China's urban migrants hold key to domestic demand

SHANGQIU, China (Reuters) - Liu Tao knows he will never be rich enough to own one of the luxury apartments in Beijing that he has been paid to decorate for more than a decade, but he's saving hard so that in another 10 years he'll have enough for a home with indoor plumbing.

Like many of the 158 million rural migrant workers whose annual pilgrimages to city factories have fuelled China's economic ascent, Liu has seen his pay and living standards rise steadily, but he still isn't the free-spending consumer the country's leaders urgently want him to be.

"I need to save up to take care of the kids and I've got the old people to look after," the 37-year-old father of three told Reuters, standing in the unheated, sparsely furnished main room of his house in Zhoulou village, about an hour's drive from Shangqiu in Henan province, southwest of Beijing.

Liu's main spending constraint is not earning power.

His 3,000-4,000 yuan ($75-635) per month is well above the average migrant pay of 2,049 yuan charted by statistics -- but a permit system (hukou) that denies millions of officially rural residents access to social services in cities where they work.

"If you go to the big cities and you see all the tower blocks and tall buildings, they've been built by migrant laborers, but we don't see any of the benefits. The government needs to make sure more of that wealth is shared with migrant laborers," Liu said.

It's a vital message for a Chinese leadership anxious to turn a nation of savers into spenders and rebalance the world's second biggest economy towards its huge domestic market. That would cut dependence on external demand jolted by financial crises twice in three years, with current trends pointing to the slowest year of economic expansion in a decade.

Stability and steady growth are core to the Communist Party's justification for more than 60 years of one-party rule, making it acutely sensitive to anything that could dislodge it. But the leadership has yet to show the will to grasp a reform that some of its own economic advisers say is crucial.

The 600 million people China has lifted out of rural poverty by 30 years of development remain far from urban affluence. Inequality soars beside skyscrapers and dollar billionaires and IMF data show that consumption as a share of disposable income has plunged 20 percentage points in the last decade.

With city dwellers topping 50 percent of the population for the first time last year, it signals that Beijing cannot unlock the potential of urbanization unless it reforms the hukou system to turn migration into permanent city settlement.

Access to schools, hospitals and other services is allocated by hukou, keeping them out of reach of migrant workers.

"The hukou system is preventing the arrival of the Lewis turning point," said Yukon Huang, a senior associate at the Carnegie Endowment for International Peace and a former student of Nobel-prize winning economist, Arthur Lewis, whose theory of economic development is a focus for investors and policymakers.

It postulates that once all excess labor in a developing economy has been absorbed into the workforce, further capital accumulation delivers self-sustaining wage and economic growth.

ELUSIVE SWEET SPOT

It's a sweet spot eluding Beijing, despite having turned its top companies into global leaders in terms of market share and profits, and amassing the largest store of foreign wealth on the planet at $3.18 trillion -- much of it the last 10 years.

Migrants have barely had a sniff of the riches, although they produce most of the economy's value added growth in the 200 million jobs they fill in the externally-focused factory sector.

The 95 million people of Henan province -- roughly the population of G7 members Canada and Britain combined -- generated per capita GDP of $3,600 in 2010 as some of China's most active migrant workers. It was barely a tenth of those G7 counterparts.

Wages have risen -- in double digits for years and by 21.2 percent in 2011, government statistics show. But so has saving.

Savings rates of between 30 and 70 percent were the outer ranges of a straw poll of workers in villages near Shangqiu and outside train and bus stations as people queued to get back to the factories after annual trips home for the Lunar New Year.

China officially has 80 trillion yuan on deposit at banks, with analysts estimating roughly the same amount exists under mattresses, confounding economic orthodoxy that says higher wages in the hands of the poor translate smoothly into spending.

"That's not the way we think," said Zhu Sheng, wrestling with the decision of whether to leave her young son with her parents in the Henan countryside and return to the Beijing telecommunications factory where she has worked for five years. She is reluctant to take much lower paid work locally.

"Migrant workers save a lot, that's true. We have to keep saving because we have to take of the kids and the old folks. I can't say how much I'd need to earn not to have to worry about saving," Zhu said.

"In the countryside we have televisions and washing machines already. I wouldn't want to buy another or just replace them unless I had to."

Zhu used a government rebate scheme to buy a new twin tub washing machine last year, spending about 600 yuan.

Her 2-1/2-year old boy was playing in the machine, watched over by his grandmother, in the courtyard outside the entrance to the open, unheated room in which Zhu was seated -- framed portrait of Mao Zedong, founder of Communist China, on the table beside her, with posters of reformist leader Deng Xiaoping and other leaders since then on the facing wall.

Zhu and many others like her save for housing, education and medical bills in the hope of a brighter future.

TOO WORRIED TO SPEND

Signs of those hopes are on display in the brown wheat and corn fields speckled with grave mounts. The most recent ones are festooned with colored paper models of new homes, cars and household goods -- symbols of the prosperity older farmers can only dream of for their afterlife and that of their children.

Research by the OECD Development Centre concludes that urbanization China-style confers only half the benefits it should -- improving income, but constraining consumption.

Factors like inflation also erode willingness to spend.

While most will readily agree that living standards are higher than they were a decade ago, they are far from well-off and feel the pinch of price rises acutely.

The annual rate of inflation hit a three-year high of 6.5 percent last July, exceeded the government's 4 percent target in every month of last year and was still above it in January 2012.

But that still understates the pain felt by rural residents who spend about 40 percent of household income on food, the average price of which rose by 11.8 percent in 2011.

Lorry driver Chen Qingguo estimates that it costs about 10,000 yuan a year to keep his 10-year old daughter fed, clothed, housed and schooled in the village where she and her two-year-old brother are left in the care of grandparents.

Employment contracts providing accommodation and food also inhibit spending. Living in dormitories offers few incentives to acquire goods or spend beyond occasional trips to nearby towns.

"My life's in the factory," said Li Jie, 30, who was heading to a Qingdao tyre factory on the east coast to earn 6,000 yuan a month at production line piece rates and up to 8,000 yuan if he works fast and hard.

Residency rights, or at least access in cities to medical benefits, would be a big help in unlocking migrant savings.

It would magnify the impact of urbanization unfolding across

interior provinces. Analysts at HSBC believe this process will turn China's 31 provinces from the equivalent of poor, Third World countries into places generating wealth like a union of second-tier developed and top-tier developing nations by 2020.

"For sustained growth, the most important source is continuous technological innovation and structural transformation," said World Bank chief economist Justin Lin, who believes China can follow an unprecedented 30 years of 9 percent-plus average growth with another 20 years at 8 percent.

Failure to pursue further fundamental economic restructuring could see it unravel. Get it right and China could grow and create jobs almost regardless of the external environment.

Foreign-funded firms employ about 40 million directly, while economists reckon that China creates about 10,500 jobs for every $100 million of goods it exports.

Total exports of $1.9 trillion in 2011 imply 200 million workers owed their livelihoods to foreign demand, about a quarter of all the people employed in China.

Without reform, that dependence will remain unbroken and the

rate of development will merely absorb the influx from the countryside. In 2011, some 21 million people -- roughly the population of Australia -- become urban wage-earners.

ECONOMIC WILDCARD

But that dynamic is the wildcard that some investors believe will keep growth ticking. It is already creating shortages of workers and raising wages outside major manufacturing towns.

As China accelerates development inland, closer to the homes of many migrants, it may be possible for them to find jobs in districts where they are officially registered.

In Shangqiu -- capital of China's Shang Dynasty in the second millennium BC -- recruitment agency worker Chen Xiaowei has seen no sign of a slowdown in demand for experienced staff.

"There's going to be a shortage of workers here again this year. People still prefer to work elsewhere for better pay, but the government is still attracting businesses here too. So the shortfall of workers is going to grow and that means the pay gap is going to have to close," he said.

"Things have already changed in recent years. We're catching up with the more prosperous parts of Henan, but we're not there yet."

(Editing by Ron Popeski)

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China's urban migrants hold key to domestic demand