China's AI Success Drives Market Flows, But Demographics Tell a Different Story
The success of Chinese AI company DeepSeek has triggered a significant rotation of global funds from Indian to Chinese equities. India's markets have witnessed FII outflows to the tune of 1 lakh crore rupees so far this year, a significant portion of which has been redirected to China. Consequently, the Chinese market capitalization has expanded by $1.3 trillion this year.
This trend is particularly intriguing since it is happening despite the U.S. imposing an additional 10% tariff on Chinese goods, reflecting renewed investor confidence in Chinese equities. One major reason for this shift is the sheer valuation gap—while Indian markets trade at an average P/E ratio of ~21X, Chinese equities remain significantly cheaper, hovering at ~11X price to earnings. However, China's lower valuations are a consequence of several structural challenges.
The Chinese government's tight control over the private sector has often led to unexpected regulatory crackdowns which have impacted investor confidence. Further, strict capital controls restrict foreign investors from freely moving capital, while many valuable Chinese companies either remain private or are listed overseas, limiting domestic market depth.
These figures highlight a stark reality: China's workforce is shrinking, and its aging population is likely to reduce consumption and economic dynamism over time.
China’s Aging Population: A Long-Term Economic Headwind
Yet perhaps the most significant but often overlooked factor is China's demographic challenge. Despite its 1.4 billion population, China faces rapid aging - their median age is already 39 years and projected to approach 50 by 2040. UN forecasts suggest China's population will decline from 1.42 billion currently to 1.31 billion by 2050, potentially dropping below 800 million by 2100. By 2040, nearly 25% of Chinese citizens will be over 65.
These figures highlight a stark reality: China's workforce is shrinking, and its aging population is likely to reduce consumption and economic dynamism over time.
The Impact on Consumption Patterns
Even today, the effects of an aging population and China's past 'one-child policy' (enforced for 35 years until 2016) are visible in household savings behavior.
While some may argue that China's high savings rate is due to higher income levels, a deeper look reveals something striking:
This suggests that despite higher earnings, Chinese households are more risk-averse, prioritizing savings over discretionary spending, largely due to weaker social safety nets, an uncertain regulatory environment, and concerns about future financial security in an aging society.
In contrast, India's demographic dividend remains strong with a median age of just 29 years - among the lowest globally. The IMF projects that over the next two decades, India's favorable demographics could add approximately two percentage points annually to per capita GDP growth. This combination of youth, growing consumption, and economic expansion presents a compelling long-term investment proposition despite near-term market volatility.