Gridlock No Threat to Profitable Growth of China's Auto Market

China's auto market last year continued the sales surge that helped it oust the U.S. auto market from its top spot in 2009.

Sales of passenger cars, buses and trucks in China rose 46% in 2009 to 13.6 million, beating out U.S. vehicle sales of 10.4 million. The growth pace of China's auto market was the fastest in more than 10 years, according to the China Association of Automobile Manufacturers, and continued to soar in the first six months of 2010 - jumping 30.45% in that time.

While booming auto sales contributed to growth opportunities for automakers like General Motors Co. (NYSE: GM) and Ford Motor Co. (NYSE: F), analysts worried that the drastic increase in vehicles would contribute too much to painful traffic gridlock and wear and tear to aging Chinese infrastructure. The influx of cars on roadways even led Beijing to announce at the end of last year that it would allow just 240,000 vehicles to be registered in 2011, a little more than 33% of the number of new vehicles registered in 2010. The impending limits sparked a buying spree in December, with 30,000 new vehicles registered in one week alone.

Carmakers and investors worldwide are giving China's auto market increasing attention with its searing hot growth pace, but wonder if the country can withstand millions more vehicles hitting the roads. The following reader comment addresses China's issues and wonders how it will affect the global auto industry.

Comment: While the potential for benefits to our auto industry from China's demand of vehicles sounds promising, there are some troubling roadblocks. To begin with, they already have traffic jams (gridlock) that last beyond 12 hours a day. In fact, roadside catering and support are a local growth industry that caters to the stranded motorists. With the constant number of landslides and floods that occur throughout the land, building and improving roads plus installing gas stations will take time, big time. And even if most of the potential customers did buy a vehicle, where would they drive and park them?

China's leaders and business community are clever folks. With plans to build their own for the world market, they could acquire auto parts giants like Magna International Inc. [NYSE: MGA, TSE: MG] or even existing car companies from around the world and build their own to satisfy their domestic market. Based on personal experience, North American automakers have to first satisfy the domestic markets' requirements for quality, reliability, and styling; and then they have to negotiate the removal of trade barriers before they will move large volumes abroad.

Money Morning Chief Investment Strategist Keith Fitz-Gerald, who spends much of the year navigating the crowded streets of China, addresses this reader's comments by detailing the reality of perceived issues facing China's auto market in 2011, as well as outlining new opportunities.

Keith Fitz-Gerald: Thanks for writing in - these are all super sharp points. Based on 20 years in the region, I see four touch points here:

1) I agree - the Chinese auto industry will slowdown somewhat in 2011 as a result of incentives that are going away. However, the limiter of Beijing traffic isn't what the West thinks. True, conditions are terrible and Beijing traffic makes Los Angeles look positively organized, but it still works just like any other major city in the world - London, New York, Tokyo and even Los Angeles. All are implementing some form of limited driving access, parking priorities and the like.

2) As for roads in general,don't be misled by what's happening here. China is building the largest road network in the world and already had a highway network of 74,000 kilometers as of December 2010. By 2020, China is looking at a total road network of more than 5.29 million kilometers, not including municipal roads.It's a numbers game that's going to support cars, buses and all forms of trucking for years to come together with their underlying suppliers. Most are actually very safe and very well constructed. (but I've been on a few in remote areasthat are truly "Indiana Jones" type experiences, too.)

3) GM, Ford, Volkswagen AG (PINK: VLKAY), Audi and other international makers are already benefiting significantly from this trend and all have substantial manufacturing plants inside China. Most people don't realize this, but one of the classic Chinese strategies for growing markets when working with foreign companies like this is that they are really importing finished goods. They require partners to build inside China and sell their goods only inside the local markets. I expect this model to continue for years to come and more announcements like that from GM, which sold more than 2.35 million cars in China in 2010 versus the 2.2 million units it sold here at home.

4) People in the West, chief among which are our politicians, haven't yet focused on this tidbit, but China wants a zero balance trade deficit by 2015. One of the primary ways they're going to accomplish this is to go on a global buying spree, the likes of which makes the Japanese acquisition model of the late 1980s positively pale in comparison. It's going to be psychologically devastating to see American companies gobbled up, but also immensely profitable for those who foresee this trend like we do. Incidentally, this also puts an end once and for all to the notion that China will live and die by exports. Not only has this argument been false for more than a decade as domestic consumption rises, but the days of high Chinese export growth are over for good very shortly.

Oh, and by the way - many of the roadside stands sell fabulous munchies if you've got the guts to try them.

(**) Money Morning editors reserve the right to edit responses for grammar, length and clarity when posting on our Web site. Please include your name and hometown with your email.

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