We shouldn’t call ‘peak China’ just yet

What is the economic future of China? Will it become a high-income economy and so, inevitably, the largest in the world for an extended period, or will it be stuck in the “middle income” trap, with growth comparable to that of the US? This is a vital question for the future of the world economy. It is also no less vital for the future of global politics.

The implications can be seen in quite a simple way. According to the International Monetary Fund (IMF), China’s gross domestic product (GDP) per head (measured at purchasing power) was 28 per cent of US levels in 2022. This is almost exactly half of Poland’s relative GDP per head. It also ranks China’s GDP per head 76th in the world, between Antigua and Barbuda, above, and Thailand, below. Yet, despite its relative poverty, China’s GDP (measured in this way) is the largest in the world. Now, suppose its relative GDP per head doubled, to match Poland’s. Then its GDP would be more than double that of the US and bigger than that of the US and EU together.

Size matters. China will surely remain a very populous country for a long time. In 2050, for example, according to the United Nations, it will still have 1.3 billion people.

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So the question about China’s future in the world can be restated in the following way: can it achieve the same level of prosperity relative to the US that Poland already has? That would be one more doubling in its relative GDP per head. Is this really going to be so hard? Before concluding that it will be, it is worth noting that China’s GDP per head, relative to the US, went from 2 per cent to 28 per cent of US levels over 42 years, from 1980 to 2022. This is just under four doublings. Is another doubling over, say, 20 years inconceivable?

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A comparison might help to answer this question. A country that has come close to matching China’s performance in the post-second World War era is South Korea. In the early 1960s, its GDP per head was about 9 per cent of US levels. It took roughly a quarter of a century from 1980 for China to reach this point. Korea reached 28 per cent of US levels, where China is now, by 1988. It reached 57 per cent of US levels, where Poland is today, by 2007. Now it has reached 70 per cent. If China matched this, it would reach Poland’s relative level in 2022 by the 2040s and 70 per cent of US levels by the 2050s. This would be a new world.

Before rejecting this comparison out of hand, some errors must be avoided. Huge attention is being paid right now to China’s slowdown, its over-reliance on investment in property and its financial fragility. All this is understandable. But it might also be exaggerated. South Korea was hit by several big crises, notably the debt crisis of 1982 and the Asian financial crisis of 1997. Yet, in response to these shocks, South Korea adjusted and powered onwards. It did not experience prolonged relative stagnation, as Japan did after 1990. On the contrary, South Korea, whose GDP per head was a third of Japan’s in the 1950s, is now richer than its erstwhile imperial master. Taiwan, by the way, has done even better than South Korea. No wonder so many Taiwanese wish to remain independent.

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True, one can put forward a long list of reasons why China must have reached the end of the road on its staggeringly rapid catch-up on the economies at the technological frontier. These include an ageing population, structural imbalances, financial fragility, a deteriorating global environment, and today’s arbitrary and oppressive government. These are all perfectly legitimate points.

The most intractable economic problem is over-reliance on credit-fuelled investment, not consumption, as a source of demand and the parallel over-reliance on capital accumulation, not innovation, as a source of rising supply. Thus, from 2009 to 2022 (inclusive), the contribution of increases in “total factor productivity” (a measure of efficiency in resource use) averaged about 0.5 percentage points a year, far below the two percentage points a year achieved from 2000 to 2008. That is also far too slow.

Yet it is also worth remembering the strengths of this vast country, which graduates 1.4 million engineers a year, has the world’s busiest patent office, has a highly entrepreneurial population, and is showing world-leading potential in, to take just one example, electric vehicles. In information technology, it already seems far ahead of the Europeans. In sum, can China truly not match Poland?

The biggest questions of all about the future of the Chinese economy concern politics, both domestic and global. Domestically, does China have a leadership that wants to continue with rapid growth or is it now inclined to view stability as more desirable? Is it prepared to take the steps needed not just to increase demand now, but to tackle the structural problems of over-saving and over-investment, over-reliance on the property market, excessive leverage and so forth? Is it prepared to give private businesses their head once again or is it determined to keep them under firm (and inevitably daunting) control? Can it convince the Chinese people that, after the traumas of Covid, they can be confident in the future once again? Adam Posen of the Peterson Institute of International Economics has argued powerfully that they cannot. I am not convinced. They changed in the late 1970s on a far bigger scale. Of course, the leadership also changed. Will it this time, too? Or is it fixed for years ahead?

As important is the adverse global environment. China’s access to world markets and technology is worsening. There is even a risk of war. It will take great determination to overcome the former and wisdom to avoid the latter.

So, yes, it is indeed possible that we are watching the end of China’s rise. But it is not inevitable. Above all, what happens will depend more on Chinese choices than on western wishes. – Copyright The Financial Times Limited 2023