Credit Suisse has published a report that tries to quantify the scale of hidden, or unreported, income in China. The bank sponsored Professor Wang Xiaolu of the China Reform Foundation for this report, his second study of China’s grey income and income distribution.
Professor Wang makes some startling and conclusions that if accurate have significant ramifications for how we should view China’s economic development, Chinese consumption activity (see Pettis today for his dim view of Chinese consumption; not sure he has seen this report) the possible existence of property bubbles, the chances for a devaluation of the Renminbi if the Yuan were liberalized, and the challenges the Chinese government faces in maintaining social stability. If his data are correct, it may also mean that many of the concerns about Chinese government debt are overblown, as the government has much greater potential than expected increase revenue in the future, through optimizing the tax code and tax collection. Professor Wang concludes that:
Almost Rmb10 tn in hidden income, or 30% of GDP. Based on a creative survey technique focusing on the correlation between income and spending patterns, and with over 4,000 samples across 19 provinces in China, Prof. Wang estimates that the per-capita disposable income of urban Chinese households in 2008 should be Rmb32,154, 90% above the official data. Total hidden income could total Rmb9.3 tn, 30% of GDP, with about 63% of hidden income in the hands of the top 10% of urban households.
The potential of China’s consumer market is even bigger than we expected. Most investors are aware that Chinese income statistics are underestimated, but the exact amount is subject to much speculation. The size of grey income revealed by Prof. Wang is striking and could help investors to understand the rationale of the Chinese government’s recent strong push for faster wage growth and a more equitable income distribution pattern – which would also help boost overall consumption.
The report further states that:
The analysis shows that the top-10% of households should have a per-capita disposable income of Rmb139,000 in 2008, instead of the official data of Rmb44,000. High income households (the top 20-30%) should have a per-capita disposable income of Rmb55,000, instead of the officially announced Rmb26,000. Some 80% of hidden income, not reflected in the official survey, belongs to the top 20% of households. Two thirds of the hidden income comes from the top 10% of households.
After including the hidden income, urban disposable income per capita reaches Rmb32,000, almost double that of the official data. Total household disposable income in 2008 is estimated to be Rmb23.2 tn, Rmb9.3 tn higher than the Rmb14 tn calculated based on the official NBS household income survey and Rmb5.4 tn higher than the Rmb17.9 tn total calculated by the Flow of Funds (FOF) accounts in the Economic Census This Rmb5.4 tn is referred to as grey income.
Compared with the adjusted household income in 2005, both the hidden income (Rmb9.3 tn) or grey income (Rmb5.4 tn) in 2008 doubled, rising at a much faster pace than nominal GDP between 2005 and 2008. Due to the existence of grey income, GDP and national income could be underestimated. According to our estimation, grey income in 2008 should total around 15% of national income, up from 13% in 2005.
The existence of hidden income has expanded the income gap remarkably, in our opinion. The per-capita income gap between the incomes of the top 10% and bottom 10% of urban residents rose from 9x (based on the official data) to 26x, after the adjustment. The per capita income gap between the top 10% of urban households and bottom 10% of rural households is adjusted from 23x based on the official data to 65x. Taking into account the existence of hidden income, the Gini coefficient of household income distribution is remarkably higher than the 0.47-0.50 calculated by different experts.
Such a concentration of hidden income in high-income groups demonstrates that much of it is not about simple statistical problems in the household survey but potentially income from illegal sources. Such income includes income without clear definition under laws and regulations in addition to its legitimacy, as well as income from an unidentifiable sources which is practically illegal. The facts show that grey income has its origins in the misuse of power and is closely connected with corruption.
The widespread existence of grey income has significantly distorted national income distribution and reveals the lagging development in social reforms compared with economic reforms. Once government power is united with capital, the free competition of the market economy begins to be replaced by a monopoly of crony capitalism, leading to disparity in income and property distribution, lower economic efficiency and acute social conflicts.
Professor Wang’s conclusions cast doubt on much of the arguments that China is in the throws of a epic property bubble. As he writes:
based on the official average urban income from China’s National Statistics Bureau (NSB), China’s current affordability ratio is 8x (that is, it takes eight years’ average income to buy an average residential property unit) – lower than for city states, such as Singapore (probably not a relevant comparison), but significantly higher than for large and developed continental nations such as the US. However, if we consider the impact of the grey income, China’s national affordability ratio drops to 4x –similar to that in the US. If the effect of grey income is included, China’s Gini index is likely to be more than 0.55 – similar to many South American countries’. This raises the question over whether strong housing demand in China is mainly driven by self-use or investment by rich people. We think both are important drivers.
Professor Wang recommends a combination of wage increases, which i already happening, and reforms to the tax system:
China should not only raise wages, but optimise its tax system to narrow the wealth gap. For example, we expect the government to implement property tax, which should increase the holding costs for rich people’s property investments.
This is important work. You can view the entire report here: