China’s Growth Prospects – Short Run vs. Medium Run

China’s Growth Prospects – Short Run vs. Medium Run

An unusually lengthy post – I really feel the need to express a few thoughts on the China growth debate.

Nearly all export-oriented economies (Germany, Japan, China, Taiwan, South Korea, Singapore) are currently experiencing sharp slowdowns as the global economy stalls. Double-dip recession in the Eurozone is a key factor, and, if you throw in the double-dip recession in the UK, you got essentially the entire EU region facing economic distress. Growth in most emerging markets have also moderated or slowed sharply and the US economy is experiencing sub-par growth as well.

Some are, however, more concerned about a sharp structural downshift in China’s economy (China is the single biggest contributor to recent global growth). There are several reasons to be skeptical of the China bears:

A. The electricity usage slowdown and its supposed accuracy in reflecting China’s broader economic performance is an increasingly tenuous proposition. As China’s economy becomes more oriented towards efficient value-added manufacturing and services, its electricity usage per renminbi of GDP produced will decline. This process is already well underway. See for instance:

http://www.bloomberg.com/news/2012-08-07/electricity-use-seen-overstating-china-economic-slowdown.html

B. China’s famously unbalanced economy is in fact becoming more balanced. Note recent increases in labor wages and rapid rise in consumption spending. It will take a little time for the share of consumption spending to rise but it is inevitable. See:

http://www.imf.org/external/pubs/ft/fandd/2012/09/pdf/barnett.pdf

http://www.economist.com/node/21555770

C. Many observers of China note that it has an extraordinarily high level of investment rate (recently in the 45-47% range) and a high level of national saving rate. This leads some to claim that China cannot maintain decent growth rates in the future because the high rates of investment are excessive and dangerous. While it is true that China’s saving rate and investment rate have recently reached extraordinary heights (and as noted in B, it is likely to come down from such elevated levels), it is worth keeping in mind that the country is still a relatively poor economy. China’s capital stock per worker is still very low when compared to Japan or the US. So, in Solow Model parlance, it is very far from its steady-state capital-labor ratio. Hence, it can continue to grow at decent rates (6-7%) for a few more decades. US and Japan, meanwhile, are closer to their steady state capital-labor ratio (though there is probably still some ways to go – consider US infrastructure deficit for instance) given their already high level of capital stock per worker. Thus, just basic capital accumulation led growth is less relevant for advanced economies like Japan and the US, but still matters for poor economies like China and India. See for instance:

http://www.economist.com/node/21552555

http://www.economist.com/node/21562903

D. On the question of data accuracy:
China has a long way to go to establish solid and reliable data collection. However, it is worth keeping in mind that, in many emerging economies, the informal sector is in fact huge and that non-market activities are relatively far more significant than in the US. Hence, the stats are more likely to be understating the extent of economic activity in emerging markets than overstating it.

Also, note that even in the US (which is considered to have the best data collection services), data is frequently revised – the 2008Q4 real GDP growth rate advance estimate was -3.8% (as reported in early 2009), but the final three year comprehensive revision noted that it was in fact -8.9%. Imagine, the handwringing that would ensue if Chinese data were revised that dramatically!!!
On PPP estimates of China's GDP, see
http://www.foreignaffairs.com/articles/68205/arvind-subramanian/the-inevitable-superpower
Also, relevant -
http://www.economist.com/node/21542155

Finally,
Check out Stephen Roach's insightful piece here:
http://www.project-syndicate.org/commentary/china-is-okay-by-stephen-s--roach

Also, See Stephen Roach vs. Gordon Chang on China's Prospects (second part of the video):

Stephen Roach on Fed Policy and on China’s Growth Prospects