Inkfish and Oil: A Disconnect With Surging Auto Sales

Liam Denning, a Wall Street Journal reporter who writes for the newspaper’s “Heard on the Street”, called late last week with a question. Liam was puzzled by the apparent disconnect between fast growing vehicle sales in China and much slower growth in gasoline demand. Here was his dilemma:

As China’s vast population grows richer, so the thinking goes, so will its appetite for more of everything. Yet, as Deutsche Bank’s Paul Sankey points out, Chinese passenger-vehicle sales surged 77% year-on-year in the first quarter. Yet apparent gasoline demand rose by just 3%. Indeed, consultancy JBC Energy reckons Chinese demand for gasoline has been flat since last July.

Why the disconnect?

China often operates in ways that are perplexing. That’s because, for all of their growth and development over the past 30 years, China’s economy and markets often work differently than more familiar ones in the West.

The concept of China’s two markets has been discussed often on MTD, but Liam’s question once again brings us back to the fact that for every product in China, there are two markets: a foreign/local market that is characterized by high price and high technology, and a purely local market that is characterized by low price and more basic technology. This is a result of the fact that China’s 1.3 billion population is comprised of approximately 400 million people with average per capita incomes of $8,000 or more, and 900 million with average per capita incomes one-tenth that amount.

When applied to vehicles, the headline number is that 13.6 million vehicles were sold in China last year, but that is just the tip of the iceberg. Those are just the vehicles that look like the cars, trucks and buses one might see on the streets of any city in the United States. Every year, China produces approximately 50 million gasoline and diesel engines for transportation. In 2009, 13.6 million were used to power the conventional vehicles used in the country’s foreign/local market, but 36 million went to the more unconventional vehicles used in China’s purely local market– the motorcycles, agricultural vehicles and “inkfish” that Liam referenced in his article.

Once these facts are understood, it is quite easy to understand the disconnect between surging vehicle sales and slower growth in gas demand, and that is what I explained to Liam. As fast as China’s economy is growing, demand for vehicle transportation did not grow by 77 percent during the first quarter, as the vehicle sales numbers for the period might suggest. Part of that growth, to be sure, was due to overall growth in demand, but a big part of it I suspect is due to the switch from less fuel efficient and environmentally friendly unconventional vehicles, to more fuel efficient and environmentally friendly passenger cars, trucks and buses.

The switch from those inkfish, agricultural vehicles and motorcycles to mini vans, mini and light trucks and passenger cars with smaller displacement engines not only reflects China’s economic reality, but it also is government policy. As part of its stimulus package, China provided incentives for those in its rural economy to trade in their less fuel-efficient vehicles for more conventional means of transportation. When trying to understand China’s vehicle industry, don’t forget the inkfish!

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