from the growth of these countries, both as potential markets and for
the important role they play in global value chains. It emphasised the importance
of UK firms investing in the skills and technologies needed to compete with them
on quality rather than price.

This report examines in more detail the potential opportunities from the rise
of India and China, bringing together the latest data and research. Its findings
reinforce the message that despite the recent slowdown these two countries
represent a tremendous opportunity for UK business, one which successful
British firms, both large and small, are already benefiting from.

The report also highlights how protectionist fears about the competitive threat
from these countries are often overdone. While China and India have continued
to develop their skills and innovation capabilities, in many areas a substantial
gap remains between them and the UK, which offers a substantial opportunity
for UK firms wanting to expand their interactions with these countries.

Vicky Pryce
Chief Economic Adviser and Director General, Economics
Department for Business, Enterprise and Regulatory Reform

v

Executive Summary
The rise of China and India as major economic powers has been central to
the latest phase of globalisation, creating huge opportunities for UK business.
However it has also created anxiety about the future of jobs and businesses in
the UK.

This report seeks to address this by looking at a number of key issues which
arise from two broad questions;
●● What are the opportunities for UK business from the growth of China and
India as a potential market?
●● What are the challenges for UK business from the rise of China and India as
potential competitors?

China and India are expected to continue their rapid growth
Although they face a number of downside risks, the Chinese and Indian
economies are still expected to continue their rapid growth over the next few
decades. By 2050 they are forecast to be the first and third largest economies in
the world respectively. (Section 2.1)

Their rapidly growing middle classes are already a large consumer market in
their own right and will account for the bulk of their four fold increase in real
consumer spending over the next twenty years. These households aspire to
developed country standards of living and demand world class goods and
services.

Cultural shifts, coupled with rising disposable incomes are driving a shift in the
pattern of consumer spending. The share of spending on essentials such as food
is declining while the importance of areas such as personal products, private
education and healthcare is set to rise significantly. (Section 2.2)

Which has helped drive up UK exports
On the back of their strong economic growth Chinese and Indian imports of
goods and services have risen rapidly. UK firms have been taking advantage of
these new opportunities, since 2002 UK exports to India have grown by 14% a
year, while exports to China have grown by 19%.

The content of UK exports to these countries reflects our competitive advantage
in higher skill manufactured goods, as well as financial and business services.
However, while the UK has maintained or improved its market share of Chinese
and Indian service imports, it has seen its share of their goods imports decline.

Analysis of the latest trade data suggests that this has been driven by a decline
in UK sector share, rather than a shift in Chinese and Indian import demand
away from the types of goods and services we export. (Section 2.3)
vi

But doing business in China and India remains challenging
In order to take advantage of these opportunities, UK companies must navigate
a challenging business environment. The World Bank ranks China and India as
the 83rd and 122nd easiest places to do business in the world1, with corruption
and bureaucracy still significant issues.

Although they are starting to make inroads into the problem, protection of intellectual
property rights remains a major issue for UK firms operating in China and India;
with the state of enforcement measures lagging behind that of the law.

Lessons from successful firms in China and India strongly point towards the
importance of taking the long view of the market. Firms need to thoroughly
research the market and invest in localising both their products and the people
who deliver them. (Section 2.4)

Meanwhile China and India’s exports have surged
Over the last decade Chinese and Indian exports have risen by 20% a year. China
is now the largest exporter of Information and Communication Technology
products in the world, while India dominates the market for off-shoring of IT
enabled business services.

However these impressive trade figures overstate the extent to which China and
India have moved up the value chain. For example, over half of China’s exports
are from the processing trade, for which the value added of the domestically
produced content tends to be small.

Once appropriate adjustments are made, the average sophistication of
domestically produced goods is found to be low. The data also suggests that
Chinese firms are targeting further down the quality ladder than their competitors
in the advanced economies. (Section 3.1)

But improvements in education and innovation performance
need to continue
China and India have dramatically expanded their higher education systems
which now produce millions of graduates a year, and their spending on R&D has
also increased substantially. But in order to fulfil their long run potential both
countries need to do more.

In education this means building on their graduates technical skills, by ensuring
they also develop the broader competencies needed to succeed in the global
economy. Their rapid growth has created a huge demand for talent, which
already outstrips supply. (Section 3.2)

1 World Bank: Ease of Doing Business Index (2008). For reference the UK is ranked 6th in this survey.

vii

China and India: Opportunities and Challenges for UK Business

On innovation, while China and India now rank among the top five locations for
R&D related FDI, obstacles such as poor IPR protection and access to finance are
constraining domestic innovation. (Section 3.3)

And challenges to their future growth are emerging
The motor behind China and India’s economic rise has been export orientated
regional clusters specialising in particular activities. However this model of
development is now coming under increasing pressure, particularly in the
fastest growing regions.

Shortages of skilled labour are generating double digit wage growth, while
infrastructure often fails to keep pace with economic growth. Combined with
exchange rate appreciation and higher transport costs, China and India’s low
cost advantage is being eroded.

Although they are optimistic about future prospects, Chinese and Indian
businesses see a range of potential constraints on their future growth. This is
driving more strategic overseas investments, mergers and acquisitions aimed
at securing market access and improving their skills and innovation capabilities.
(Section 3.4)

Implications for Government policy
These findings reinforce the importance of government’s approach to globalisation
as both an opportunity and a challenge for the UK. Looking in particular at China
and India the main policy lessons are;
●● To continue to resist calls for protectionist measures based on flawed
comparisons with China and India. Although large, these countries are still
developing and we should engage with them further to reduce the barriers
to doing business.
●● Success in China and India requires taking a long term view, developing
local connections and expertise. This requires tailored assistance from
government to UK firms operating there, which helps mitigate the costs and
risks associated with this approach.
●● We need a deeper understanding of China and India’s evolving role in global
value chains, how their businesses activities can complement rather than
compete with those of UK firms, and how best to use these synergies to
compete in the global economy.

viii

1 Introduction
“Do not despise the snake for having no horns, for who is to say it will not turn
into a Dragon?” The Water Margin

Globalisation2 is arguably the most important factor currently shaping the world
economy. Although not a recent phenomenon (waves of globalisation can be
traced back to the 1800s) the changes it is bringing about now occur far more
rapidly, spread more widely and have a much deeper impact than previously
was the case.

The most recent wave of globalisation has witnessed substantial growth
in international trade, capital flows and movements of people. It has been
underpinned by three key developments:
●● The adoption of more open economic policies.
●● Technological progress (particularly in the areas of transportation and
communication).
●● The integration of rapidly growing emerging economies into the global
economic system.

The rise of China and India has been central to this story. Spurred on by their own
economic reforms, coupled with the increasing fragmentation of global supply
chains, these countries have ridden the crest of the latest wave of globalisation.
Their growth has helped lift millions out of poverty (an estimated 400m in China
alone since 19903), and at the same time consumers in the developed world have
benefited from a more diverse range of cheaper goods.

However, China and India’s rise has also created considerable anxiety about
the future of jobs and businesses in the UK. People see these countries’ huge
pools of low cost, but increasingly more skilled labour, and fear that in time they
will completely eclipse the UK’s competitive advantage in high skill, high value
added products.

In this paper we examine the foundations of these concerns in more detail.
We look at their progress both in terms of increasing their skill levels and
the innovation capabilities of their companies. Although we find evidence
of substantial improvements in these areas, China and India still lag behind
advanced economies such as the UK.

More importantly, China and India also represent a tremendous opportunity
for UK businesses as they are the fastest growing markets for the types of high
value added goods and services we excel at. A large and rapidly growing middle
class has developed in these countries; these households are increasingly

2 Here we define globalisation as “the process through which an increasingly free flow of ideas, people, goods,
services and capital leading to the integration of economies and societies” (Köhler 2002).
3 World Bank (2006a).

1


internationalised, aspire to developed country standards of education and health
care, and demand world class goods and services.

Structure of the Paper
The focus of the paper is on answering two main questions;
●● What are the opportunities for UK business from the growth of China and
India as a potential market?
●● What are the challenges for UK business from the rise of China and India as
potential competitors?

Chapter 2, on opportunities; considers China and India’s historical economic
performance and how they are expected to grow in the future. In particular we
examine the important role urban middle class consumers will play in shaping
consumer demand. This is followed by an analysis of their import demand and
the UK’s export performance to these markets. It then examines the challenges
faced by firms operating in India and China and how successful UK firms have
overcome them.

Chapter 3, on challenges; provides a critical evaluation of the evidence on the
technological sophistication of Chinese and Indian exports, as well as the extent
to which they have improved their skills and innovation capacities. We discuss
how the model of export orientated industrial clusters has helped them grow
rapidly, but now presents challenges for the global ambitions of their firms in
the longer term.

Finally Chapter 4 concludes by considering the broader policy implications of
this work.

2

2 Opportunities for UK
Business
SuMMARy

Over the next three decades China and India are projected to become the 1st
and 3rd largest economies in the world respectively, but remain relatively poor
in terms of per capita incomes. They will also exhibit significant variation in
incomes between rural and urban areas, and between fast growing coastal
regions and inland areas.

Their rapidly growing middle classes are already a large consumer market in
their own right and will account for the bulk of their four fold increase in real
consumer spending over the next twenty years. These households aspire to
developed country standards of living and demand world class goods and
services.

On the back of their impressive growth performance, China and India’s import
demand has risen by an average of 18% a year since 1992. Over the same
period UK exports to India have grown by more than 9% a year, while exports
to China have grown nearly twice as fast again. The UK has increased its
share of Chinese and Indian service imports, but seen its share of their goods
imports decline.

Investment in China and India has surged as overseas companies seek to take
advantage of these huge opportunities. But while substantial reforms have
been made, they remain challenging places to do business. Both countries
continue to struggle with corruption and bureaucracy and enforcement of
Intellectual Property Rights remains poor.

Lessons from successful firms in China and India emphasise the importance of
taking a long term view of the market; investing in building local connections
and developing their people.

The UK government has a range of policies in place to help companies seeking
to do business in China and India. These range from top level discussions
about reducing entry barriers through to more practical advice on how to do
business.

3


2.1 The Growth of China and India
“Poverty is not socialism. To be rich is glorious.” Deng Xiaoping

ChINA ANd INdIA hAVE gROwN RAPIdly IN RECENt yEARS

The rise of India and China over the last decade should in many respects be viewed
as a return to the historical status quo rather than a recent phenomenon. When the
ancient European civilisations of Greece and Rome were reaching their heights,
the civilisations of China and India were already mature and prosperous.

As Figure 2.1 below illustrates, for most of the last two millennia China and India
accounted for over half of World GDP between them. However from the 1800s
they went through a period of relative decline, with their share of world GDP
completely eclipsed by that of the European nations by around 1850.4

Figure 2.1: Historical Share of World GDP

45%
Europe China India Japan
40%

35%

30%

25%

20%

15%

10%

5%

0%
1 1000 1500 1600 1700 1820 1900 2003

Source: Maddison (2007)

In part these shifts in economic power reflected advances in Europe and elsewhere,
however they were also symptomatic of China and India’s disengagement from
the world. Some economic historians have argued that having secured an early
technological and cultural lead, both countries became complacent and failed to
maintain it.5

Regardless, following a lengthy period of general economic stagnation and
decline, the reforms initiated by Deng Xiaoping in China in the late 1970s,

4 Maddison (2007).
5 In the case of China for example this is often posed as Joseph Needham’s ‘Grand Question’, more recently India’s
period of stagnation has been labelled by Deepak Lal as a ‘high level equilibrium trap’.

4

followed by Narasimha Rao and Manmohan Singh in India in the 1990s; are
widely credited with laying the groundwork for them to become the major
economic powers they are today.

Figure 2.2: China and India’s GDP

2,500
China India

2,000

1,500

1,000

500

0
1980 1985 1990 1995 2000 2005

Source: IMF World Economic Outlook

Figure 2.2 shows how China’s resulting growth spurt began in the 1990s, with
real GDP growth averaging around 10% a year. Until 2003 India’s growth rate
lagged behind, hovering around 6% a year; however since then it has started to
pick up, reaching 9.7% in 2006, just short of the government’s goal of 10%.

The impact of this on the world economy has been dramatic. Measured at PPP
China and India now account for 10.8% and 4.6% of World GDP respectively,
compared to 3.3% for the UK. More importantly, their rapid growth is increasingly
shaping world demand; accounting for roughly 30% of the growth in world GDP
since 2000.6

A key plank of both countries’ reform policies has been a move towards much
greater openness to international trade and investment. Starting in the late
1970s, China’s trade with the rest of the world began to rise significantly, with
India following suit from the early 1990s onwards.7
●● Between them China and India accounted for over 10% of the growth in world
trade since the 1990s.
●● China’s share of world trade has roughly doubled every ten years.

6 IMF (2008).
7 Source: WTO World Trade Figures. In order to avoid double counting, we consider Hong Kong as separate from
mainland China.

5


●● India’s trade share remained relatively flat through the 1980s and 1990s, but
has started to rise more rapidly over the last decade.
●● This is in the context of world trade growing by 9% a year over the same
period.

FORECAStS SuggESt thAt thIS gROwth wIll CONtINuE

The recent growth of China and India is expected to be continued in the coming
decades. Widely quoted work by Goldman Sachs (2003) predicts that China will
become the second largest economy in the world by 2016 and go on to overtake
the US as the world’s largest economy by 2041. India is not far behind, with its
GDP overtaking Japan by 2032. Subsequent refinements to the BRICs model8
have seen these growth projections if anything revised upwards.9

Figure 2.3: Projected GDP

GDP Projections ($bn 2003)
50,000

45,000

40,000

35,000

30,000

25,000

20,000

15,000

10,000

5,000

0
00

03

06

09

12

15

18

21

24

27

30

33

36

39

42

45

48
20

20

20

20

20

20

20

20

20

20

20

20

20

20

20

20

20

China India France Germany Italy Japan UK US

Source: Goldman Sachs, Dreaming with the BRICS (2003)

Although these countries will become significant in terms of economic size,
their per capita incomes will still be low by the standards of the advanced
economies10. As Figure 2.4 below illustrates, in 2050 China’s average per capita
GDP is forecast to be only slightly higher than the current level in the US, with
the figure for India less than half that.

8 BRICs – Brazil, Russia, India, China.
9 See for example Goldman Sachs (2003, 2007, 2008) and PWC (2008).
10 See for example World Bank (2007a, 2008b), PWC (2008).

6

Figure 2.4: Projected GDP Per Capita

100,000
GDP Per Capita ($US 2006)
90,000
2006 2050
80,000

70,000

60,000

50,000

40,000

30,000

20,000

10,000

0
China India France Germany Italy Japan UK US

Source: Goldman Sachs, BRICs and Beyond (2007)

These forecasts in part reflect the ambitious plans set out by the Chinese and
Indian governments, some of the challenges for which are discussed in Box
2.1. Both countries see themselves as global economic and political players,
and increasingly expect their level of recognition and influence in international
institutions to reflect this.

However, at the same time such projections are best seen as an indication of
the potential for growth in India and China if ‘things go right’, rather than a
prediction of the future. In practice there are a number of downside risks which
need to be borne in mind. In the short term these include;
●● Both countries are being adversely affected by the global downturn brought
about by the credit crunch; China in particular is overly reliant on external
demand to fuel growth.
●● If the downturn were to lead to an increase in protectionism their export led
growth model leaves them vulnerable.
●● They need to rebalance their economies; China towards domestic demand,
while India cannot sustain its current rates of growth purely on the back of
service sector exports.11
●● A slowdown or reversal of their reforms would lead to business activity being
choked off by factors such as bureaucracy, corruption and lack of access to
finance.

11 For example see Panagariya (2007).

7


The risks in the medium to longer term revolve more around the need for them
to move to more sustainable modes of production;

●● They have a shortage of natural resources; China’s per capita stocks of water,
arable land and minerals are well below the world average, India is also
highly dependent on imports of raw materials, in particular petroleum and
related products.12
●● China’s production methods are environmentally unsustainable, with a high
energy intensity of GDP and pollution discharges per unit of output13. India
performs better in this regard, but its manufacturing sector is only now
entering a high growth phase.14
●● Their advantage as low cost production centres is being eroded by rising
wage costs due to shortages of skilled labour in fast growing regions. (See
Chapter 3).
●● In order to prevent social unrest their governments need to spread the
benefits of growth more widely. (See Box 2.1)

12 Kai, M (2004).
13 See Junko Z. et al (2005).
14 For example India’s Energy Intensity of GDP is estimated to have been 142.4 tonnes of oil equivalent per $m (real
2000), compared to 195.1 in China.

8

BOx 2.1: ChANgES IN ChINESE ANd INdIAN gOVERNMENt POlICy

The first wave of economic reforms in China and India were focused on
fostering enterprise and export led growth. Current policies aim to build on
this, while delivering more balanced economic development through:

●● Continued reform of the state sector.
●● Protection for vulnerable groups.
●● Reduction of regional income disparities.

In China this is driven by the need to address the negative consequences
of its breakneck economic growth. The policies of the last thirty years
which encouraged un-restrained growth, widening income disparities and
environmental degradation; are now regarded as unsustainable.

Under the banner of ‘creation of harmonious society’ the government is now
trying to tackle these problems, while also attempting to spread the benefits
of growth more widely. Through a combination of infrastructure investment
and incentives for firms to relocate, the government hopes to stimulate more
economic activity in China’s inland regions.

In India the Common Minimum Programme (CMP) is intended to address
a wide range of development issues; whilst also reconciling the competing
demands of the electorate and strong cultural opposition to market reforms
such as the privatization programme.15

The government has also announced its intention to develop a stronger, more
labour intensive export-orientated manufacturing base. To this end FDI will be
encouraged in infrastructure, technology intensive manufacturing and export
orientated production. Especially where ‘local assets and employment are
created on a significant scale’.

In terms of international policy, both countries aspire to regional economic
leadership. China has committed to signing free trade agreements with the
ASEAN countries by 2015, while India has attempted to position itself as a
leader of developing nations in multilateral forums such as the WTO.

15

15 The government aims to privatise the state run sector within ten years, with some official estimates suggesting that
60% – 70% of the programme will be complete by 2013. Foreign investors are permitted to bid for these assets and
in principle enjoy equal treatment in matters such as business licensing.

9


Leading to a rapidly growing urban middle class
Although per capita incomes will remain relatively low in China and India, this
masks huge variation between different regions as well as rural and urban areas.
Cities in their fastest growing regions already have a large population of more
affluent middle class households.

A number of studies have attempted to forecast the size of the global middle
class, but few break down their estimates by country. A summary of the findings
of the small number of studies which do so for China and India is given in Table
2.1 below.

Table 2.1: Estimates of the Size of China and India’s Middle Class
China and India’s Middle Class Population

China India

Source Estimate (year) Source Estimate (year)

goldman Sachs ~1bn (2030) goldman Sachs ~1½bn (2040)

McKinsey 612m (2025) McKinsey 384m (2025)

uBS 20m-70m (2007)

world Bank 56m (2000)-361m (2030) world Bank up to
57m (2030)

Source: Bussolo et al (2007), Goldman Sachs (2008), McKinsey (2006, 2007), UBS (2007)

The World Bank estimate that the proportion of the world’s population who are
middle class will roughly double between 2000 and 2030 (from 7.6% to 16.1%).
High rates of growth in developing countries means that they are expected to
make the biggest contribution to this shift.16

Thus by 2030 an estimated 1.2bn people in developing countries (15% of the
world population) will be middle class17. China and India dominate this trend, by
2030 they could account for as much as 44% of the global middle class;
●● Chinese citizens accounted for 13.5% of the global middle class (in 2000, by
2030 this is expected to increase to 38%.
●● By 2030 India’s share of the global middle class population is forecast to rise
to 6%.18
●● China’s income distribution is expected to shift with middle income cohorts
making up a larger share of the population.19

16 Population growth rates of households within the middle class are 18% compared to a world average of 32%. All
other things being equal this implies that more households are moving into the middle class group, rather than
households within this group growing in size.
17 These are taken from Bussolo et al (2007), who use Milanovic and Yizhaki’s values for middle class income.
18 Bussolo et al (2007) where unable to estimate the current size of the Indian middle class due to limitations in the
Indian Household Survey.
19 Although India will experience growth rates in per capita incomes above world average, the differential is not large
enough to make this country significantly move along the global income distribution.

10

Studies by McKinsey (2006, 2007) and Goldman Sachs (2008) are substantially
more optimistic. The latter forecast that by 2030 the size of the global middle
class could reach 2bn people. By 2020 they expect 70% of the Chinese population
to be middle class and similarly by 2040 the vast majority of Indians will be in
this group.

In part this is because the definitions of middle class income used in these
studies can vary significantly (See Box 2.2). For our purposes we make use of
the income bands used by McKinsey (2006, 2007). These are based on values
employed in surveys of household expenditure in India and China, such as
that carried out by NCAER (2004, 2008). These are then converted into $US
equivalents at a fixed exchange rate.20

Table 2.2: China and India’s Economic Classes
China and India’s Economic Classes (Real Annual household Incomes)

China India

Renminbi $uS Rupees $uS

global >200,000 >24,155 global >1,00,000 >21,882

Affluent 100,000-200,000 12,077-24,155 Strivers 500,000-1,00,000 10,941-21,882

upper Aspirants 40,000-100,000 4,831-12,077 Seekers 200,000-500,000 4,376-10,491

lower Aspirants 25,000-40,000 3,019-4,831 Aspirers 90,000-200,000 1,969-4,376

Poor <25,000 <3,019 deprived <90,000 1,969

‘Middle Class’ 25,000-100,000 3,019-12,077 ‘Middle Class’ 200,000-1,000,000 4,376-10,491

Source: McKinsey (2006, 2007) – All prices are in real 2000 terms

On the face of it an annual household income of between $4,000 and $20,000
would not provide a particularly affluent lifestyle in most developed countries.
However such measures do not adjust for differences in purchasing power.
Converted at PPP our middle class income band in China becomes $13,500 –
$53,000 whilst the equivalent figures for India are $23,000 – $118,000; which
purchases a more recognisably middle-class lifestyle.

Although defensible in terms of thinking about standards of living, definitions
based on PPP values carry with them an important caveat. Whilst a household in
China or India which earns $50,000 a year measured on a PPP basis might aspire
to a developed country standard of living; from the perspective of overseas
firm trying to sell into these markets, what matters is their purchasing power
measured at market exchange rates, which is much lower.21

20 McKinsey use the prevailing exchange rates in 2000. These are 8.28 RMB to the Dollar at market rates/1.85 TMB to
the Dollar at PPP for China and 45.7 Rupees to the Dollar at market rates/8.5 Rupees to the Dollar at PPP for India.
21 A counterpoint to this is of course that given domestically produced goods and services may be much cheaper, this
could leave more disposable income available for more expensive international brands. Also by shifting production
into these countries companies will also be able to reduce their costs.

11


BOx 2.2: whAt IS A MIddlE ClASS lEVEl OF INCOME?

A number of attempts have been made to define what constitutes a middle
class level of income. Early studies often made use of relative measures, linking
it to some function of the income distribution22. However when thinking about
consumer demand such definitions are less useful as they do not allow easy
comparison across countries.

Milanovic and Yitzhaki (2002) proposed disaggregating the world population
into three categories; poor, middle class and rich. The average real per-capita
incomes of Italy and Brazil in 2000 measured at purchasing power parity (PPP)
were used as the upper and lower bounds respectively for the middle class
group. Using these figures, a middle class per capita income would lie between
$4,000 and $17,000 implying an annual household income of between $16,800
and $72,000.

On this basis many people in the OECD countries would be classified as rich,
whilst the ‘relatively rich’ in many developing countries would be considered
middle class. The advantage of this approach however is that these bounds
are defined in terms of real purchasing power and hence do not need to be
revised in line with rising incomes over time.23

Goldman Sachs (2008) proposed a lower range of $6,000-$30,000 per capita
measured at PPP. An even lower bound was used by Duflo and Banerjee (2007)
who defined the middle class as those earning $2 – $10 per day measured at
PPP (roughly $800-$3,600 a year).

An alternative approach employed by UBS (2007) is to define the middle
class on the basis of a level of income which is high enough to sustain above
average spending on luxury items. Or by Chinese standards. “...a decent flat,
a car, nice appliances and an entertainment budget”. Drawing on cost of living
data they estimate that an urban household in China would need to be earning
in excess of $10,000 – $18,000 a year ($3,300 – $6,000 per capita) to sustain a
middle class or better lifestyle.

Given these income bands McKinsey provide a breakdown of their forecasts of
China and India’s urban middle classes by income group. Although the brackets
they use are not identical, they are sufficiently comparable in Dollar terms to draw
broad conclusions about the balance rich, middle class and poor households.2223

From Figure 2.5 we can see that in 2005 the urban populations of India and
China were predominantly from lower income groups. China in particular has a
much higher proportion of households living on poor/deprived levels of income.
By 2025 these will have largely been supplanted by upper-aspirant/seeker
households who will account for over half the urban population.

22 For example, see Easterly (2001) or Birdsall, Graham and Pettinato (2000).
23 World Bank (2007a) Global Economic Prospects.

12

Figure 2.5: Distribution of Urban Households by Income Group

China India
100% 100%

90% 90%

80% 80%

70% 70%

60% 60%

50% 50%

40% 40%

30% 30%

20% 20%

10% 10%

0% 0%
2005 2025 2005 2025
Global Global
Affluent Strivers
Upper-Aspirant Seekers
Lower-Aspirant Aspirers
Poor Deprived

Source: McKinsey (2006, 2007)

However, whereas in China the top two income groups are expected to account
for less than 10% of the urban population in 2025, in India they will be nearly a
third. By 2025 while China may have a much larger urban middle class than India
overall, the latter could have more highly affluent households, both in absolute
and relative terms.24

Underlying all of these forecasts is a story of large scale rural-urban migration
coupled with urban incomes growing more rapidly than the economy as a
whole. The consequence of this is that although they account for less than half of
China and India’s populations, expenditure by urban households will dominate
consumer spending. We now turn to the implications of this in more detail in
Section 2.2 below.

24 In terms of the very highest income group, Merrill Lynch, Cap Gemini (2007) estimated that there were 100,000 High
Net Worth Individuals (HNWI) in India in 2006, compared to 345,000 in China, but that this group has been growing
more rapidly in India than in China. By comparison there were 485,000 HNWI’s in the UK in 2006.

13


2.2 China and India’s Changing Consumer Market
“When the Goddess of Wealth comes to give you a blessing, you should not go
to wash your face” Indian Proverb

uRBAN CONSuMPtION IS FORECASt tO RISE SIgNIFICANtly

China and India’s (predominantly urban) middle class populations are expected
to expand significantly. The combination of rising incomes and expanding urban
populations will lead to a dramatic increase in their spending power over the
next twenty years. However, whether this will translate into a similarly large
increase in consumption is dependent on factors such as savings behaviour and
levels of social protection.

Limited state provision of health and pensions and undeveloped financial
markets has historically led to high savings rates in China and India. In 2005
China’s national savings have been estimated to be over half of GDP, whilst
India’s were nearly a third (compared with a quarter in Japan and an eighth in
the US).

For China, the generation born just prior to the introduction of the ‘one child’
policy in 1979 is now at prime working age, helping to push up average
household incomes. However, over the next 20 years China’s demographics will
start to work against it.25
●● Population growth to slow to zero by 2030 and thereafter become negative.
●● The share of the population aged 65 and over will more than double from
7.7% in 2005, to 16.2% over the same period.
●● With birth rates relatively stable, this will lead to a rising dependency ratio.26

India’s demographics are much more favourable. Falling birth rates and changes
in life expectancy mean that the share of the population aged 15-65 is expected
to rise until 2040, falling slightly thereafter.
●● Population growth to slow to below 1% by 2020, but remain positive for the
foreseeable future.
●● The share of the population aged 65 and over will increase to 10% by 2035.
●● The growing adult population will help drive down the dependency ratio.27

In India the falling dependency ratio will reduce the pressure to save for old
age, freeing up more income for consumption amongst its youthful population.
China’s increasing life expectancy will initially drive up savings rates, but as

25 These forecasts are drawn from UN population database.
26 The dependency ratio is defined as the proportion of the population who are too old (aged above 64) or too young
(aged under 15) to work.
27 India’s old age dependency will rise slowly, but this is more than offset by a falling child dependency ratio.

14

its population ages this should help to reduce savings as they run down their
savings during retirement.28

Coupled with improvements in their financial sectors, these trends mean that
changes in savings behaviour are expected to have a positive or at least neutral
effect on spending. McKinsey forecast aggregate consumption to more than
quadruple in real terms by 2025 – to $3,265bn in China and $1,521bn in India29.
If realised, China and India will become the third and fifth largest consumer
markets in the world respectively.

In China the majority (64%) of urban consumption will come from the upper-
aspirant group, roughly in line with their share of households. In India, despite
accounting for only a third of urban households, the top two income groups
(globals and strivers) will be responsible for 59% of spending. As we can also
see from Figure 2.6, India’s rapid expansion in consumer spending is expected
to lag China’s by up to a decade.

Figure 2.6: Forecasts of Chinese and Indian Urban Consumption

China India
Real Urban Consumption Real Urban Consumption
Expenditure (bn Renminbi, 2000) Expenditure (bn Rupees, 2000)
25,000 50,000

20,000 40,000

15,000 30,000

10,000 20,000

5,000 10,000

0 0
2005 2015 2025 2005 2015 2025
Global Global
Affluent Strivers
Upper-Aspirant Seekers
Lower-Aspirant Aspirers
Poor Deprived

Source: McKinsey (2006, 2007)

28 Life-cycle models of saving predict that savings rates are higher in the working age population as they build up
savings for retirement and then fall in old age as the retired population starts to run down their savings.
29 Both figures are in constant 2000 US Dollars converted at market exchange rates.

15


To some extent these forecasts understate the purchasing power of Chinese and
Indian consumers. If we were to convert these figures into Dollar terms using
PPP exchange rates this would imply aggregate real consumption expenditure
in India and China of $9.2trn and $14.6trn respectively (larger than the US today
at $7.8trn).30

PAttERNS OF hOuSEhOld ExPENdItuRE wIll ChANgE

Although detailed analysis of consumption trends for the whole of China and
India’s populations are not generally available, a number of studies have focused
on the key group of urban consumers. Figure 2.7 below provides an illustration
of how the breakdown of urban household expenditure in China and India is
expected to change.

Figure 2.7: Patterns of Urban Consumer Expenditure
China India
Breakdown of Consumer Spending Breakdown of Consumer Spending
100% 100%

90% 90%

80% 80%

70% 70%

60% 60%

50% 50%

40% 40%

30% 30%

20% 20%

10% 10%

0% 0%
2005 2025 2005 2025

Housing and Utilities Transportation Education Services and Personal Items
Communication Health Care Household Items Food and Apparel

Source: McKinsey (2006, 2007), Authors Calculations

The main driver behind these shifts in spending is that incomes have risen above
the threshold level needed for essentials such as food, basic clothing etc. This
leaves them free to increase spending on discretionary items such as luxuries,
improved health care and education.

Cultural and demographic factors have also played their part; the current
generation of consumers in China and India are more likely to have a philosophy

30 Although the earlier caveat about conversions using PPP versus market exchange rates still applies.

16

of ‘enjoy life today’ as opposed to their parent’s mentality of ‘save for the future’.
We now provide a brief overview of some of the trends driving expenditure in
each of the broad product categories:

Essentials (Food and Apparel)
Although it will decline as a share of household expenditure, spending on
essentials will still grow significantly in real terms. Within this we would expect
to see;

●● A shift in household spending towards a richer more westernised diet, with
increased consumption of meat and dairy products.31
●● Greater consumption of luxury items such as alcohol and tobacco as well as
designer apparel.
●● The impact on world food prices to be moderated by their agricultural policies
which are geared towards self sufficiency.32

Services and Personal Items
In common with spending on household items, demand for recreational services
as well as personal products is forecast to grow more rapidly than overall
consumption.

●● In China a shift in attitudes coupled with deliberate government policies (such
as the ‘Golden Week’ holidays) all point towards a broad based increase in
this category of spending.33
●● Growth will be even more rapid in India, which already has a large market for
personal/household services and a historically large demand for jewellery.34
●● Although spending on entertainment in India will more than triple by 2025, it
does so from a low base and so will remain a small component of the overall
total.

31 These trends are already apparent in official figures, for example Chinese urban households doubled their per
capita consumption of milk and poultry between 1999 and 2006 (China Statistics Yearbook 2000, 2007).
32 As a result of deliberate government policies China and India are largely self sufficient in staple food products
(China’s official target for grain self sufficiency is 95%). However these policies and related price controls are likely
to come under increasing pressure as demand rises.
33 ‘Golden Week’ is the name given to a pair of week long national holidays, however due to the disruption they have
caused the Chinese government is planning to re-organise them to better distribute them and reduce the pressure
on transport infrastructure etc.
34 Jewellery is commonly used as a vehicle for personal savings in India.

17


BOx 2.3: CASE Study – MARKS ANd SPENCER35

In 2008 Marks and Spencer announced a Joint Venture (JV) with Reliance
Retail to open fifty full scale stores in India over the next five years. Although
they already had franchise operations there, when the company reviewed the
potential scale of the market opportunity in India, it decided to invest more
directly.

In looking for a JV partner M&S were highly conscious of the need to access
capability in three key areas; property, logistics/supply chain and experience
of operating in India. A key driver behind their selection of Reliance was the
company’s drive and ambition.

Management of their Indian operations is shared between the two companies,
with functions such as HR and marketing being locally recruited. This was
critical to retaining the core values of the brand whilst also being able to
personalise their offering to the local market.

Although their experience of operating in India has generally been positive,
M&S perceive a number of challenges: Lowering pricing whilst maintaining
quality is vital to attracting the Indian consumer, infrastructure remains an issue
and the time between decision making and delivery is longer than in the UK.

M&S is also seeking to expand into the Chinese market, recently opening its
first store on the mainland in Shanghai’s premier shopping district. As with its
Indian operations the strategy is to build on their reputation for quality and
localise the brand without compromising its core values.

Household Items35
Changing lifestyles and more leisure time is already leading to increased
demand for recreational items such as DVD players, game consoles and satellite
TV, in addition;
●● Demographic trends in China will encourage spending growth on items such
as furniture and appliances as Chinese households tend to spend more on
these products in later life.36
●● Low product penetration for appliances and entertainment items in India is
likely to persist, due to factors such as a lack of infrastructure and relatively
low spending on entertainment.
●● This is changing in India’s urban areas, but slower growth in rural areas will
hold down overall spending growth in this area.37

35 Source: UKIBC.
36 Young Chinese couples commonly live with their parents whilst they save up enough to allow them to move out
into their own home, at which point their spending on such items significantly increases.
37 For example see McKinsey (2008c).

18

BOx 2.4: BRANd AwARENESS IN ChINA ANd INdIA

Chinese and Indian consumers are increasingly brand conscious. A walk
through the major shopping districts in cities such as Bangalore or Shanghai
reveals a huge range of shops dedicated to international brands, particularly
luxury products.

Although the top global brands can rely on instant recognition thanks to their
international reputation, awareness of smaller and more niche brands is much
less widespread. These companies have to build up a reputation for quality
through word of mouth recommendations, which remain one of the most
important marketing mediums.

Surveys such as McKinsey (2008c) suggest that achieving this recognition can
be extremely important as Chinese and Indian consumers are not only willing
to pay a premium for quality (when they recognise it), but also exhibit high
levels of brand loyalty.

Companies operating in India and China have found that increasing national
pride has bolstered the perception of some domestic brands, particularly in
regional cities where consumers may not quite have the disposable income to
afford a major global brand.

Perhaps surprisingly, these same consumers are not always aware of the
foreign nature of their favourite products. When surveyed, 67% of Chinese
consumers mistook consumer beverages such as Coca-Cola, Pepsi and Sprite
to be domestic rather than foreign brands. Although these brands do not hide
their foreign origins, their name, packaging and marketing have all been given
a specific Chinese identity.

Education
Education is regarded as a priority by both Chinese and Indian households and
already accounts for a relatively large proportion of household expenditure38,
however;
●● As China’s population ages and the number of children declines, spending
on education will fall as a proportion of household spending even while
spending per child is likely to increase.
●● India’s booming youth population will make this one of the fastest growing
categories of household expenditure, doubling its share.

38 At 4% and 6% in India and China respectively, education accounts for a much higher proportion of private
expenditure than in most advanced economies, which typically spend less than 4% due to their much larger public
education systems. BERR (2008) Public Services Industry Review.

19


Health Care
Limited health care infrastructure and greater health awareness has encouraged
a large increase in private provision, which will continue as health insurance
becomes more prevalent.
●● Private spending on health related goods and services in China and India is
expected to reach 13%-14% of household consumption by 2025, substantially
higher than in most advanced economies.39
●● China’s ageing population, coupled with increases in ailments associated
with pollution, urbanisation and a richer diet, will combine to make this the
fastest growing category of household expenditure.
●● India’s demographics are more favourable, but health spending will grow
almost as rapidly.

Transportation
Affluent Chinese and Indian households are shifting their preferences away from
public to private transport (See Box 2.5), as well as more overseas travel.40
●● Transport already accounts for 17% of Indian household expenditure, but
infrastructure bottlenecks will keep growth below its potential.
●● Such constraints are less binding in China, allowing for more rapid growth in
spending, although it will remain a less important category of spending than
in India.
●● It is unclear though how factors such as rising fuel prices will act as a
constraint on spending, as they remain subsidised by government.41

39 Outside of the US, private expenditure on health care is typically around 4% of consumption in the advanced
economies. BERR (2008) Public Services Industry Review.
40 National Statistics (2008) estimate that from 2002 the number of visits from Chinese and Indian citizens to the UK
grew by 8.5% and 15.7% a year respectively, reaching over half a million visits in 2006. On average these visitors
also stayed for longer and spent more while they were here.
41 Due to the widening gap between the world price of crude oil and China’s officially set domestic fuel prices its
refineries have been making substantial losses (Sinopec the largest refiner lost £1.5bn in the first quarter of 2008
alone). The government raised its official prices in June 08 by between 17% and 25% the largest increase for four
years, but still well below what was needed to close the gap.

20

BOx 2.5: gROwth IN CAR OwNERShIP

There is a well documented relationship between car ownership and aggregate
per capita incomes. At levels of per capita income below $5,000 car ownership
tends to be low, but once this threshold is reached it starts to increase rapidly
(with only limited evidence of demand beginning to be satiated at higher
income levels).

Based on this relationship Chamon et al (2008) predict that car ownership in
China will overtake that in the uS by 2030, with India following suit by 2050.
As a result their combined share of world car ownership will increase from
4.3% in 2005 to 32.4% in 2050 (though per capita car ownership in the US will
still remain substantially higher).

Table 2.3: Forecasts of Car Ownership
Car Ownership (millions, % world total in brackets)

USA India China Advanced Rest of World World Total
Economies

2005 153 (24%) 7 (1%) 21 (3%) 304 (47%) 161 (25%) 646

2010 171 (23%) 9 (1%) 51 (7%) 332 (44%) 197 (26%) 760

2020 211 (20%) 19 (2%) 134 (13%) 390 (27%) 292 (28%) 1046

2030 253 (17%) 55 (4%) 255 (17%) 442 (30%) 468 (32%) 1473

2040 295 (14%) 163 (8%) 415 (20%) 490 (23%) 732 (25%) 2095

2050 337 (12%) 367 (13%) 573 (20%) 532 (18%) 1098 (38%) 2907

Source: Chamon et al (2008)
Note: Advanced Economies excludes the USA

Such a massive increase in car usage will inevitably have an impact on world
oil prices which are already under pressure from rapid growth in Chinese and
Indian demand. More broadly it will also create major challenges for these
countries in terms of managing congestion and pollution, as well as having
implications in terms of climate change.

21


Communication
Reforms made in the 1990s have led to a massive expansion of telecommunications
in China and it is now the largest mobile phone market in the world. India’s
reforms came later; as a result the market is only now entering into a similar
rapid growth phase.
●● Telecommunications already account for 8% of Chinese household expenditure,
but are still expected to grow faster than overall consumption.
●● Although it only accounts for 2% of Indian household expenditure, the huge
potential for expansion means that this will be the fastest growing category
of spending, tripling its share by 2025.

Housing and Utilities42
Modelling spending on housing and utilities is complicated by a number of
methodological problems and the impact of government policies towards
housing. That said;

●● The recent privatisation of the housing stock in China has created a huge
housing market and ignited demand for home improvements.
●● India’s large rural population and slowing rate of urbanisation means that
spending on housing will grow slowly.
●● As a result, while the proportion of spending will shrink in India, it will grow
to become the second largest category in China.

But the regional dimension should not be overlooked
While China and India’s fast growing regions are already attractive consumer
markets, they are also becoming intensely competitive. It has been argued that
some areas are now oversaturated with domestic and foreign brands and that a
wave of consolidation is imminent.43

In response to this international firms are now increasingly looking further afield
in China and India; but in doing so they find that they are far from homogenous
markets. As we can see from Table 2.4 below, although consumer durables are
common in urban households, ownership rates drop off dramatically in rural
areas (which make up 60% – 70% of China and India’s population44).

42 In terms of methodology there is the question as how to determine imputed rents on owner occupied property
and what the implications are of rising house prices. On the policy side both the Chinese and Indian governments
subsidise utilities and housing to some degree or other.
43 See for example Gustavsson (2008).
44 There is considerable debate about official figures for China and India’s rural populations. It has been argued
though these figures overstate India’s rural population as they do not fully account for people who live on the
periphery of larger urban agglomerations, while China’s population statistics may understate its rural population.
For example see McKinsey (2007), Anderson (2006), UBS (2007).

22

Amongst these households, lower disposable incomes and a lack of necessary
infrastructure (such as reliable electricity supplies), have so far constrained
demand for these types of products. Rural households also face tighter
budget constraints which limits their ability to make certain types of routine
expenditures.

For example, Hindustan Unilever found that rural consumers struggled to afford
the relatively large containers of personal products commonly sold in countries
like the UK. But, by creating a reusable sachet which could be refilled locally,
they created a sales format which allowed consumers to break their purchases
down into more affordable lumps, as well as significantly reduce the cost of the
product.

Table 2.4: Ownership of Consumer Durables
durable Consumer goods per 100 households
(2006, or most recent year available)

China India

urban Rural urban Rural total

Automobiles 4.3 .. 4 0.7 1.7

Bicycles 117.6 98.4 51.9 57.2 55.7

Cameras 48 3.7 0 0 0

Computers 47.2 0 0 0 ..

Microwave Ovens 50.6 .. .. .. ..

Motorcycles 20.4 44.6 28.3 7.9 13.6

Refrigerators 91.8 22.5 30.8 4.8 12.1

telephones 93.3 64.1 .. .. ..

telephones: Mobile 152.9 62.1 .. .. ..

televisions 137.4 89.4 70.4 27.5 39.5

Video disc players 70.2 .. 8.2 1.7 3.6

washing machines 96.8 43 12.5 0.9 4.1

Source: Chamon et al (2008)

However, whilst the term ‘rural India and China’ might conjure up visions of
small villages dominated by subsistence farming, with poor infrastructure and
limited connectivity to the rest of the world, the reality can be quite different.
For example, approximately a third of the rural Indian population lives in close
proximity to an urban area or in a rural economic centre. These communities
have relatively good access to basic infrastructure such as roads and electricity
supplies.45

45 CII/McKinsey (2007).

23


Furthermore, as was discussed in Box 2.1, both the Chinese and Indian
governments have recently placed increased emphasis on ensuring that the
wealth from their economic growth is spread more widely. This is being driven
by a range of policies such as;
●● The recent agricultural land reform in China to encourage more commercial
farming and improve rural incomes.
●● China’s ‘Go West’ and ‘Revitalise North-Eastern China’ initiatives to encourage
firms to relocate inland from the coastal regions.
●● India’s Bharat Nirman plan which injects billions of dollars of infrastructure
investment into the rural economy.

The effects of these changes are already apparent at the lower level of the income
distribution, with the proportion of rural Indian households in the lowest income
group falling by a third to 65% since 1985, while the number of rural Chinese
households in extreme poverty has more than halved over a similar period.
This trend is set to continue with lower middle class households becoming the
largest rural income group.46

Pockets of more wealthy rural consumers are already present in certain regions,
such as India’s more prosperous south-west, and will probably emerge as the
early leaders in terms of rural consumer markets. These will tend to be clustered
around China and India’s regional cities who are leading a ‘second wave’ of fast
growing areas (See Box 2.6).

The huge geographic dispersion of these regional cities, rural towns and villages
poses a major obstacle to firms seeking to supply these markets. Establishing
a regional presence supported by an effective distribution network is a real
challenge. Often the only way to achieve this is through some form of partnership
or joint venture with local businesses.

In trying to reach these markets international companies also face stiff
competition from domestic brands, many of whom have their foundations in
strong regional operations. A case in point is Wahaha, China’s largest beverage
producer. While Coca-Cola and Pepsi were building market share in China’s
urban markets, through a combination of aggressive marketing and exploiting
its large distribution network Wahaha has come to dominate the rural market.

46 McKinsey (2006, 2007).

24

BOx 2.6 ChINA ANd INdIA’S REgIONAl tOwNS ANd CItIES

Although China and India have a number of ‘mega-cities’ such as Beijing,
Shanghai, Delhi and Mumbai, the majority of their urban populations live in
smaller urban areas. In China these tend to be regional cities with populations
of 1m – 5m, whilst India has a large network of smaller cities and towns.47

A recent UKTI study examined the potential opportunities offered by a
shortlist of 35 of the most promising Chinese regional cities; between them
they accounted for 16% of China’s population and 36% of its GDP. Although
average per capita incomes are still lower than in the major cities, they have
been growing much more rapidly in regional cities, by an average of 15% a
year or more.48

India has just over a third as many regional cities as China49, but while some
multinationals already operate in these markets, most confine their activities
to the major cities. One of the reasons for this is that unlike China, India’s
regional cities taken together have not yet taken off as a consumer market,
accounting for 23% of disposable income in 2004, compared to 39% for the
eight major cities.50

Though major urban centres are expected to dominate spending, India’s
smaller cities (those with a population between 0.5m – 1m) have almost as
many rich and middle class households as the regional cities and in some
cases have higher levels of disposable income. By 2025 around half of India’s
middle class will live in these cities and smaller towns.

2.3 UK Export Performance to China and India
“Don’t bargain for fish which are still in the water” Indian Proverb

China and India’s rapid economic growth, rising urban incomes and increased
openness are already driving dramatic increases in their imports of goods and
services. As Figure 2.8 below illustrates, imports of goods to both countries have
surged over the last five years, although India imports about a fifth as much as
China.47484950

47 Estimates of the number of regional cities in China and India can vary significantly. For example the China Statistics
Yearbook (2003) states that the country had 174 cities with a population over one million, while a recent UKTI study
found 274 cities with a population in excess of 1m. Here we quote figures from UN (2007).
48 McKinsey (2006).
49 India has 37 cities with a population of 1 m – 5m, compared to 91 in China.
50 McKinsey (2007).

25


Figure 2.8: Chinese and Indian Merchandise Imports
China India
Merchandise Imports ($bn) Merchandise Imports ($bn)
900,000 200,000

800,000 180,000

160,000
700,000
140,000
600,000
120,000
500,000
100,000
400,000
80,000
300,000
60,000
200,000
40,000

100,000 20,000

0 0
19 2
19 3
19 4
19 5
19 6
19 7
19 8
20 9
20 0
20 1
20 2
20 3
20 4
20 5
06

19 2
19 3
19 4
19 5
19 6
19 7
19 8
20 9
20 0
20 1
20 2
20 3
20 4
20 5
06
9
9
9
9
9
9
9
9
0
0
0
0
0
0

9
9
9
9
9
9
9
9
0
0
0
0
0
0
19

19

Other Machinery and Equipment Manufacturers
Chemicals Fuels and Raw Materials Food and Animal Products

Source: UN Comtrade

Manufactures, specifically machinery, equipment and related parts now account
for the bulk of Chinese merchandise imports (at around 45% of the total). Within
this:
●● Imports of electronic goods and related parts expanded rapidly, from 10% of
the total in 1992 to around 30% by 2006.51
●● Of this roughly three quarters was in the form of components rather than
finished products.52

51 China is now the second largest importer of ICT products in the world after the USA. UNCTAD (2008b).
52 This reflects the importance of the processing trade to China’s economy (the assembly of finished products from
imported components for re-export). We return to this issue in more detail in Chapter 3.

26

As China has built up its own manufacturing capabilities it has become less reliant
on imported heavy machinery, but increased its imports of more sophisticated
equipment and raw materials.
●● The share of imports accounted for by heavy industrial machinery has halved
since 1992, to 10%.
●● Imports of scientific equipment have grown by 44% a year since 2000,
increasing their import share to around 6%.53
●● Petroleum imports have grown by 26% a year since 1992, since 2000 imports
of metals have grown by 28% a year.

India’s merchandise imports are, if anything, even more dominated by raw
materials and other primary commodities.
●● Petroleum and related products is the largest category with an import share
of 30%.
●● Imports of metals are the second largest at around 9%.
●● India is a major market for jewels and precious metals (accounting for a fifth
of world demand for gold).54

The trends in India’s imports of machinery and equipment reflect its less
developed manufacturing base and the importance of ICT enabled services to
the economy, for example;
●● Imports of heavy industrial machinery have been growing by 31% a year
since 2000 (but are still below China’s in absolute terms).
●● Over the same period imports of telecommunications equipment have grown
by 49% a year.

Lack of data makes a similarly detailed breakdown of India and China’s service
imports impossible; however top level data does allow us to observe a number
of broad trends. From Figure 2.9 below we can see that China imports nearly
twice as much in terms of services as India, although more recently the latter has
been growing more rapidly.

53 China’s exports under this category have also increased, which is also indicative of processing trade.
54 Kannan (2008).

27


Figure 2.9: Chinese and Indian Service Imports

China India
Service Imports ($bn) Service Imports ($bn)
120 60

100 50

80 40

60 30

40 20

20 10

0 0
19 2
19 3
19 4
19 5
19 6
19 7
19 8
20 9
20 0
20 1
20 2
20 3
20 4
20 5
06

19 2
19 3
19 4
19 5
19 6
19 7
19 8
20 9
20 0
20 1
20 2
20 3
20 4
05
9
9
9
9
9
9
9
9
0
0
0
0
0
0

9
9
9
9
9
9
9
9
0
0
0
0
0
19

19

Other Business Services Computer and Information
Financial and Insurance Travel Transport

Source: UNCTAD

Both countries’ service imports are dominated by the transport, travel55 and
other business services categories. But since 2000 it is imports of Computer &
Information, and Financial services which have been growing the most quickly
(by 45% and 37% a year respectively)56. Over the same period Indian imports of
Communication and Construction services have surged (by 45% and 39% a year
respectively).

One interesting contrast between the two countries is in terms of their payments
overseas relating to royalties and license fees. These account for less than 2% of
India’s service imports, but over 6% of China’s (and have been rising much more
rapidly in the latter). According to one academic we spoke with, as much as one
third of some Chinese manufacturer’s costs consists of license fee payments
overseas.

thE uK’S ExPORtS tO ChINA ANd INdIA ARE dOMINAtEd By hIgh SKIll
MANuFACtuRES ANd SERVICES

UK exports to China and India have increased significantly over the last fifteen
years. Since 1992 exports to China have grown by an average of 16% a year,
while growth in exports to India has accelerated from an average of 10% a year
55 Travel primarily covers all purchases of goods and services of short run visitors (business and holidaymakers) to
that country, it also includes travel for health or education related reasons.
56 Albeit from a very low base.

28

in the 1990s, to 14% a year since 2002. In common with many other developed
countries, at present the UK trades substantially more with China than India.

Figure 2.10: UK Merchandise Trade with China and India

China – UK India – UK
Merchandise Trade Merchandise Trade
($bn, 2005) ($bn, 2005)
30,000 6,000

25,000 5,000

20,000 4,000

15,000 3,000

10,000 2,000

5,000 1,000

0 0
Exports to UK Imports from UK Exports to UK Imports from UK

Other Electronic Components Electronics
High Skill Manufactures Medium Skill Manufactures Low Skill Manufactures
Labour Intensive Manufactures Primary Commodities

Source: UN COMTRADE

Figure 2.10 provides a breakdown of the UK’s trade in goods with China and India
using a product classification57 which distinguishes manufactured goods by skill
intensity rather than by product. As one would expect the UK’s merchandise
exports to these countries are dominated by higher skill manufactured products,
while our imports are concentrated in labour intensive and low skilled
manufactures.

There are two obvious anomalies in this data which deserve comment. Firstly,
the UK appears to export a large amount of labour intensive manufactures to
India. This is caused by our exports of precious stones and metals, which is
largely on a re-export basis and hence does not reflect domestic production.
Secondly, the UK imports a large amount of electronic goods and components
from China (see section 3.1).

57 UNCTAD (2007) Trade and Development Report p116 – This uses 3 digit SITC Rev 3 COMMTRADE data.

29


Figure 2.11: UK Services Trade with China and India

China – UK India – UK
Services Trade Services Trade
($bn, 2006) ($bn, 2006)
1600 1600

1400 1400

1200 1200

1000 1000

800 800

600 600

400 400

200 200

0 0
Exports to UK Imports from UK Exports to UK Imports from UK

Other Business Services Computers and Information
Financial and Insurance Travel Transport

Source: UNCTAD

Figure 2.11 above provides a breakdown of the UK’s trade with China and India
on the services side. India’s service imports from the UK reflect our world leading
position in terms of finance and business related services; however these form a
smaller proportion of our exports to China.

30

dESPItE thE StRONg gROwth IN gOOdS ExPORtS tO ChINA ANd INdIA
thE uK hAS SEEN ItS ShARE OF thE tOtAl dEClINE.

Figure 2.12: Shares of China and India’s Goods Imports
China India
Import Share Import Share
20% 10%

18% 9%

16% 8%

14% 7%

12% 6%

10% 5%

8% 4%

6% 3%

4% 2%

2% 1%

0% 0%
UK USA Japan Germany France UK USA Japan Germany France

1992 2000 2006

Source: UN COMTRADE

The UK has seen strong growth in its merchandise exports to China and
India over the last two decades, even while its share of the total has declined.
However, the rapid growth in trade with China and India means that the UK has
also seen its share of their goods imports decline relative to that of our major
competitors.
Using detailed trade data it is possible to break down the changes in the UK’s
share of Chinese and Indian goods imports into the contribution from two main
components:
●● Changes in the product structure of Chinese and Indian import demand.

●● Changes in the sector share, that is, how much the UK sold within those
product categories it exports to China and India.

Thus for example if China’s import demand had shifted away from the types of
products the UK exports we would expect to see this reflected in the contribution
of the former, while a reduction in the UK’s share in particular sectors would be
picked up by the latter.

31

Berr China And India Outlook

Recomendados

Recomendados

Mais conteúdo relacionado

Semelhante a Berr China And India Outlook

Semelhante a Berr China And India Outlook (20)

Último

Último (20)

Berr China And India Outlook