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CNN International - On China

Aired November 21, 2012 - 05:30   ET


KRISTIE LU STOUT, CNN INTERNATIONAL ANCHOR: This month, they are the changing faces of China -- a consumer class 430 million strong and growing fast. Their spending habits are no longer just the focus of companies, but also of the new leadership, pushing for continued growth. We welcome three unique perspectives to Hong Kong -- based in Shanghai, Shaun Rein is managing director of the China Market Research Group, advising Fortune 500 companies and private equity firms on turning profits in China.

Janet Wang is head of international business development for It's China's largest online retail site, recording $3 billion worth of sales on one day alone.

A professor of Chinese studies at Oxford, Karl Gerth is recognized as an authority on Chinese consumerism. Latest books is titled "As China Goes, So Goes the World." At the table this month ON CHINA.

Karl Gerth, Janet Wang, Shaun Rein, welcome to ON CHINA.

And Shaun, let's start with you. Give us a big picture of the Chinese economy. There is this belief out there that China is an export-led economy, but it's not.

SHAUN REIN, STRATEGY CONSULTANT/COLUMNIST: When you talk to most economists, they think that China is export-oriented. They say about 40 percent of the economy is accounted for by exports, but it really isn't. It's more investment-led, and even more importantly, domestic consumption. 55 percent of GDP growth in the last year in China has come from consumption, and it's really because the government is pushing for more money to go into the pockets of everyday Chinese. 21 of China's 31 provinces increased the minimum wage by 22 percent last year. So what you are seeing is, Chinese are getting wealthier, they are starting to spend a lot more, and that's why you saw retail sales growth of 14.2 percent last month.

STOUT: Consumption is booming in China. It's closing in on the EU, and China has been able to achieve this in just a few years. How so?

KARL GERTH, PROFESSOR OF CHINESE STUDIES, OXFORD: Well, it's important, as Shaun just mentioned, it's important direction that they're now taking. Instead of just being an export-oriented market, they need to be -- to drive the new round of economic growth by developing a middle class. So the idea that Chinese government is just getting out of the way and hoping everyone will start consuming on their own is a myth. The Chinese government is actively pushing the creation and expansion of the middle class. STOUT: The middle class in China. This is the core consuming class. Karl, how big is it?

GERTH: That's almost impossible to say. Depends on how you estimate it. The low estimates are in the tens of millions, the high estimates are 350 plus million.

I think what's more important or what's more alarming or more worrisome is how big is it going to get. Will it continue to grow and drive economic growth not only in China but also for the world, or will it stagnate under a mountain of new debt, a mountain of debt from expensive housing to the cost of educating your kids, to health care costs. These are all things that the government is trying to address by reinstituting some semblance of a social safety net. So instead of saving 40 to 50 percent of their incomes, people can start to spend it and drive that next round of economic development in China as well as the world.

REIN: So we estimate there are about 350 million people living in households that earn between $6,000 and $15,000 U.S. a year. That's sort of the middle class. And it really started, Kristie, because of job creation.

STOUT: So 350 million members of the middle class in China, the core consumers of the country. Janet, give us a picture of who they are and what they're buying.

JANET WANG, TMALL.COM, ALIBABA GROUP: We really see the trends also representing the e-commerce industry, that over the past five years, e-commerce sale (ph) in China has grown on average 80 percent annually basis, reaching RMB 767 million in last year. It really says that e- commerce also plays a very important role in Chinese consumer power, but usually a lot of -- over 90 percent of the consumers are located in second, third-tier cities--

STOUT: So when you're talking about second, third-tier cities, you're talking about cities like Dalien (ph).

WANG: Exactly.

STOUT: Not Shanghai and Beijing, and they can't access the brands of choice, so they have to go online.

WANG: Right. We definitely see this population's spending power is massive, and it's growing particularly strong.

STOUT: You represent just a wide range of brands across the spectrum, right?

WANG: Right.

STOUT: In different product categories, from cars to ice cream.

WANG: Yes.

STOUT: Do your consumers prefer mainland Chinese brands or foreign global brands?

WANG: I think Chinese consumers are very open-minded. They are also very eager to learn more about the brands and products. So like, they would do a lot of research before they make particular decisions, and then they will also compare the domestic brands and international brands. So in generally, I wouldn't say they prefer one over another, but they're just trying to learn as much as they can, and then try different varieties.

REIN: If I can jump here on that for a second. I slightly disagree with you. We interviewed 5,000 Chinese consumers in 15 cities last year, and their biggest concern in life, ahead of being able to pay for education for their kids or for medical care costs for their families, was food and product safety. They are absolutely petrified of biting something and dying, or getting toxic shock syndrome from a toy. So what we found is in these 5,000 consumers, that they trust foreign brands far more than they trust local domestic Chinese brands.

Now, that being said, I wouldn't underestimate the ability of Chinese domestic brands to move up.

WANG: Which is why e-commerce plays not only just a shopping function, but also very important social functions, because consumers before they make purchasing decisions, they were definitely looking to how other consumers make comments on certain products, so they get to know about what people -- their peers feel about these products. So --


STOUT: -- product safety --


WANG: Exactly. So our studies show more than 60 percent of consumers after they make a purchase, they will rate and leave comments for other people, other audience of consumers, to take it as references.

STOUT: You wanted to weigh in earlier.

GERTH: Yes, about that point about whether or not Chinese trust Chinese brands, I think it's not an accident that Chinese are starting to trust Chinese brands more and more as they become more established Chinese brands. In order to have that large and growing middle class, Chinese companies, as well as the Chinese government, are pushing to move China up the value -- up the value chain. And one of the ways you do that, of course, is you establish domestically and internationally competitive brands, brands that people can trust.


STOUT: Starbucks, Apple, Western success stories. When it comes to brands in China, can you give me a case study of a Western brand, a global brand that really crashed and burned? And why?

GERTH: Barbie everyone would probably point to.

STOUT: Barbie.



STOUT: How big is this top tier consumer market, the luxury market, in China?

REIN: So there are about a million Chinese who are worth $1 million U.S. or more net assets, and we estimate that that number is going to go to about 2.5 million in the next three years or so, even with the economic downturn. The wealthy are getting wealthier.

STOUT: There is growing inequality in China. So when we see the luxury spends taking place and these big-ticket items being purchased, is there growing resentment about such conspicuous consumption in China? There must be.

GERTH: Yes, I think this kind of resentment in China is interesting. I think the new wealthy in China represent both the aspirations of everybody else -- who doesn't want to have those, that sort of lifestyle? Big house, nice car, vacations in these exotic locations? At the same time, there is a lot of tension over how these people got wealthy. Yes, of course, there are plenty of rags to riches stories, but there is also plenty of suspicion that corruption lies behind how these people got wealthy.

STOUT: If you can get just even a wider picture of consumerism in China, what do spending habits among the elite class of consumers, as well as the middle class, the core class of consumers in China, what does it reveal about China as a whole? And about national identity?

REIN: So we talked about that 350 million person size middle class. It's actually -- they are not really middle class like in the American sense. In the United States, you are born a blue-collar worker, your parents were blue collar, your grandparents and you are proud of that. You have that identity and you like to shop at Macy's on special occasions. In China, that doesn't really exist. Everybody here says they're going to be rich, you know? You know, salaries are going up 20, 30 percent at the white collar level. Because of the one-child policy, people say we will make it. So what that means is, people don't buy mid-level brands. What we see is people either shop for the most expensive thing they can get, like a Louis Vuitton or an Air Mess bag, or they go for the cheapest. And so there is that aspirational aspect. But then again, there is that value aspect. People really focus on ensuring that their dollar goes as far as it can. And that's why you see -- if you drive on the airport in Shanghai, (inaudible) airport, you go along, and in about 10 minutes before you get to the airport, you start to see cars parked on the highway. You see million- dollar Bentleys and Rolls-Royces. Why? It's because these people, who can spend $1 million on a car, don't want to spend $2 on parking. They're very value driven.

STOUT: Chinese consumers are looking for value, they are looking for an aspirational purchase, status. Are they also looking to stand out or to fit in through the brands that they select? WANG: They want to stand out, but not too much. And we also saw very interesting data that for example, in terms of the fashion, consumers want the colors that are a little bit more bright, but they don't want to wear red, because they associate red as traditional Chinese Communist Party. And then they want to be seen--

REIN: -- your jacket.



WANG: So it really just shows that current consumers' minds (ph) are very interesting, and they try to embrace the overall international trends, but they also want to keep their nationality and identity too.

REIN: We're seeing more individualism. They're saying now, I don't want that LV (ph) bag, I want to try something different. But they're not going to a brand that no one has ever heard of. They're not going to Kiton or Brioni, they're going to Air Mess or Chanel, because they still want recognition, but there is more individualism. So for brand managers, now is the best time to come into China, because people are no longer being monopolized by the same five brands.

GERTH: Do you think that makes it easier for Chines to switch brands, though? They don't have as much brand loyalty as they do in other--

WANG: They still have very strong brand loyalty in terms of, you know, very high end product, but just like you said earlier, they will go for certain brands but probably limited edition, that is only made for limited pieces or custom-made for the customers. So like Richmal (ph) also did a lot of China-themed jewelry or watches that are selling really well.

REIN: I agree with you. I mean, for me, I'm American, I'm a proud American, and I use Tide liquid detergent, because that's what my mother taught me, or I buy -- I bought my wife a Tiffany engagement ring, because that's what I was told.

In China, brands didn't exist 30 years ago, so Chinese, when they had enough money to start buying, they didn't have their parents or their grandparents to teach them what to buy, so they just started going out and buying all different kinds of projects -- products, which is why people say Chinese aren't brand loyal. However, once they got used to buying certain categories, they are extremely brand loyal.

STOUT: Starbucks, why is it doing so well in China?

WANG: They really localized their product to fit Chinese consumer taste, not only just the coffee itself or they have the pastries that are dedicated (ph) to Chinese flavors, or they dedicate it for products that are for a festival, at the same time, you know, all of us (inaudible) new trend, that they are trying to adapt their coffee shop being akin to a traditional Chinese tea house, and they really blend west meets east culture, that you know, meets Chinese consumers' aspirations. STOUT: Starbucks, Apple, Western success stories. When it comes to brands in China. Can you give me a case study of a Western brand, a global brand that really crashed and burned in China? And why?

GERTH: Barbie everyone would probably point to.

STOUT: Barbie. What happened to Barbie?

GERTH: Well, Barbie spent a lot of money setting up a boutique in the most fashionable part of Shanghai, where you could go and have all of your Barbie needs met. You could have a fashion consultation. You could of course buy lots of Barbie dolls, but I guess they didn't think long and hard enough about whether Chinese girls, young women, wanted to look sexy, or they wanted to look something closer to what we associate with Japan, cute. So hello kitty is doing well, but Barbie is an example of crash and burn.


REIN: It's kind of a jungle for brand marketers. You have to be in China, but you need to be very cautious. It's not going to be that Shangri La for all brands.



STOUT: You know, there's so much to say for global brands, because the Chinese market is so lucrative. But at the same time, there are consequences inside China to this buying boom. For example, the environment. What is happening to China's environment as the result of this buying boom?

GERTH: I think this is the most important question of the 21st century, that is can Chinese and other people like the Chinese, say the Indians or Indonesians or other people who want to create a large middle class, both create that middle class and have the same sort of lifestyles that we enjoy, but also do so without this sort of incredibly destructive consequences of having that lifestyle? China now has 16 of the 20 most polluted cities. Acid rain falls on a third of the country. It's quickly in some places becoming a desert. I mean, these are not news flashes to anyone who spends any time in China, that the environment has borne a terrible cost for the rapid industrialization of China, and the rapid creation of a middle class. I guess in some ways, that will drive consumer trends, like the emphasis on organic or non-toxic products without toxic chemicals in it. So there will be a consumer angle to all of this, but yes, the consequences of it are something that we're still going to be living with for a long time.

STOUT: Another consequence of high consumption in China is just a huge market in fakes, ripoff goods, and especially when you look at pharmaceutical products and food products, very dangerous products. How bit is this market, and why does it continue to thrive in China?

REIN: So counterfeiting for me is not as big a problem in the luxury sector as it used to be. I think people bought those fake Gucci bags not because they wanted it, but because they were poor. They could not afford the real stuff. So now what we are starting to see is as soon as they get money, they buy the real thing, and they are embarrassed to tote a fake LV bag, because it's kind of obvious.

The bigger issue for me comes in medicine and in food products. Because people don't want to buy bad quality food, but there are still a lot of unsavory people out there.

STOUT: Consumer behavior is so different compared between the U.S. and China, but is China replacing the U.S. as the consuming engine in the global economy?

GERTH: We're in the early stages of finding out. I think as Shaun mentioned at the beginning of our time together, we're going to be competing for the same type of commodities. We're already probably paying more for all sorts of things that we don't know about. Undoubtedly, oil, and probably coffee beans as well.

REIN: Coffee beans, cotton, it's all going up, as Chinese are demanding air conditioners, cars, it is increasing the cost of commodity markets around the world, but also, I mean, it's the end of cheap China right now. It's no longer cheap to produce something in the country, so you know, Chines are no longer willing to toil in factories making Nikes, the products that Americans love. So what is happening is Nike is producing more in Vietnam than they are in China right now, and so what's that's causing is China is becoming an inflationary force in the world economy rather than a deflationary force, like it has been in the last three decades.

STOUT: China's economy is also slowing down, so should that be a concern for global and U.S. brands like Nike, Gap, what have you, as they rely on China for their share price to be--


WANG: Not really. First Boston Consulting Group (ph) predicts that by 2015, their e-commerce scale in China is going to be larger than U.S. and the U.K., to be the number one e-commerce market in the world, to reach 2 RMB trillion scale. I don't say there is a very necessarily slowing down in e-commerce, especially for international brands. It is their right (ph) to come in and leverage the e-commerce influence.

GERTH: That's the fun part of studying China, of course, because the answer can be C, all of the above, in that it can both slow down and cause lots of problems for multinationals that have hung their growth on China, as well as continue to grow in completely other sectors.

REIN: For me, I am not concerned about a slowing economy. What's key is even with the slowing economy is consumption is going up. So consumption is now accounting for, as I said earlier, 55 percent of overall GDP growth. You're starting to see that consumption is becoming the major engine for growth for China, and it's really going to help even the largest companies around the world generate more profits. STOUT: But it is, as you called it, the end of cheap China, and prices are rising in China. So will Chinese consumers have more disposable money to spend? Will we see them pulling back in the years ahead?

WANG: I think we'll see them continue to spend more. Over 36 (inaudible) of consumers expect (ph) that they will increase their disposable spending and buy more stuff, and so we'll see the next generation, they just tend to buy more and more than their grandparents. I don't see there's any slowdown. I know China has become probably no. 2 largest market for a lot of international brands.

STOUT: Time for the future-casting part, where we have to look and gaze into our crystal ball. Now, Karl, I know that you said that China will become the world's no. 1 producer of brands. When is that going to happen and how?

GERTH: I don't think the market will necessarily lead to Chinese brands becoming more competitive. I think the government will try to create an environment in which brands are developed. Also, I think you are already seeing this, that because of the development of Chinese consumer market, a lot of Western multi-nationals are designing for the Chinese market, and the products designed for the Chinese market will be the ones that we will see in the rest of the world.

Whether China is successful in developing the next wave of Googles or Sonys or Lexuses or BMWs, I think it's too early to tell, but one thing I'm certain of, they are not going to just leave it up to the marketplace to figure that out.

STOUT: What do global brands need to do to better position themselves for the Chinese consumer of tomorrow? What is your advice to them?

WANG: I would say that the brands definitely have to offer a very integrated experience, not only just thinking of brand (ph) strategies, but also thinking how you can reach consumers through digital channels, you know, e-commerce, other social media. Really bring all this very rich experience to consumers, and then also, like I said earlier, localized, be reactive, and then learn from doing.

REIN: I see the consumer market in China becoming the world's largest, and so brands need to come to China. But I expect that there are going to be more losers than winners. You're going to see a lot of brands are going to fail, and they are really going to fail because they don't understand what consumers want and crate a 5-10-year, longer- term branding strategy. You can't just transfer what worked in the United States or Europe into China, you can't just create something that works in China now, because Chinese consumers are evolving very quickly. So what they want now might not be what they want in five years. So it is a very, it's kind of a jungle for brand marketers. You have to be in China, but you need to be very cautious. It's not going to be that Shangri La for all brands. It's not going to save the bottom line for everyone.

STOUT: Great final points there. Karl Gerth, Janet Wang, Shaun Rein, thank you so much for joining me to help craft this complete picture of the Chinese consumer. Thank you.

REIN: Thank you.