Through the forty years between 1985 and 2004 the G7 economies of USA, Germany, Japan, France, Italy, UK and Canada generated about two thirds of global growth. Underpinning this growth was the rise of a middle class – a social classification broadly meaning people with a desire to live a comfortable life. This translates into attributes such as:

• Secure housing, healthcare and education for children as well as reasonable retirement and job security.  They want sufficient time and money for holidays and leisure.
• Being the source of entrepreneurship, innovation and small business that enable an economy to thrive.
• Valuing education, hard work and thrift leading to capital accumulation and improved life/work skills.

The demand to ‘be better’ drove consumerism and global trade as many new products came from overseas. Simply put the middle class consumers of North America and Europe drove demand which was supplied by lower income economies in other parts of the world.

Financial innovation such as mortgages, consumer credit and home equity withdrawals unlocked the spending power of the middle class though the rate of borrowing drove saving levels down. The Global Financial Crisis has forced many households and companies in the developed economies to pay down debt and start to rebuild lost wealth.

Growth is now much faster in the developing countries. China has overtaken Japan as the second largest economy behind USA. It is estimated by 2034 Asia will generate 57% of global output. Much of this change will be driven by demographics and the growth in the middle class. By 2020 the global middle class will grow from 1.8 billion today to 3.2 billion and most of the increase will be in Asia.

There are currently over 300 million people in China described as middle class – about equal to the entire population of USA. The middle class in China is estimated to reach 800 million by 2025.  It is no longer true that ‘China produces and USA consumes’. The Chinese savings rate has fallen from 26% to 12% in the last five years as consumer spending increases.

Many western companies have taken advantage of this trend.  For instance, Wal-Mart has over 257 stores in China and Pizza Hut has repositioned itself as a top end restaurant. General Motors sells as many cars in China as it does in USA. China has over 915m mobile phone subscribers (India has 858m, three times as many as USA). Consumer goods like toothpaste, agricultural products like fertilizers and farm equipment and services like coffee shops and finance are following.

It’s not just China – India, Vietnam, Indonesia, Philippines, Malaysia and Korea – are on the same path. Many developing countries do not have the same level of legal and consumer protection for investors as we are used to in Australia. However investing in the companies who are expanding into developing countries is an alternative way to access the spending power of this growing middle class.

September 2011