China's 2012 Tax Reforms, CPI, Sustainable Development, Retail Sales, Baby Care and more

ARC China is a Shanghai-based investment manager focused on investments in consumption-driven, entrepreneur-owned small and medium sized enterprises in China's Tier II and Tier III regions. ARC China maintains a team of investment and due diligence professionals with headquarters in Shanghai and offices in key Tier II and Tier III cities throughout China.

ARC China's investment strategy centers on value-oriented, activist, and exit-driven equity investments within a diversified portfolio of high-growth businesses in these regions. ARC China's strategy and investment focus is aligned with both major macroeconomic and demographic trends within China and with the Chinese government's strategy of shifting the economy towards domestic consumption and increased growth in the interior and still developing coastal regions of the country.

China's tax revenue rose 2.7 percent year-on-year to reach US$558.21 billion in November, according to the Chinese Ministry of Finance. The ministry attributed the increase partly to the improvements in the profitability of the country's private enterprises, which have been buoyed by rapid economic growth.

Traditionally, Chinese government has relied heavily on tax revenue from the central state-owned enterprises (SOEs). However with the booming of the private sector and international competition, many SOEs have faced pressures and challenges. For the first 11 months of 2011, China's centrally administered SOEs reported net profits up 3.6 percent year-on-year - a sharp decrease from the 50.1 percent increase recorded during the corresponding period of 2010. Only 69.5 percent of China's 117 central SOEs posted year-on-year profit increases. Chinese SOEs are considered less innovative, seen as having weak corporate management, and viewed as too diversified from their main businesses.

In contrast, the Chinese private sector is playing an increasingly important role. By the end of 2010, China's private sector included more than 8.4 million enterprises, accounting for 74 percent of all the country's businesses. Tax contributions from the 500 biggest private enterprises in China increased 54.2 percent in 2010.

During the past 30 years, China's economy has changed from a centrally planned system that was largely closed to international trade to a more market-oriented system that has a rapidly growing private sector. Consequently, China will need to restructure its fiscal revenue sources and further develop its tax system and enforcement. Already we have seen the growth rate of fiscal revenue fall 10.6 percent from about 17 percent in the previous two months to 9.73 trillion yuan by the end of November.

This year's Central Economic Work Conference – one of the most important and high-profile economic government policy gatherings – placed a great deal of emphasis on tax measures. Five tax reforms are on the 2012 agenda as part of China's "positive fiscal policies" intended to restructure and balance the economy.

The five tax reforms to be put in place in 2012 include a pilot program for the value-added tax, an adjustment to the property tax, adjusting the scope and structure of the consumption tax, expanding resource tax reform, and studying the feasibility of an environmental tax.

China raised the threshold for its personal income tax from 2,000 yuan (US$314) a month to 3,500 yuan, excluding 60 million taxpayers from the system.

In regards to the housing market, taxes will continue to serve as a means of regulating the market and a new source of fiscal revenue.

Value-added tax reform, or replacing the revenue tax with a value-added tax, will see its first pilot program in Shanghai starting on January 1, 2012.

As for consumption tax, the change will expand the scope of assessment of commercial goods and focus on reclassifying and updating information.

Environmental taxes, such as a carbon tax, are still in the research phase and will not necessarily be implemented in 2012, but such taxes will eventually replace some administrative fees.

These reforms are also directed toward medium and smaller businesses – which compose most of the private enterprises - to help them move up the value chain and withstand the global downturn. Tax burdens on the agricultural and processing sectors will be eased to stabilize food prices and ease inflationary pressure. All these tax measures are targeted fiscal tools aiming at aiding economic growth, boosting fiscal revenue, and taming inflation.

Adam Roseman

Founder & Managing Partner

ARC China

According to a blue paper published by the Chinese Academy of Social Sciences (CASS), two important factors -- stagnant growth in developed economies and pressures on the yuan's appreciation -- will trim down the global competitiveness of Chinese industries in 2012.

At the press conference held to release the report, Zhang Qizi, a researcher at the Institute of Industrial Economics of CASS, said that Chinese industries will still maintain the top position in terms of global competitiveness next year, but its shares in global exports showed signs of downward trending in 2011 and risks of a decline in 2012.

"The global economic slump will put great pressures on China's exports. As trade protectionism against Chinese products is on the rise, global trade is unlikely to grow much," Zhang said.

Chinese exports accounted for 8.7 percent of the world's total in 2007 and later rose to 8.86 percent in 2008, 9.6 percent in 2009 and 10.0 percent in 2010, according to Zhang.

Meanwhile, Zhang said, the Currency Exchange Rate Oversight Reform Act of 2011, a bill passed by the US Senate that aims to push for a faster appreciation of the yuan, will also affect China's exports.

Zhang said the ultimate goal of the bill is to impose punitive tariffs on China's products that have a competitive edge. If turned into US law, it will affect China's low-tech industries and exert a far greater impact on high-tech products and strategic emerging industries.

The controversial bill, which still needs approval from the United States House of Representatives and to be signed by President Barack Obama, has a good chance of getting passed as the US has no better means to solve its growth and employment issues, Zhang said.

Zhang noted that Chinese industries are competitive as a whole but still face structural flaws, creating a challenge for China as it tries to avoid the middle-income trap -- a situation featuring poor industrial competitiveness.

"The key is for the nation to launch strategic transformation, changing from an export-led strategy to an import-substituting strategy," Zhang said.

The middle-income trap refers to countries stagnating with per capita income ranges betweenUS$2,000 to $6,000 that are unable to make breakthroughsto meet the level of advanced countries. China's per capita GDP has grown from US$155 in 1978 to over US$4,000 in 2010.

Chinese industries' global competitiveness ranked first in 2011, however its index fell below that of 2010 as the nation's export growth slowed, said Zhang.

Consumer prices in China rose by a lower-than-expected 4.2 percent in November, subdued by the cooling economic expansion which remains endangered by Europe's deepening debt crisis.

Analysts predict that the expectation of even lower inflation next year, about 4 percent year-on-year, may leave more space for policymakers to shift their priority from reining in rising prices to stimulating economic growth.

The nation's consumer price index (CPI), a main gauge of inflation, dropped sharply in November to a 14-month low of 4.2 percent, from 5.5 percent in October, after hitting a 37-month high of 6.5 percent in July, according to data posted on the website of the National Bureau of Statistics (NBS).

In the January-to-November period, consumer prices jumped by 5.5 percent year-on-year, the bureau said.

However, inflation has now declined for four consecutive months, thanks to the falling prices of food and some imported raw materials, signaling "that economic policies in the coming year may tilt toward stabilizing growth," said Li Yang, deputy head of the Chinese Academy of Social Sciences and a former adviser to the central bank.

Food prices, which account for about 30 percent of the products and services monitored for the CPI statistics, increased by 8.8 percent in November compared with last year - the figure was 11.9 percent in October. Pork prices declined by 5.3 percent month-on-month and vegetable prices by 6 percent, the NBS reported.

"The pork I just bought cost 21 yuan (US$3.3) a kilogram, a good deal less than the 30 yuan it cost about four months ago," said Yang Xia, a 62-year-old retired worker shopping in a Beijing supermarket.

Li Daokui, an adviser to the monetary policy committee of the People's Bank of China, predicted that whole-year CPI may drop to 2.9 percent in 2012 and could be 5.4 percent this year.

The producer price index rose 2.7 percent year-on-year in November from 5 percent in October because of falling international commodity prices and shrinking domestic and overseas demand.Industrial output growth rose by 12.4 percent year-on-year, the slowest pace in more than two years, indicating rapidly weakening economic growth, according to the NBS.

"This is being driven by softening export growth and the rapidly cooling property market," said Zhang Zhiwei, chief economist at Nomura Securities (Hong Kong) Co Ltd.

Hu Xudong, director of Zhejiang FuyangJin'aobo Shoe Co Ltd., said he's worried about his business in the coming year.

"The export volume of our shoes next year is likely to drop because overseas orders are shrinking," said Hu. "Also, rising labor costs may continue to cut our profits."

Growth in fixed-asset investment slowed to 24.5 percent in November, 0.4 percentage points lower than in October, and real estate investment growth dropped to 29.9 percent in November from October's 34.2 percent, according to the NBS statistics.

The central bank announced in early December 2011 that it would lower the reserve-requirement ratio (RRR) for commercial banks by 50 basis points, the first cut since December 2008. Many economists predicted that monetary policy may ease further in 2012, including at least two cuts in RRR in the first half, because of the gloomy outlook for the global economy.

Zhu Min, deputy managing director of the International Monetary Fund, said that emerging economies are not immune to Europe's debt crisis, which threatens the stability of their economic systems. "The risk of economic slowdown in Asian countries is surging," he said.

PuYonghao, chief investment strategist with UBS Asia-Pacific, believes that European countries and the United States may continue to loosen monetary policies while tightening fiscal policies to lower their unemployment rates and stimulate economic growth.

The US government will probably embark on a third round of quantitative easing next year if Europe slides into a recession and the US housing market continues to fall. This could increase market liquidity and bring imported inflationary pressure to China, Pu said.

Outside of China, the majority of consumers can't name a single Chinese brand.

According to research from agency Millward Brown and media company WPP on the top 50 most valuable Chinese brands, 83 percent of consumers beyond China's borders couldn't recall a Chinese brand or company.

That message is significant, given that China wants badly to create its own global brands, said Adrian Gonzalez, head of Greater China at Millward Brown. He added that Chinese companies like appliance maker Haier and computer electronics company Lenovo that aspire to be global household names will need to better distinguish themselves to become more recognizable to the world's consumers.

At home, it's a different story.

The brand study, which analyzed financial information of listed companies' brands and paired it with data from a survey of 35,000 consumers, reveals that value of Chinese brands has grown to US$325 billion in the past year, up 16 percent from a year earlier.

The top Chinese brands–ranging from banks and telecommunications to fashion and food companies– are not only competitive in pricing, but are resonating and connecting emotionally with Chinese shoppers, the study said. Chinese companies are also narrowing the wide gap they once had with multi-national counterparts, which had for years built better trust and service for Chinese consumers.

Gonzalez noted that even dairy giant Mengniu (18) and its rival Yi Li (22) have proven themselves to be on par with foreign competitors such as Swiss food company Nestle SAand are offering products of similar quality,even after having been implicated in a 2008 scandal in which the chemical melamine added to milk caused the death of an infant and illnesses in 300,000 others. Technology companiessuch as Sina (25) and Baidu (6) are creating new programs and products specific to Chinese needs.

Sina, which operates China's most popular Weibomicroblogging service, saw its brand value increase 244 percent compared with last year, according to the report.

"We're seeing in many cases now that foreign companies feel the best way to succeed in China now is through acquiring a Chinese company," Gonzalez said, adding that a decade ago that was not the case.

Results of the study reveal another shift occurring within China - a fall in the number of state-owned enterprises. While top Chinese brand China Mobileand state-owned banks still dominate the Chinese brand landscape, seven of the 14 brands on the list that lost ground with consumers were state-owned. China Mobile held on to its No. 1 ranking from last year but dropped 4 percent in value in 2011. The country's central bank, Bank of China (4), fell 17 percent.

The study noted that "Government protectionism is starting to wear thin," a marked contrast with the study's 2010 results.

However, the study's authors warned readers not to expect the fall to transfer beyond state-companies. If there's any wake up call to foreign brands—even outside of China— it's that Chinese brands are on the rise.

China, the world's largest exporter and second largest economy, is seeking a sustainable development mode for its foreign trade as problems such as rising production costs and environmental damagehave begun to emerge.

A white paper on the country's foreign trade released by the Information Office of the State Council said that China will turn the development mode of foreign trade from extensive to intensive because low-cost advantage of export-oriented industries has been "greatly" weakened as labor costs rise and prices of resources, energy, and other production factors spiral upward.

In its efforts to reduce environmental damage, the country will also promote energy conservation and emission reduction in foreign trade development. The paper said that the Chinese government has lowered and even abolished export tax rebates for some energy-intensive, heavily-polluting, and resource-based products since 2004.

As a result, in recent years such products have seen their proportion in exports decreasing while the export of new-energy, energy-conserving, and environmental-friendly products have grown considerably, the paper said.

Intellectual property (IPR) protection and product quality are among two other pressing issues the government will seek to address in its pursuit of sustainable growth.

The paper said that IPR protection is an essential move if China seeks to transform its economic growth mode and build an innovative country.

It also noted that the quality of China's export products has been constantly improving. In 2009 and 2010, 11.032 million batches and 13.054 million batches, respectively, of China' s export products were examined by inspection and quarantine authorities, with only 0.15 percent and 0.14 percent found substandard, according to the paper.

The paper said China will make new adjustments to turn foreign trade from scale expansion to quality and profit improvement and from reliance on low-cost advantage to enhancement of its comprehensive competitiveness.

A government think tank predicted China's economy will grow to 9.2 percent this year before gliding to 8.9 percent in 2012.

The growth rate of China's gross domestic product (GDP) in 2011, which would be 1.2 percentage points lower than that of 2010, was set against the background of sluggish economic recovery worldwide, China's prudent monetary policy, and the withdrawal of stimulus measures on consumption, according to a Blue Paper issued by the Chinese Academy of Social Sciences.

The paper, which predicts China's economic prospects for 2012, said the 8.9 percent GDP growth rate next year remains at a "reasonable growth zone" that features stable and relatively fast economic development.

China's consumer price index (CPI), a major gauge of inflation, is expected to rise 4.6 percent in 2012, lower than the 5.5 percent the CASS forecasted for 2011.

Despite some progress, taming inflation and stabilizing commodity prices will remain the priorities of China's macro-control for the time being, according to the report.

The CASS warned that China should prepare for economic growth to be threatened by pessimistic exports, as it may take the world ten years or more to recover from the current financial crisis which has affected the world economy since 2008.

However, the CASS said in the paper that China will see a drop in its exports against a slow global economic recovery and the country will see a chance to shift its economic growth mode that is currently based on imports and exports to one that is backed mainly by domestic consumption.

According to the CASS outlook for China's 2012 industrial competitiveness, exports of resource- and labor-intensive products will remain the most competitive in China's export structure, accounting for 34 percent of all world exports in this category and still increasing rapidly.

However, while"'Made-in-China' products are still the most competitive in the global market, the risk is that (the country's) share of the global export market may shrink," said Zhang Qizi, assistant director of the Institute of Economics at the Chinese Academy of Social Sciences (CASS).

The share of the nation's exports in the world's total grew from 4.3 percent in 2001, when China joined the World Trade Organization, to 10.3 percent in 2010.

Growth momentum slowed after the global downturn in 2008 but there could still be an increase in the share for 2011, Zhang said.

Amidst the uncertainties developing for the coming year and the declining competitiveness of China's exports amid the global downturn, Zhang noted that a decline next year would be the first since 1996.

Anticipated weak growth rates in the United States and Europe pose large obstacles to China's exports and may trigger more protectionism against Chinese products, Zhang said.

Although experts urged China to attach more importance to the service sector in its economic transition, the country's service-sector exports account for less than 5 percent of the global market, equivalent to one-third of the US level.

The CASS forecast comes as the country awaits the results of the 2011 Central Economic Work Conference, which will analyze the international and domestic economic situations and map out plans for economic development during 2012.

Ahead of the conference, President Hu Jintao said that China will continue to balance efforts to "ensure stable and relatively fast economic growth, while adjusting the economic structure and regulating inflationary expectations next year."

There are signs of a policy shift as increases in the consumer price index, a key inflation gauge, eased to 4.2 percent in November from this year's peak of 6.5 percent in July. Still, uncertainties remain in the nation's policy formulation process.

"The index may rebound in the last month of 2011 and until the Lunar New Year next year because of increasing demand for the festival," Zhou Wangjun, deputy chief of the price department of the National Development and Reform Commission, the top economic planner, told China Central Television.

Lunar New Year falls in late January 2012.

There could also be more export deliveries at the end of 2011, ahead of Lunar New Year, perhaps sending "deceiving" data indicating strong exports, said Wang Tao, head of China economic research at UBS Securities Co Ltd, in a research note.

But Wang affirmed that China's trade surplus would narrow further in the coming months and the amount will drop to an estimated US$150 billion compared with US$182 billion in 2010.

"This has caused foreign exchange reserves to accumulate slower than market predictions and changed the appreciation expectations for the yuan," Wang said.

December 11th, 2011 marked the 10th anniversary of China's joining the World Trade Organization (WTO) — a membership that helped transform China into the world's biggest economy after the United States. Companies and consumers worldwide have benefited from China's emergence as a top trading partner and yet, because of special breaks and loopholes for China when it joined the WTO, it still shields its domestic markets from foreign competition much more than any other large nation.

Microwave oven prices have plunged in the West over the past decade, largely because China has combined inexpensive labor, excellent infrastructure, and heavy factory investment to produce the ovens and a wide range of other consumer goods for export, making creature comforts more affordable to customers around the world.

Further, WTO rules against protectionism have made it difficult for countries in the West to limit China's sixfold surge in exports during those 10 years, even as the Chinese flood of products has forced factory closings and layoffs elsewhere.

But price tags on imported cars at dealerships in Beijing, Shanghai, and other Chinese cities signal how China has continued to protect its home market under the special terms of the WTO agreement it negotiated before joining the trade group.

In the United States, prices for a Detroit-made Jeep Grand Cherokee start at US$27,490. After tariffs and other protective fees, the same car sells for US$85,000 or more in China, making it no surprise that Chrysler sold fewer than 2,500 in the country in 2011.

Foreign trading partners often chafe at the way China uses the WTO rules to its advantage.

The Chinese economy's "spectacular rise would not have been possible without the open global trading system that China was able to benefit from during the past 10 years," said Karel de Gucht, the European Union's trade commissioner.

"At the same time," he said, "China is having to increasingly recognize and respect not only the legal responsibilities it now faces as a member of a global rules-based body, but also the WTO 'spirit' of promoting open markets and nondiscriminatory principles."

"We believe that our 10 year arrangement has been successful. The results of the past 10 years are a welcome and valuable inspiration," Yu Jianhua, China's assistant minister of commerce, said at a news conference leading up to the anniversary in Beijing.

The roots of China's economic model trace to the singular terms under which the nation joined the World Trade Organization, which now has 153 members.

Based in Geneva, the group was established in 1995 as the successor to an international framework called the General Agreement on Tariffs and Trade, or "GATT" as it came to be known, that had been mapped out in the early years after World War II.

After negotiating for 15 years to be admitted to GATT and then to the WTO, China was finally let in after agreeing to accept the WTO's broad free trade rules. But as all new members do, Beijing also had to negotiate a lengthy document, known as an accession agreement. It spelled out thousands of details tailored to the specifics of the economy of China, which then was still very much a developing country.

The agreement required China to lower its tariffs to levels below those of many other developing countries. But compared with most industrialized countries, China was allowed to impose considerably higher tariffs — tariffs China has retained even as its economy has subsequently grown to No. 2 in the world.

The clearest example of WTO ascendance China-style may be in automobiles. Even though China's auto manufacturing industry and car market are now both the world's largest, China continues to shelter them behind the highest trade barriers of any large industrial economy.

It retains a prohibitive tariff of 25 percent on imported cars, for example, which helps explain why imports represent only 4 percent of the light vehicles sold in China.

Japan, by comparison, no longer has any tariffs on imported cars, while South Korea has an 8 percent tariff and the European Union a 10 percent tariff. The United States, meantime, has a tariff of only 2.5 percent for imported cars, minivans, and sport utility vehicles (SUVs).

But the 25 percent tariff is only one reason a Grand Cherokee costs three times as much in Chongqing as in Chicago. In the name of energy conservation, China also assesses a sales tax of up to 40 percent of the vehicle's price based on its engine size. Small, fuel-sipping Chinese cars pay the lowest rate, as little as 1 percent, while gas-guzzlers from the United States and Europe pay the highest rate.

China also collects a 17 percent value-added tax on almost everything sold in the country, whether imported or domestically produced. But like many European nations, China uses a WTO provision that allows the tax to be fully refunded to China's export producers, who often pass along the savings to foreign buyers.

China further limits foreign manufacturers to no more than 50 percent ownership of car assembly plants in China. That special rule, which China managed to negotiate for its WTO accession agreement when its auto industry seemed tiny and vulnerable, has forced multinationals to set up numerous joint ventures in China and to transfer a wide range of technology to those Chinese partners.

Despite this, China's WTO agreement did open the Chinese economy's service sectors such as transportation, banking, and retail, to foreign competition.

FedEx, for example, has expanded rapidly in China and now has 9,000 employees in the country. The company also relies heavily on American-made Boeing 777-Fs, with mostly American pilots, to ferry an ever-rising tide of Chinese goods to the FedEx hub in Memphis.

And Wal-Mart has been able to open 353 retail stores in China, despite the hostility of many small, local retailers.

However, China's WTO agreement had some big omissions, including the thorny question of whether to let foreign companies bid on Chinese government projects — an issue that remains unresolved.

China got many of its breaks because the WTO and its members, including the United States, were eager to accept it into the international trade group to encourage Beijing's embrace of capitalism and to make it a more fully vested participant in the global community.

But trade officials say that they never expected all the terms of China's accession agreement to last as long as they have.

Instead, China and other trading nations had expected to reduce trade barriers further in the Doha Round of global trade talks. But the talks dragged on and then effectively collapsed in 2008 despite periodic efforts to revive it, including a meeting of ministersin Geneva.

"While China is acutely aware of other countries' concerns about its tariffs, it is leery of lowering them unilaterally without concessions from other countries," said He Weiwen, a council member of the China Society for WTO Studies in Beijing.

For the West, the open question is whether China's high tariffs and other market protections will be allowed to remain in place indefinitely, while another unresolved concern lies in a few provisions in the agreement that were meant to blunt the competitive impact of Chinese exports on Western industries are starting to expire.

The most notable of these is China's current designation under its WTO agreement as a "nonmarket economy." The label makes it fairly easy for overseas industries to accuse Chinese companies of dumping goods into their markets at prices below cost and to seek steep tariffs on their shipments.

That is just the sort of accusation, in fact, that American solar panel manufacturers have leveled at China in a trade case pending at the Commerce Department in Washington — a case the American industry is widely expected to win.

But under the WTO agreement, China will automatically be relabeled a market economy in 2016. That status will make it harder for companies in other countries to win antidumping decisions against China — and will probably clear the way for Chinese businesses to further increase their global market share.

Ideally, that could mean a great many more affordable and quality products on Western shelves — even if it means a Grand Cherokee from Detroit may never be affordable in China.

The Swiss food companyNestléannounced plans in July to buy 60 percent of Hsu Fu Chi in a deal that valued the Singapore-listed company at 3.5 billion Singapore dollars (US$2.7 billion). Buying the stake helps Nestlé gain on rivals in a fast-growing confectionery market by opening new distribution channels and tapping directly into local tastes.

The approval came less than a month after antitrust authorities approved a plan by Yum Brands of the US to buy hot-pot restaurant operator Little Sheep.

"China is now saying that it's open to multinational companies," said Frank Schoneveld, a Shanghai-based partner at law firm McDermott Will & Emery.

In the past, antitrust authorities have signaled that the closer foreign companies get to acquiring Chinese retailers or consumer companies, the more difficulties they will face, Schoneveld said.

A bid by US company Coca-Cola in 2009 to buy juice maker Huiyuan Juice was rejected on the assumption that Coca-Cola would crowd out smaller rivals and potentially monopolize the juice market, even though the two companies combined held only 20 percent of China's juice market.

But lately, a number of foreign takeovers have been approved. The Ministry of Finance and Commerce in September approved Nestlé's bid for a 60 percent stake in China's Yinlu Foods, a privately owned drink and porridge maker. Regulators in June approved UK-based liquor giant Diageo's takeover of a top Chinese white spirit maker, though the clearance came about 16 months after the deal was announced.

China's anti-monopoly laws are no longer being used as a protectionist tool, said Marc Waha, a partner at law firm Norton Rose, based in Hong Kong.

"China's regulators are now attempting to present a level playing field for foreign and domestic companies," Waha said, adding that in the past months, Chinese authorities have had a stricter stance toward the country's own corporations.

China's National Development and Reform Commission began an investigation of two major state-controlled companies over alleged monopolistic business in the market for broadband internet service. The Ministry of Finance and Commerce approved a joint venture between GE of the US and state-owned China Shenhua Energy, applying conditions predominantly to Shenhua.

The Nestlé approval makes the food giant the second-largest confectionery company by sales in China, after Mars of the US, according to market research firm Euromonitor.

Nestlé, which already sells a chocolate covered wafer bar called Crispy Shark in China, will be moving into less familiar territory. Hsu Fu Chi, founded in 1992, makes Chinese treats: cookies flavored like cucumber, and sweet onion, as well as hawthorn or lychee flavored gelatin custards that are sold in cups the size of ping-pong balls and slurped by Chinese children.

Analysts said the deal will open Nestlé to new distribution that will help the company influence a small but ballooning candy market. China's 1.34 billion people ate 13.7 million metric tons of candy last year, according to Euromonitor. That is slightly more than half the 26.8 million tons eaten by 310 million US consumers.

Annual sales in China's confectionery market - including chocolate, candies and gum - climbed 63 percent to more than US$9.2 billion from 2005 to 2010, according to Euromonitor.

Nestlé plans to delist Hsu Fu Chi from the Singapore Exchange.

Hsu Fu Chi, based in the southern Chinese city of Dongguan, indirectly will hold the remaining 40% stake, the company said.

Bank of China Ltd. (3988) and China Construction Bank Corp. (939) were upgraded by Standard & Poor's after the ratings firm revised its criteria, giving the Chinese lenders higher grades than most of their largest US rivals.

Bank of China and Construction Bank were raised to A from A- and Industrial & Commercial Bank of China (601398) Ltd.'s rating was maintained at A, according to a statement. The changes reflect the "very high" likelihood of China's government providing help for the lenders in the event of financial distress, S&P wrote in separate statements.

Bank of America Corp. (BAC), Goldman Sachs Group Inc. (GS) and Citigroup Inc. (C) had their long-term credit ratings cut to A-, while UBS AG and Barclays Plc were downgraded to A and HSBC Holdings Plc to A+. The Chinese banks' elevation underscores their turnaround since a decade-long overhaul of the state-run lenders that had cost the Asian nation US$650 billion by 2008.

"You look at the liquidity conditions in China, they're very good. You look at the policy impetus, the likelihood of government support, it's very very high," Tom Quarmby, an analyst at Barclays Capital Inc. in Hong Kong, said in a Bloomberg Television interview. "Whilst lending might be higher risk, it's just lending, it's not exotic derivatives businesses or investment banking."

On the day of the announcement, shares of Construction Bank fell 2.5 percent to HK$5.17 as of the midday trading break in Hong Kong, while ICBC declined 2.3 percent and Bank of China slid 2 percent. Hong Kong's benchmark Hang Seng Index (HSI) retreated 1.9 percent. The three lenders and Agricultural Bank of China Ltd. have declined by an average 26 percent this year on concern that loans may sour as economic growth cools.

Chinese banks' bad debts may climb to 1.5 percent of total loans by the end of next year and 1.8 percent by December 2013, according to the median estimate of seven analysts surveyed by Bloomberg in October. That compares with 0.9 percent for the third quarter, according to data from the regulator.

China's central bank has raised the reserve-requirement ratio for major lenders nine times since October 2010 to a record 21.5 percent. That compares with a maximum 10 percent for U.S. lenders, according to the Federal Reserve's website.

China, which has more than US$3 trillion of foreign exchange reserves, has pushed its banks to raise capital and limit off balance sheet loans this year on concern some infrastructure companies controlled by local governments and property developers may be unable to repay debt. Central Huijin Investment Ltd., which manages the government's stakes in China's biggest lenders, in October, began buying bank shares.

The China Banking Regulatory Commission warned lenders in earlyDecember that some projects backed by local governments may run out of funding and loans to developers are likely to go bad as property sales slow, according to a person with knowledge of the matter.

China's economy grew at the slowest pace in two years in the third quarter as the government raised interest rates and limited lending as part of its campaign to rein in inflation. Home prices declined in 33 of 70 cities monitored by the government in October.

Shang Fulin, appointed chairman of the banking regulator at the end of October, asked lenders to control risks associated with lending to local government financing vehicles, property development, wealth management businesses and shadow banking, the regulator said in late November.

S&P, a unit of New York-based McGraw-Hill Cos. (MHP), has been changing the way it looks at debt after its grades contributed to the credit-market seizure that brought down Lehman Brothers Holdings Inc. and Bear Stearns Cos. It started to review the methodology in December 2008, months after the collapse of those two firms.

China's retail sales grew 17 percent year-on-year to reach 16.35 trillion yuan (US$2.58 trillion) during the first 11 months of the year, the National Bureau of Statistics (NBS) said.

After deducting inflation, actual growth stood at 11.4 percent, the NBS said in a statement on its website.

In November, the country's retail sales increased 17.3 percent from one year earlier to hit 1.61 trillion yuan. After adjusting for inflation, November's actual growth rate was 12.8 percent.

On a monthly basis, retail sales rose 1.27 percent in November, according to the statement.

Urban retail sales increased 17.3 percent year-on-year to 1.4 trillion yuanin November, while rural retail sales climbed 17.2 percent to hit 216billion yuan.

In November, the nation's catering sector generated sales of 186.5 billion yuan, a rise of 17.7 percent from a year earlier, while commodity retail sales increased 17.2 percent to 1.43 trillion yuan.

Auto sales rose 11.4 percent to hit 189.7 billion yuan during the same period. The growth rate was 1.2 percentage points lower than that in October, the NBS said.

Sales of home appliances and audiovisual equipment climbed 25 percent to 44 billion yuanin November, while sales of furniture rose 34.4 percent to 12.1 billion yuan, according to the statement.

 

China's emerging baby boom, driven by more-relaxed government policies and the year of the dragon, is fertile ground for both domestic and overseas companies.

The world's second-largest economy will experience a population boom from 2005 to 2020 and the country's birth rate will peak in 2016, the National Bureau of Statistics predicts. The Chinese population is expected to reach 1.388 billion by 2020 from 1.334 billion in 2009, according to the United Nations.

Many families are also likely to want their children born in 2012, the year of the dragon. Five percent more babies are born in a dragon year because the icon of China's emperors symbolizes power and wealth, said Cheung Tak Hong, who runs the obstetrics and gynecology department at the Prince of Wales Hospital in Hong Kong.

"The baby boom is a good investment idea in the near term," said Jessie Guo, Jefferies Group Inc.'s Hong Kong-based head for consumer research in Asia. "The growth is likely to sustain for the next two to three years."

The boom is expected to increase sales of formula companies such as Inner Mongolia Yili Industrial Group Co., diaper maker Hengan International Group Co. and Prince Frog International Holdings Ltd., a maker of toiletries for children.

Investors who sold Chinese dairy companies after tainted formula killed at least six infants three years ago are buying again.

Yili dropped 67 percent in 2008 in Shanghai trading after it was identified among 22 companies that sold products containing melamine. The stock of China's top publicly traded baby formula maker has jumped more than fivefold since then, and 21 out of 22 analysts tracked by Bloomberg who cover the stock predict it will continue to rise. The Shanghai Composite Index has gained 33 percent since the end of 2008.

China Mengniu Dairy Co., the country's biggest listed milk producer, lost 65 percent of its market value in 2008. Its stock has since more than doubled.

"The dragon year baby boom is almost a sure thing, which will boost the demand for infant products such as baby formula, diapers and clothes," said Michele Mak, a consumer-sector analyst at BNP Paribas.

China introduced a one-child policy in 1979 to curb population growth and drive prosperity. Now, facing an aging labor force, the government has eased restrictions by allowing couples who are both only children to have two kids of their own. In addition, rural couples whose first child is a girl over four years old are allowed a second child.

As incomes rise, Chinese parents have more money to spend on their children. Per-capita disposable income for households in towns and cities rose 8 percent to 19,109 yuan last year, almost doubling from 2005.

China's baby-food market will grow about 22 percent to more than 68 billion yuan (US$11 billion) in 2011 and will almost double to 136 billion yuan by 2015, researcher Euromonitor International estimates. Baby food and pediatric supplement maker Biostime International Holdings Ltd. has gained 1.3 percent in Hong Kong trading this year.

The baby boom is also likely to "provide a good boost in sales" for Prince Frog and for children's clothing retailer Boshiwa International Holding Ltd., said Ray Sze, director at Tianda Securities. "The companies are cheap right now." Prince Frog is trading at 8.2 times expected earnings and Boshiwa is at a multiple of 9.1 Hong Kong's Hang Seng Index is at 10 times expected earnings.

Boshiwa expects sales orders to rise 40 percent to 50 percent in 2012 on rising birth rates and a robust economy, it said in November.

As more children are born, diaper maker Hengan is also "well positioned to monetize on the baby boom," said DaweiFeng, a Hong Kong-based analyst at CLSA Asia-Pacific Markets. Diaper sales will grow from 24.3 billion yuan in 2011 to 28.4 billion yuan in 2012, Euromonitor estimates.

Still, Chinese makers of formula and other baby products face tough competition because consumers continue to view local brands "as less trustworthy," said James Roy, a consultant at China Market Research Group. "For those who can afford, they will definitely go for imported foreign brands."

Overseas companies dominate in sectors such as baby food. For infant formula, overseas manufacturers including Mead Johnson Nutrition Co. and Danone have the highest market share, according to data from Euromonitor.

Mead Johnson had the biggest market share for infant formula in China last year with 11.7 percent, followed by France's Danone at 9.8 percent, the data show. Closely held Hangzhou Beingmate Group Co. had 9.2 percent and Yili 7.9 percent.

Glenview, Illinois-based Mead Johnson's sales network covers 250 cities across China, with 50 added this year and a further 50 to be added in 2012, according to the company's website. Chief Executive Officer Stephen Golsby, in an October earnings call, cited the growing number of children born into middle-class families in the southern Chinese city of Guangzhou, which the company entered almost 20 years ago.

Mead Johnson made 23.7 percent of last year's $3.1 billion sales in China, compared with 15.3 percent in 2009, according to data compiled by Bloomberg.

At a Shanghai Carrefour, shopper George Zhai bought a 400- gram pack of Wyeth's Promil Gold baby formula for 92 yuan.

"For imported milk powder, we know what's in there," Zhai said. "For some of the domestic ones, we aren't sure. I think unless people can't afford, most will always choose foreign brands, if not buying overseas. That gives you a guarantee of safety."

Liang Haojie took a visiting friend to shop at a local mall in North China's Shanxi province where he had bought a Trussardi jacket a few days ago.

Liang is a regular customer at TianmeiMingdian Mall in Taiyuan city, a shopping center that exclusively sells luxury products from abroad. Italy's Trussardi is one of popular brands in local market.

"I've been fond of high-quality coats since I was very young. A good quality jacket priced at no more than 20,000 yuan ($3,174) is acceptable to me," said Liang, who earns over 400,000 yuan a year as a chef at a local grand hotel.

"I work hard, so I should treat myself better," he explained.

Increasingly affluent Chinese consumers like Liang are developing a strong desire for the finer things, as the nation's opening-up brings more luxury stores to their doorstep. In an environment of stagnant global growth, the nation has become a key source of growth for the world's luxury market.

"Following China's entry into the WTO (World Trade Organization), global luxury brands are jostling to expand in a country that opens wider," said Michael Ouyang, CEO of the China office with the World Luxury Association (WLA).

Ouyang said 340 luxury brands, or 85 percent of the world's total, are available in the Chinese market.

A WLA report this year predicts that China, currently the world's second largest luxury market, will overtake Japan as the largest next year, though the government said in early December that it has enormous tasks to help over 100 million people still living under the newly-set 2,300-yuan-per-year (US$362) poverty line.

Only a decade ago, Chinese consumers barely understood luxuries, and those buying them only saw it a way to flaunt wealth. Now they are clients who value quality, fashion and self-image.

Zhao Yan, manager of TianmeiMingdian's administrative department, knows exactly how this transformation has occurred. She said having a loyal consumer such as Liang was difficult when the mall first opened in 2002, a year after China joined the WTO.

Unlike sales booms in the first-tier cities such as Beijing and Shanghai, luxury goods, especially foreign brands, got a cold shoulder in the second- and third-tier cities at the very start, even in Shanxi province, which is known for both its rich coal resources and abundance of wealth from coal mining.

"Some days, barely any customers visited the mall. Brands were reluctant to work with us," Zhao said. "It wasn't until 2005 when the business started to get better."

From 2005-2010, China's urbanization process sped up, with its economy growing at an annualized rate of 11.2 percent, well above the global average level. Its per capita GDP exceeded US$4,000. During the period, Shanxi's GDP also more than doubled the previous five years'.

With more foreign firms expanding in China to accommodate the demand of increasingly wealthy buyers, the luxury industry has become one of the fastest growing sectors in the economy.

Zhao said the mall is attracting more high-end foreign brands, and so are other newly-built local malls.

CaiSujian, president of China Luxury Institute, said rapid economic growth has made luxuries more affordable in China. Moreover, Chinese buyers are gaining a more global perspective and open attitude toward foreign cultures, especially among the urban youth born in the 1980s and 1990s.

Zhao Qing, 28, recently bought her boyfriend a 2,000-yuan Montblanc pen as a birthday and Christmas gift.

"I heard that Montblanc has been in Taiyuan for ten years. It has a good reputation," said Zhao, who earns just around 2,000 yuan a month in a government-affiliated institution in Shanxi.

Wu Tao, head of Montblanc's direct store in Taiyuan, said revenue of the German brand grew 30 percent annually on average over the past ten years.

Taiyuan's growing appetite for luxury goods has mirrored that of the country's other second- and third-tier cities, which Ouyang said fosters the greatest growth potential for luxury consumption.

According to a report jointly released by the Beijing's University of International Business and Economics (UIBE) and the Fortune Character magazine in November, luxury sales grew fastest in second-tier cities, especially in Hangzhou, Shenyang and Chengdu.

"China's rising consumption power is changing the global luxury market landscape," Cai said, noting that while luxury brands saw no growth in European markets amid the global meltdown and eurozone debt woes, China's strong purchasing power assured robust growth.

China's luxury goods saw 16 percent growth in 2009 and hit US$12 billion in 2010, according to data from McKinsey & Company.

In the UIBE and Fortune Character's report, 63 percent of surveyed consumers say they will increase spending or keep level spending in the future, reflecting the nation's strong buying power despite the ongoing global financial turmoil.

Wang Qingyun, chief marketing officer of Ipso in Greater China, predicts that 29 percent of global luxury goods sales will come from China by 2015.

BayerischeMotorenWerke AG, Daimler AG, and Audi AG plan to limit holiday breaks for the second year in a row as demand holds up for luxury vehicles in China.

BMW and Daimler's Mercedes-Benz will shut most factories for just one week between Christmas and New Year's Day, while Audi will close European plants for two weeks, the carmakers said. The automakers lengthened year-end breaks for many workers to as long as three weeks in 2009 due to sagging deliveries.

"Because of the positive sales development, we'll only have short factory breaks at the end of the year," Martin Steinlehner, a Daimler spokesman, said in an e-mail.

The luxury-auto makers posted record November sales in China. Audi soared 69 percent, BMW rose 9.8 percent and Mercedes gained 24 percent. The three are looking to the world's biggest car market to prop up deliveries as European demand sags on concern over the region's sovereign debt crisis.

German auto buyers in November waited on average 3.3 months for delivery, down from 3.6 months in October, according to a study from the Center for Automotive Research at the University of Duisburg-Essen. The German car market, Europe's largest, probably won't grow next year as the debt crisis saps consumer confidence, auto-industry association VDA said.

The world's three biggest luxury-car manufacturers are still reporting sales increases thanks to China and BMW said that global deliveries gained 6.4 percent in November, while Volkswagen AG's Audi surged 28 percent. Mercedes reported that sales climbed 8.3 percent in November.

Some BMW factories will be closed longer than one week for needed maintenance work or to complete renovations for revamped models, Jochen Frey, a company spokesman in Munich, said. The plant in Rosslyn, South Africa, will stop producing for three weeks to prepare for the next generation of the best-selling 3-Series, Frey said.

A factory in Dingolfing, Germany, which assembles the 5-, 6-, and 7-Series models, will be shut down for two weeks, while the Leipzig plant, where the 1-Series and X1 compact sport-utility vehicles are produced, will halt for four weeks, he said. The company will manufacture the i3 electric city car in Leipzig from 2013. Both factories stayed open during the holidays last year, BMW said at the time.

While most Mercedes-Benz factories will only halt assembly lines between Christmas and New Year's Day, the plant in Sindelfingen, Germany, will close for a second week to prepare for new models including the next-generation S-Class sedan, Steinlehner said.

Audi has shut down its four European factories through January 6, 2012, the same as last year, to do required maintenance work, Kathrin Feigl, a company spokeswoman, said.

 

Global private equity firm KKR & Co L.P. (KKR.N) said in early December that it would invest US$60 million as a cornerstone investor in the Hong Kong initial public offering of China men's casual wear retailer China Outfitters Holdings Ltd 1146.HK.

"The menswear market in China has enormous growth potential. Market leaders such as China Outfitters have significant room to increase market share," David Liu, CEO of KKR Greater China, said.

Private equity firms are increasingly providing pre-IPO financing, an area hedge funds previously dominated in Asia prior to the 2008 financial crisis.

China Outfitters designs, makes, and sells menswear in China. Its foreign brands include JEEP, Santa Barbara, Polo & Racquet Club, and London Fog. The company has over 1,000 stores nationwide.

KKR was among three private equity investors who committed three quarters of the US$145 million IPO of China Outfitters, IFR, a Thomson Reuters publicationreported.

A private equity fund of Everbright China and Sequoia Capital China committed US$25 million each to China Outfitters prior to the IPO.

China Petrochemical Corp., Asia's biggest refiner, agreed to invest an estimated US$1 billion to increase its stake in an Australian liquefied natural gas project led by ConocoPhillips and Origin Energy Ltd.

Sinopec Group, as the company is called, signed an initial accord to buy a further 10 percent of the venture, Sydney-based Origin said in a statement. Sinopec Group, which agreed to pay US$1.5 billion for 15 percent of the project in April, will also purchase an extra 3.3 million metric tons of LNG a year through 2035, clearing the way for an investment decision on the second phase of the US$20 billion Queensland state venture.

China, the world's largest energy consumer, plans to more than double natural gas consumption to cut its reliance on coal and oil. The country needs to increase LNG imports as it develops unconventional sources such as shale gas, said Ivor Ries, an analyst at E.L. & C. Baillieu Stockbroking Ltd.

"There's a lot of talk about China seeking its own unconventional gas," Ries said by phone from Melbourne. "What this tells you is that Sinopec thinks developing domestic supplies will take a lot longer" than expected.

The accord came a month after Sinopec agreed to invest US$5.2 billion in GalpEnergia SGPS SA's Brazilian unit. Chinese energy companies have bid at least US$16 billion for overseas oil and gas assets this year to expand reserves.

Arrow Energy Ltd., the Australian coal-seam gas producer owned by PetroChina Co. and Royal Dutch Shell Plc, is planning a rival LNG venture on Queensland's Curtis Island. BG Group Plc and Santos Ltd. are also building Queensland LNG projects.

Origin and Conoco, the third-largest U.S. oil company, are among energy companies in Australia planning or already building A$200 billion (US$203 billion) of LNG projects to tap Asian demand for the cleaner-burning alternative to coal. Their venture in November agreed to supply Japan's Kansai Electric Power Co. with 1 million tons of LNG a year.

While Australia is set to surpass Qatar as the biggest LNG exporter by the end of the decade, projects in the country face delays and cost overruns that threaten to undermine their credit quality, Standard & Poor's said in November.

Conoco and Origin earlier this year agreed to supply 4.3 million tons of LNG a year to Sinopec. Annual capacity from the first two stages of the LNG project will be 9 million tons.

The terms of the agreement are "consistent" with the previous Sinopec transaction, Origin Managing Director Grant King told reporters. Conoco and Origin may receive at least US$1 billion by selling 10 percent to Sinopec Group, Ries said.

Conoco and Origin will each own 37.5 percent of the Australia Pacific LNG project, while Sinopec will have 25 percent when the transaction is completed. The majority shareholders reiterated today they plan to make an investment decision on the second phase of the development in early 2012 after committing to the first processing unit in July.

"There is certainly potential" to proceed with a third LNG unit, King said.

Origin