My Blog

February 25, 2008

According to Friday’s China Daily (and a host of other newspapers around the world), a just published Gallup survey claims that most Americans think China will be the world’s largest economy within 20 years.  We obviously need to take these opinions with a grain of salt since, according to the same survey, 40% of Americans believe the China is today the world’s top economy, compared to 33% who believe it is the US.  Since the US economy is currently more than four times the size of China’s, it is a little hard to understand why 40% of Americans think China’s is the world’s largest, but there you have it.

I suppose it is the combination of China hype and US paranoia that explains these bizarre opinions.  To their credit, it doesn’t seem that informed opinion in China takes the results of this survey very seriously.  The China Daily article pointed out that Chinese experts are a lot less confident about the validity of these predictions than their American counterparts, and I suspect they are right. 

Perhaps this Chinese skepticism is because Americans have made similar predictions before, and these predictions turned out to be absurd.  It was well known in the late 1950s that thanks to their superior technology and better economic management the Soviet Union was all but certain to overtake the US economically before the end of the 20th Century.  That didn’t pan out, of course, but without missing a beat Americans then switched their focus to Germany, whose inexorable rise as a quality-oriented export machine in the 1960s and 1970s made it seem that it was just a matter of time before it did the trick (in the 1930s they were also supposed to overtake the US at some not-too-distant time, but that didn’t pan out either).  By the mid 1980s all other contenders were chucked into the waste bin when it seemed breathtakingly obvious that the Japanese juggernaut was the one that would crush everyone before it.  Now, apparently, it is the turn of China.

I don’t want to make too much fun of US paranoia.  Americans are intensely competitive and we seem to need a serious challenger to justify ourselves existentially.  Perhaps that is part of our strength.  On the other hand, as I’ve seen printed on numerous t-shirts, “Just because I am paranoid doesn’t mean they aren’t out to get me.”  So is the paranoia justified?

I pulled out my trusty calculator to see what it would take for China’s GDP to overtake that of the US by 2028.  If we assume that China grows by 10% a year for the next few decades years, and that the US grows by 2% a year during that same period, the mathematical conclusion is inescapable: the Chinese economy will equal that of the US in twenty years and will be nearly six times as big by the middle of the century. 

But how likely is this?  In my opinion it is extremely implausible.  First, US GDP growth is much more likely to average 2.5-30% a year, as it has for much of its recent history.  Second the idea that China can grow at 10% on average for the foreseeable future is, to put it charitably, a little unlikely.

Why is it unlikely?  Since it began its reforms in the mid-1970s, China’s economy has in fact grown at roughly 10% a year, and participants in the earlier “Asian miracle” were also able to achieve similar levels of growth for many years, so why is it so hard to think that this growth level cannot continue for China into the indefinite future? 

Let us leave aside the statistical observation that it is far more likely for smaller countries to end up in the “tails” of a probability forecast than for a country as large as China – in other words for purely statistical reasons small countries are more likely to be on the very high or very low end of a standard distribution of outcomes than are large countries.  This observation, by the way, dovetails nicely with the actual range of historical growth rates in Asia, where smaller countries have been both the best and the worst performers. There are still at least three other sets of reasons why this 10% forecast is unlikely and why we need to adjust these numbers sharply downwards. 

Special circumstance

The first set of reasons involves the special circumstances that have so far underpinned China’s recent growth and its sustainability, the second has to do with demographics, and the third has to do with a few obvious emerging problems facing China’s economy as it continues to grow.  To address the first set of reasons, Chinese growth since the 1970s, as I see it, was powered by three special circumstances, none of which are sustainable over the long or even medium term.  The first special circumstance occurred in the early stages of China’s reform, when Deng Xiaoping began to unshackle the Chinese economy in the late 1970s.  As is widely known, many of his immensely successful government reforms consisted simply of unwinding some of the policies of his predecessors – which were among the most inefficient economic policies ever put into place. 

Remember that in the 1930s, China’s per capita income was not much below that of Japan and Taiwan, and I believe it was higher than that of South Korea (although perhaps not of the more highly industrialized North Korea, which anyway put into place some of the same policies that China had before the Deng Xiaoping reforms, and suffered a similar fate).  China’s per capita income at the time was also substantially higher than many of its Asian neighbors who subsequently undertook their own economic reforms, and who still far surpass China in GDP per capita.  Under the economically repressive policies of its early leaders post-1949 China fell way behind its neighbors, and so it is no surprise that simply unwinding some of the policies that so sharply repressed Chinese economic growth would have created a massive growth spurt that would allow it to narrow the tremendous lead its neighbors had enjoyed.  In a similar way I have little doubt that when North Korea finally begins its economic reforms, its growth rate will even surpass that of China as it too is able to take advantage of the reversal of economic repression.

China is still benefiting from unwinding of its failed economic experiment, but clearly as China advances it becomes harder and harder to sustain the growth differential simply by removing the earlier political impediments.  Simply put, once all the worst policies of the 1950s, 1960s and 1970s are eliminated, there will be no more free lunch.

The second big cause of recent growth, in my opinion, was the tremendous fiscal expansion China underwent in the 1990s.  It is hard to measure the extent of this expansion because it occurred almost entirely through a rapid expansion of bank lending to unprofitable state-owned enterprises, but it also left the banks saddled with enormous amounts of non-performing loans and it nearly crippled the banking system.  This hidden fiscal expansion still occurs to some extent, but clearly there are very tight limits as to how much more expansion the government can engineer, and of course fiscal expansion is not a free lunch.  It must be paid for in the future.

Finally, the third cause of extraordinary growth (and the period of most extraordinary growth) began roughly in 2003 or thereabouts, when China found itself locked into a monetary regime that resulted in out-of-control money expansion.  China is still living with this monetary regime, and while the early stages of this kind of growth are always wonderful – asset price increases, plentiful credit, rapid growth – at some point the consequences, as we are already seeing, lead to significant economic imbalances and the need for adjustment.  We may begin to see already in 2008 the process of this unwinding.  At any rate, this latest phase of Chinese growth is also unsustainable, in my opinion (for reasons I have discussed many times in this blog).

The demographic crisis

So assuming that there are no special changes or challenges facing China, and assuming that absent these special circumstances things can continue as they have, what is a reasonable projected growth rate?  I am not smart enough to say, but certainly I think we can say 10% annual growth for the medium- or long term horizon is at best the upper limit, not the expected mean.  Let’s assume that if current circumstances remain in place and if we eliminate the special circumstances that underpinned the impressive growth rates of the last three decades, China can grow at an upper limit of 9-10%.  I think this may be a little generous, but I want to be conservative as I work this number down.

That brings us to the second set of reasons why a 10% annual growth rate is unlikely for the future – the demographic challenge.  During the period of Chinese growth since the late 1970s, China benefited from a double advantage.  Not only was its population growing, albeit slowly, but more importantly, its dependency ratio improved dramatically (the dependency ratio is the percentage of non-workers – basically the too-old and the too-young – in the total population). 

After the horrors and dislocations of the anti-Japanese war and the subsequent civil war, with the establishment of peace and the New China in 1949, the country not surprisingly enjoyed a baby boom.  One consequence of the baby boom, of course, was deterioration in the dependency ratio, as an explosion of births meant that an increasing fraction of the population was too young to work.  From 1949 to the mid-1970s China saw its dependency ratio rise (deteriorate) quickly.

This deterioration in the dependency ratio began to reverse itself in the 1970s as young people born in the 1950s and 1960s became old enough to join the work force, causing a surge in employable workers.  With the implementation at that time of the one-child policy, the improvement in the dependency ratio accelerated sharply as China saw the number of children drop as a share of its population.  The combination of the two factors was impressive.  Thanks to the maturing baby-boomers and one-child policy, from the mid-1970s to the present China enjoyed one of the most dramatic improvements in the dependency ratio that the world has seen. 

This had to come to an end, however, because fewer children today also means that in the future there will be fewer workers.  Demographic experts project that China’s dependency ratio will continue improving for another two or three years, but after that it will begin to deteriorate almost as dramatically as it had previously improved (the baby boom moves into retirement but there are too few young adults to replace them).  This deterioration will be exacerbated by the fact that China’s total population is at or near its peak, and will decline slowly over the next few decades.

How will this affect Chinese growth?  It is of course hard to say, especially since the scale is unprecedented and we don’t have too many examples of similar circumstances with which to compare China, but economic growth is equal to the growth in the number of workers multiplied by the growth in productivity per worker.  From the mid-1970s to now, my very rough back-of-the-envelope calculations suggest that China’s working population grew on average by about 2% to 2.5% a year.  From 2010 to 2050 my equally rough calculations suggest that the working population will decline by around 1% annually.

That means that China will face roughly a 35 to 3.5% differential growth rate of workers between the last 30 years and the next 30 years.  There are too many unpredictable factors that can result from this decline in workers, so it is dangerous to imply any precision at all in my predictions, but I would guess that a plausible, unbiased prediction would suggest that in order to account for this dramatic change in the growth rate of the working population, we should reduce the current “equilibrium” growth rate by 3.0-3.5%.

That takes us to projected growth rates of around no more than 6-7%, and perhaps less.  This may seem like a very low number (and there are additional reasons to think it should be adjusted downward).  Certainly it is well below what nearly every economist seems to be predicting for China, especially in light of the high and persistent growth rates enjoyed by other Asian countries, but it is not as crazy as it sounds.  It is true that many Asian countries were able to generate growth rates at substantially higher levels for many years, but a significant part of that growth was also generated by improvements in the dependency ratio.  I have seen one World Bank report that argues that as much as 30% of the Asian “miracle” can be explained by this factor alone, and of course Paul Krugman in his notorious Foreign Affairs article (in 1997, I think) argued that much of the rest of Asian “miracle” growth could be explained by other factor labor-growth-related inputs.  As surprising as it may seem at first, it is not out unreasonable at all to assume that a sharp reduction in the growth rate of the working population must also result in a sharp reduction in output growth.

By the way demographic changes do not have the same adverse effect on the US because not only is the US population growing steadily during this whole period (from four times as big today, China’s population may be 2.5 to 3 times as big as the US by 2050), but its dependency ratio is more or less stable.  US population is expected to grow at around 1% annually into the middle of the century, and its working population is expected to keep pace – and perhaps even grow a little faster as Americans are increasingly likely to work later years.

Emerging problems

These two sets of sets of reasons explain why I think a projected 10% annual growth rate into the medium term is very optimistic, but there is still a third set of reasons to doubt the optimists.  China has many other, almost unimaginably tough problems that need to be addressed in order to maintain high growth rates, and by addressing these problems the “equilibrium” growth rates may, and probably will, decline.  One of the most obvious is that Chinese growth has come at the expense of a very serious degradation of its environment.  Chinese environmental problems are by now so well known that it is unnecessary to argue why this process isn’t sustainable in the long run or even in the medium run, but it is worth wondering what the growth consequences will be when Chinese businesses are no longer able to count on the free depletion of their natural endowment. 

What do I mean by this?  If I create $10 of economic value in my factory while destroying $2 of economic value by depleting my natural endowment, my real contribution to the economy should be measured as $8.  However in recent years Chinese businesses have been able to ignore the $2 they have destroyed (polluting rivers, destroying agricultural land, etc.) and have claimed the full $10 as economic value-added.  This can’t go on for ever, and once these businesses are forced to recognize and pay for the $2 of damage, their contribution to economic growth per equivalent unit of activity will decline.  This must show up as slower GDP growth (and I am not including the cost of reversing the previous environmental degradation). 

I have no idea what the net effect will be, but I have heard estimates of the annual cost of environmental degradation ranging from 1% to 3% of GDP.  Let’s say that these numbers are exaggerated, and that there are also secondary GDP benefits to environmentalism, perhaps it is still reasonable to shave 0.5% to 1% off GDP growth projections.

There is more.  China has a severe water shortage – it is so bad that many water experts refer to a looming water crisis in the next decade.  I am not enough a good enough economist or engineer to figure out the economic impact, but it can’t be controversial to suggest that the need to resolve the water crisis will somehow constrain economic growth.  This constraint may be very significant, especially in the north where the water crisis is most severe.

Similarly with other commodities.  For China to catch up to the US in total size by 2050, Chinese per capita income in 2050 must equal or exceed US per capita income today (I explained why in an entry last month).  It is hard to imagine that if 20-25% of the world population move from the poverty of China today to the consumption level of the US today, the demands on the world’s resources won’t be strained somewhat.  This will undoubtedly have a cost to GDP growth.  By the way, one measure of how implausible the idea that China’s GDP will equal that of the US by 2050 is precisely that it would require Chinese per capital income in 2050 to be equal to or more than US per capita income today.  Anyone who has traveled though China will find that a little hard to imagine.

But wait, since constraints on the world’s resources are a global problem, and not a Chinese problem, won’t that also constrain US growth?  Almost certainly yes, but it seems pretty safe to say that the world’s wealthier, more flexible economies generally suffer less from high commodity prices and commodity shortages than the poorer countries, so the cost will be borne disproportionately by China and other poor countries.

I am ignoring in my calculations the possibility of serious social or political disruptions because these possibilities don’t necessarily change the expected outcome – they simply reduce the certainty we associate with those expectations.  The most obvious uncertainty is political.  Given the rapid social change China is undergoing (probably unprecedented in history in its magnitude) and the rigidity of its political structure, it is very hard to make a meaningful prediction about how the political system will react to the tremendous pressure China faces.  Still, it is at least as plausible to argue that there will be occasions of difficult change and adjustment, and that these periods may have adverse economic impacts, as it is to argue that the process will be smooth and uneventful.  This means that whatever the expected outcome, we would have to assign a much wider standard deviation than we might have for predictions about other countries.

I could go on, but I will make one final point.  It is fairly well accepted among economists that rapid growth is easier for countries that are further behind technologically than the leaders, but as these countries advance the speed of the catch-up declines.  This will probably happen to China too.

When will China overtake the US?

So where does that leave us?  It is hard to say.  These projections are necessarily imprecise and the mathematician in me insists that false precision is a great as sin as bad math, so I don’t want to refine the numbers too much.  In the end I have no idea what a reasonable projected growth rate for China is for the next few decades, but I am very certain that 10% is implausible – almost impossible.  I would suggest that anywhere between 5-7% is far more likely, and even lower numbers are not implausible.  As you can see if you have been following the math, I am actually marking down my projection by a lot less than my arguments above would indicate because, like anyone else, it is not easy for me to want to vary too widely from the consensus.  You can just write it off to my cowardice and inability to trust my own arguments. 

At any rate if I reprogram these new set of numbers into my calculator, I show the following:

1.        If we assume that the US grows at 2% a year forever, and that China grows at either 5% or 7% forever, in the first case China will be two-thirds the size of the US by the year 2050 and in the second it will be one-and-a-half times the size of the US by 2050.

2.        If we assume the US grows by 2.5% forever, in the first case China will be little more than half the size of the US by 2050 and in the second case it will be 40% bigger.

3.        If we assume the US grows by 3% forever, in the first case China will be little less than half the size of the US by 2050 and in the second case it will be 10% bigger.

4.        Even in the most favorable relative case for China, China will be less than half the size of the US in 20 years.  My guess is that this calculation distorts the likely outcome a little because whatever the average growth rate for China over the next forty years, it is likely to be higher in the first twenty than in the second (for many of the same reasons I downgraded the forecast).  Still, it is in my opinion extremely unlikely that China will overtake the US in size within 20 years.

The world seems fervently to believe that China’s rise as the world’s largest economy is more or less a done deal even though it is hard to get the numbers necessary for such an outcome to work.  China is clearly a large and growing economy, and there is little doubt in my mind that it will soon be the world’s second most important economy.  There is even a possibility that it will be the world’s largest economy within our lifetimes, but that possibility is no certainty and, in my opinion, is not even highly likely.  Perhaps paranoia just sells better.

Comments (41) for "When will China overtake the...

Only the paranoid survive! I expect China can get to around $10,000 per capita (PPP) just by picking the low hanging fruit, i.e. repealing the bad policies. Currently it looks as though it will do what it takes to achieve further growth, but I think we are always inching closer to the point when a major reform (perhaps in property rights) becomes necessary, one that hardliners will see as clearly and permanently reducing the party's power. Also, people should realize that even if China matches U.S. GDP, it will still be a relatively poor based on a per capita income. By 8 - 2/24/2008 11:21 PM

I suppose that this post is for American readers to consume. And the comparison between 1930s and 1950s Asian countries seemed odd. By fatbrick - 2/25/2008 1:22 AM

On the basis of Purchasing Power Parity (PPP), China is already much closer to the U.S. than what comparisons based on current market exchange rates indicate. Last December, the World Bank published a document entitled "2005 International Comparison Program - Preliminary Results". This report revises downwards - very substantially - previous estimates of China's GDP on the basis of PPP. In spite of this adjustment, the difference between China's GDP at market rates and based on PPP remains very high: China's GDP - Market Rate: $2,243.8 Billion China's GDP - PPP Basis: $5,333.2 Billion USA GDP: $12,376.1 Billion (Source: Pages 22 and 22 of the ICP report) Taking PPP into consideration, and adding to it a likely substantial appreciation of the Yuan vs the US Dollar, it might take even less than 20 years for China to catch up. For instance, based on these 2005 figures, should China continue to grow at 10% per year and the U.S. at only 2%, it would take China only 10 years to pass the U.S. on a PPP basis, if my EXCEL spreadsheet can be trusted. And this is counting from 2005 on... By J-P THIEBLOT - 2/25/2008 4:21 AM

There's still a huge amount of low hanging fruit so to speak that can drive Chinese economic growth. In particular, urbanization rates are still rather low and most Chinese are farmers. Moving people from farm to factory is enough to sustain very high levels of economic growth for several decades. One way to look at things is that much of the massive economic growth that mainland China has been undergoing over the last generation was merely to reverse the economic mismanagement of the early Communist era. After spending about 30 years to reverse the damage of the first 30 years, mainland China has just made it back to the starting line so to speak, and most of the country hasn't got to the "tiger phase" of development. The state enterprises were unprofitable primarily because they were expected to pay social welfare costs of their workers. Now theu have been restructured, the SOE's have been quite profitable, and the largely successful restructuring of the SOE's have driven a lot of economic growth since 1998 or so. One way of thinking about the loans of the 1990's were that they were worker buyouts. Once you have profitable SOE's then you end up with virtuous cycles with the banks. Chinese industry and finance is not stellar, but after about a decade worth of effort the system has moved from "totally broken" to "substandard and mediocre." The other major reform of the 1990's was the privatization of urban residencies. Once urban dwellers got title to their apartments this set off a boom of spending as people starting remodeling and redecorating. There is still a lot of efficiency gains to be had here. For example, turning several dozen auto manufacturers into one or two or also consolidating coal production is doing to result in a lot of economic gains. The dependency ratio is something to worry about, but Chinese productivity is so low, that its easy to get productivity gains by capital investment. The environment is also a worry, but part of the problem is that Chinese use of energy and pollution output is so inefficient that it is hard *not* to imagine major gains there. The reason that I think large amounts of growth are possible in China is that it is starting from such a low base, there are so many poor areas, productivity is so low, the environment is such a mess, industry is still very inefficient etc. etc. that there is still a lot of room for improvement. It's not like Japan or even the Soviet Union where you've tapped out obvious sources of growth. By Twofish - 2/25/2008 5:37 AM

You generalize too much. When you start analyzing and comparing the specifics of the two economies ,you may come to realize that while China produces and exports real goods, the U.S. is a service economy exporting mainly its debts. By Marp - 2/25/2008 6:42 AM

I think this is a very interesting article and agree with your conclusions. I don't claim to be an economist but after living here for 12 years I am becoming less confident about the longer term prospects for China. Many foreigners who live in the big cities such as Beijing and Shanghai and don't travel around the rest of the country are unaware of the price China is paying for its rapid economic growth. Wasteful infrastructure spending and environmental degradation are just two major issues while demographic trends may certainly mean that China gets old before it gets rich. I am amazed at how little accountability there has been (at least so far) for the squandering of the limited natural resources in this country. China will continue to grow and remain a major economic player but it has some serious roadbumps ahead. By David Oliver - 2/25/2008 11:26 AM

Hi Michael, Here is some math from a former physics geek... Making some totally gross assumptions, we can write down an expression for how long it will take for the size of China's economy to match that of the US S_China x exp(Growth_China x T) = S_US x exp(Growth_US x T) or T = log(S_US/S_China) / (Growth_China - Growth_US). For China's economy to surpass that of the US in 20 years, it must grow at a rate 7% faster than the US. PS: I also like to compute covariance matrices for fun. By Eric - 2/25/2008 12:28 PM

Since you're comparing nominal GNP levels at current exchange rates, just dealing with real GNP growth rates is a big mistake. On present trends, China's nominal GNP in current $ grows by 11 (real GNP growth) + 6 (GNP deflator) + 8 (RMB appreciation vs $) + 5 (annualised rate from regular upwards revision of GNP) = 30 % per year, the US nominal GNP in current $ by 3 (real GNP growth) + 3 (GNP deflator) = 6% per year. And I'm being conservative here. If these trends continue, China's nominal GNP in current $ will exceed that of the US in 6 or 7 years. Of course, although not new they could disappear. But to save your forecast you need that to happen very soon, you don't have 20 or 10 or even 5 years to play with. By smekhovo - 2/25/2008 3:05 PM

Professor Pettis has been right many times in the past when everyone knew better, and it is a pleasure to see him use his debunking logic once again. Thank you. Mr. Smekhovo, I have lived through many hypes and I know that the same disagreements exist here that have existed before, so I am not surprised, but in the area of China hype you are in a class by yourself. You say that your conservative estimate is that China will overtake the US in six years? By the way do you really think RMB will appreciate by 8% a year for six years? So you think it is nearly 40% undervalued? By Jaime Florida - 2/25/2008 4:03 PM

Mr. Thielblot. You cannot start with a PPP adjustment and then adjust up again for expected currency appreciation. The former is supposed to account for the latter. Mr. Marp, Any projection 20 to 50 years in the future will be based on generalizations. I don't know if Mr. Pettis's claims are correct or not, but I think he is simply replacing one form of generalization with one that he feels to be more "plausible", in his words. That seems to be a reasonable position. Either his assumptions are wrong, or his logic is inconsistent, or he is right. By TR - 2/25/2008 4:29 PM

Ah, all this reminds me of the wonderful days of my youth when the Japanese global takeover was in process. The flavor of the argument is almost exactly the same, and if you squint a little you will find the numbers to be almost the same too. I am not old enough to remember the Soviet and German juggernauts, but I am sure they must have been just as much fun. If I can make one suggestion, professor, give it up. Not only will everyone think you a fool for disagreeing with what everyone knows to be inevitable, but if you ever do turn out to be right (and I am betting you will), you won't be able to gloat because you won't find a single person who wasn't on your side all along. My proof -- can you find anyone alive who admits to believing in the Japanese hype of the 1980s? I know they were out there, but where have they all gone? By ZH - 2/25/2008 4:39 PM

"Undervalued" is a vague term, unless it simply means that something's relative value (here with respect to the $) will rise in the future. As with all four trends I identify, this one is firmly in place now, and you need to claim that it will break down almost immediately. By smekhovo - 2/25/2008 5:06 PM

Mr. Semkhovo, not almost immediately but over the next six years. I do not think anyone disagrees that current trends are current trends, but I thought the point of Professor Pettis' argument is that projecting current trends into the future makes no sense if the conditions creating them are expected to change. If your only point is that if current trends continue long enough, they will have a certain predictable mathematical relationship, of course I agree. In the same way, if oil prices continue rising at current trends, within two years oil will be at $1000 a barrel. That is a mathematical certainty, but I don't think it will happen in reality. By Jaime Florida - 2/25/2008 5:18 PM

Mu understanding is that the authorities want to see the currency rise by about another 15-20% in real terms. Since Chinese inflation is much higher than US inflation, and rising, that means there should be less than two years of 8% annual apprecaition, maybe not much more than one year if inflation surges. By Argamin - 2/25/2008 5:34 PM

Martin Wolf and Gideon Rachman have made the obvious counter to your argument. China has four times the population of the US. All it needs is to acheive one-fourth the productivity of the US, and its economy will be as big as the US. Korea already has acheived that, and why is it surprising that China can do it too? By Antimatter - 2/25/2008 7:31 PM

Thanks everyone for the comments, except for some of the nastier invective, which I have had to erase (my tolerance for free speech has limits). It is nearly impossible to discuss Chinese growth projections without being called ignorant, racist, imperialist, and a bunch of other things. These kinds of discussions always seem to touch a nerve. One comment. Antimatter, it is not just Martin Wolf and Gideon Rachman, two people I respect a lot, who have made that argument. It has been made many times, almost as many times as the "pendulum" argument – i.e. China was the world's biggest economy in the past so therefore it must be the world's biggest economy in the future (alas poor Egypt, which also used to be the world's biggest economy, and for longer than China, but never got pendulumed). There are two problems with this argument. The first is that Korea is one of the most successful economic stories in history. Just because one country of 30 million pulled "it" off does not mean that every country, especially one with 1.3 billion, must do so (I mention the relative sizes because of the statistical anomaly I referred to in my piece). You might point to Japan as another country that has pulled it off, but that comparison, for obvious reasons, is much more problematic. Japanese history since the Meiji is quite different than what China is likely to go through. More to the point, the 4:1 population ratio between China and the US is not a constant. By 2050 if I remember correctly, the UN projects China to have about 1.1 trillion people and the US to have 420 million. I have seen claims by demographers that the UN has systematically underestimated the impact of US immigration, and which project US population to be closer to 500 million. That means that the relevant ratio in the future is not 4.0 to 1 but rather 2.6 to 1 or even 2.2 to one. Even this overestimates the difference. The average Chinese today is younger than the average American, and China has a better dependency ratio, but by the middle of the century the average Chinese will be substantially older than the average American (I believe he will be even older than the average European) and the Chinese dependency ratio will be worse than the American. I don’t have the figures in front of me, but this suggests that the working population ratio might only be a little better than 2:1 in favor of China. This also means that for China's economy to equal that of the US, Chinese productivity per worker might actually have to be half that of the US, a feat which even Korea has not managed. As Marp pointed out, of course I am generalizing, but as TR pointed out, these must necessarily be generalizations. The relevant question is this: Should Martin Wolf's generalization that China only needs to achieve a 1:4 ratio in worker productivity versus the US be more credible than my generalization that it actually needs a 1:2 productivity ratio. The implications are quite different. By Michael Pettis - 2/25/2008 8:00 PM

Looking at this question from a purely statistical and economic perspective, while useful in offering a snapshot of progress thus far, is very limited in its usefulness at predicting future trends than it would first seem. A more useful basis would be to try an achieve an understanding of the Chinese peoples state of development. i.e. do they have the tools to allow them to grow into a modern economy. Have they managed to create the right environment for growth in the productivity of their citizens. Having lived in several regions and taught in hundreds of middle schools across the country, it is apparent that the Chinese people not only have the wherewithal but also the collective desire to dominate on a global scale. The Chinese have a strong belief in education, are naturally technically gifted and are prepared to put in the hard graft, just like their Asian neighbors and in my opinion are well on the way to attaining a comparative level of "wealth". They are getting there, they will get there, with or with out the help of the US or Europe. Its in all our interests to aid the growth in global productivity. So discussions on how to accurately compare the great nations against each other, is narcissistic, divisive and deeply pessimistic. By Robin - 2/25/2008 10:03 PM

Discussion of the changed dependency rates expected in 2050 is entirely irrelevant to what is going to happen in the next five years. One might as well expect an understanding of the likely climate in a century's time to help predict the result of tomorrow's horse race. By smekhovo - 2/26/2008 12:53 AM

I don't think Pettis is implying that the dependency ratio will suddenly change in 2050 from what it is today. It is already changing. I think he said it would peak in 2010 and deteriorate thereafter. That sounds like something that will happen in you "next five years", no? By Antimatter - 2/26/2008 11:25 AM

Perhaps Mr. Smekhovo believes that if China accepts an inflation rate of 30% it can become larger than the rest of the world put together within five years. Acording to his formula, the higher the rate of inflation (or the GDP deflator) the faster a country grows. It seems a very dubious proposal to me, and evidence that formulae more often fool some of us than enlighten, but that is what the formula he proposes says. Perhaps he does not understand the concept of "real" appreciation. I lived in Argentina with my wife's family during the hyperinflation period. If only we had known then that our economy was growing so quickly. By Jaime Florida - 2/26/2008 11:35 AM

Excellent piece. The breadth of your knowledge is as refreshing as your skepticism. Perhaps this is considered a sensitive topic among the many Chinese and Americans on this site, but since I am neither, and a political scientist to boot, let me add this. There have been many comparisons made between China's growth today and the growth in the past of the Asian susperstars Japan, Korea and Taiwan, but I observe that there is one difference often ignored. Those three countries were in the front line of the Cold War, and during this time the US was determined that they would succeed economically and politically. It also heavily subsidized their defense spending. I don't know how to quantify the economic impact of all this, but I think if a poor country is supported by the richest country in the history of the world determined to make the poor country rich, it must have some positive and even substantial impact on growth, especially on access to large, developed markets and trade and investment policy. I think without this factor the "equilibrium" growth rates of the Asian superstars would be lower. Needless to say I do not think China can count on the same kind of support. By Francois L. - 2/26/2008 11:56 AM

If you have a massive trade surplus and very rapid growth, you can easily combine relatively high inflation with a strongly appreciating currency. Russia and the Gulf states share these characteristics, and those of their currencies which are not pegged to the $ appreciate very fast. Pay more attention to reality, people, and less to your preconceptions and textbooks. By smekhovo - 2/26/2008 12:22 PM

Mr. Smekhovo, you are fixated on trends at a single point in time and assume that they can be projected forever. Of course it is possible to have relatively high inflation and an appreciating currency for some period of time, especially if you are a commodity exporter during a time of high commodity prices. This condition has occurred enough times in history that there is even a name for it: Dutch disease. But it is not sustainable and is rarely considered a good thing. Perhaps that is why it has the name "disease". You might read about this in one of those textbooks. By Jaime Florida - 2/26/2008 4:39 PM

Marp: When you start analyzing and comparing the specifics of the two economies, you may come to realize that while China produces and exports real goods, the U.S. is a service economy exporting mainly its debts. Wow Marp! Why do I suspect you get most of your understanding from excitable television "contrarians"? Besides the fact that you've made a meaningless statement, it is fascinating to think that there are people who read financial blogs who nonetheless think that the only correct measure of a country's wealth is how much and what it exports. Not even close! By Econopig - 2/26/2008 5:37 PM

ZII: Ah, all this reminds me of the wonderful days of my youth when the Japanese global takeover was in process. The flavor of the argument is almost exactly the same, and if you squint a little you will find the numbers to be almost the same too. I am not old enough to remember the Soviet and German juggernauts, but I am sure they must have been just as much fun. But then one can make the opposite mistake. People in 1990 assumed that because the Soviet Union fizzled, China would also. My argument that China has a good three to four decades of economic growth ahead of it is precisely because of looking at why the Soviet Union, Germany, Japan, and the tigers growth. The Soviet Union grew very rapidly in the 1950's and 1960's because they were taking people out of low productivity agriculture and putting them into less low productivity industry. The same is basically true with Germany, Japan, South Korea, Malaysia, Indonesia, Thailand and every other economy that become a developed or semi-developed nation. What happened with the Soviet Union was that they finished industrialization in the mid-1960's, at which point the fact that they had a horribly inefficient industrial infrastructure killed off growth. If you take that framework and apply it to China, what you find is that the point at which the China runs into Soviet and Japanese limits is one in which its economy is far larger than that of the United States. China is not even close to the productivity and incomes that the Soviet Union and Japan had when they stalled, and it's not even close to Thailand or Indonesian levels. The examples of the Soviet Union and Indonesia are important, because it suggests that even if China has a massively inefficient and broken economic system, it still has quite a few decades of economic growth ahead of it, and personally, I think that the big danger over the next few decades is that people take high growth rates as "proof" that an economic system is not broken in a fundamental way. One other thing, is that in thinking about the Chinese economy, it helps to not think about China as one big economy, but rather as about twenty smaller economies in a free trade zone and currency union. The economy of Zhejiang is radically different from the economy of Gansu, for example, and economically, China resembles the EU more than it does South Korea. By Twofish - 2/26/2008 6:56 PM

Pettis: I have seen claims by demographers that the UN has systematically underestimated the impact of US immigration, and which project US population to be closer to 500 million. That means that the relevant ratio in the future is not 4.0 to 1 but rather 2.6 to 1 or even 2.2 to one. The problem with these projections is that they are deterministic whereas what actually happens depends on the political decisions that people make. For example, the amount of immigration that occurs depends very crucially on social attitudes. It's quite possible that in 2030, China will have a relatively open immigration policy whereas the United States would have a relatively close one. Sure its very hard right now to imagine China having a guest worker program that invites people from Uganda and Angola to immigrate to China and become Chinese, but social attitudes in China-2038 much less China-2058 could be quite different than social attititudes in China-2008. One need only look at different attitudes in Mississippi-1968 and Mississippi-1998. Even in the case of China, the attitudes toward overseas Chinese in 1968 and 1998 are very, very different. It actually feeds on itself, since countries with high economic growth tend to attract and tolerate economic migrants, whereas people start noticing you are different when economic growth stalls. This is the self-interested reason I've always been interested in economics. The key things about these sorts of projections is not to view them as determinstic projections, but to reverse the problem, and to ask assuming that either China or the United States wants to continue to grow in the 21st century, what has to be done? You look at the key factors that could cause growth to stall, and fix them before they become a problem. By Twofish - 2/26/2008 7:12 PM

I did some calculation per your last section a couple years ago, trying to answer exactly the same question and reached (surprise!) a similar conclusion, which may be of interests to you. http://sun-bin.blogspot.com/2005/12/when-will-chinas-gdp-overtake-us.html By sun bin - 2/26/2008 8:30 PM

I have seen many similar discussions about the projection of China's economy size compared to US's. I am always so profoundly confused why people never take into consideration of the RMB appreciation. For example, even if US and China grows at the same rate in real term, if RMB keeps appreciating like what we have seen now, it will still catch US very soon. Actually, if you assume the US's economy grows at 3% and China's at 9%, and also with RMB appreciates 8% annually, it will only take 11-12 yrs to surpass US in nominal term. 11 years are not that long at all. I still remember vividly what happened in my life 11 yrs ago:). Please, everyone, when you discuss this and do the calculation, consider the RMB appreciation By yi - 2/27/2008 11:14 AM

Also, many people always use these kind words"i know china has a good record in the past 30 yrs, but it can not sustain that forever, forever." of courrse everyone knows it wont last forever, actually if it continues the way it has done in the past 5 yrs (growth plus RMB appreciation), it will be very very short time for china to catch up with US in nominal GDP term. Actually, everyone was projecting that China can only catch Japan by 2015. However, as RMP appreciates so quickly now, it wont be 2015, it will be 2010 when china will surpass Japan (right now it is about 3.3 versus 4.5). It is much faster than people predicted. And we all have to admit 2010 is not that so-called "forever or indefinitively" no, no, it is within 2 years. So please take into consideration of the currency appreciation. And China does not need "foever or indefinitively" or these kind words. If the trend keeps going, it only need another 2 years to catch Japan and another 11 years to catch US ,in nominal GDP term. That is not forever or indefinitive at all. So, please take into consideration of the RMB appreciation and dont use words like indefinitive. :) By yi - 2/27/2008 11:24 AM

Yi, from my reading I would have thought that nearly everyone on this site IS taking into account the currency appreciation. Half the comments are about precisely that. Aside from the fact that Pettis believes that China is NOT going to grow at 9% annually, mainly for demographic reasons I guess, several people have pointed out the RMB appreciation should last another two years. If we assume, as you do, that the RMB can appreciate by 8% for 11 to 12 years, you are saying that the RMB will rise by 133-155%. I am pretty sure that if it did, China's GDP growth would suffer terribly, don't you? By TR - 2/27/2008 3:10 PM

I agree with TR. Yi is saying that Pettis's argument is wrong because "if the trend keeps going" some predicted things will happen. Of course "if the trend keeps going" they will happen, but trends don't keep going forever. The main good question is what will future trend look like, not the past. In the 1980s people made same comments about Japan. Japan would be the world's largest economy by 2000 if "current" trends, including appreciation of Yen, continued, but they didn't. Growth among the Asian tiger countries slowed in recent years because of changes, including demographic, that were less sharp than what China is seeing. If that has happened to everywhere else, why can't it happen to China? Also last year the RMB was appreciating by 4% a year. Why should we assume that this year's "trend" is a good predictor of the next 12 years but last year's trend isn't. Last week the RMB actually depreciated. Why shouldn't we say that the future trend is depreciation, not appreciation? By Zhang - 2/27/2008 3:25 PM

Zhang: Growth among the Asian tiger countries slowed in recent years because of changes, including demographic, that were less sharp than what China is seeing. If that has happened to everywhere else, why can't it happen to China? Because China is extremely rural and agricultural with very low productivity whereas Japan and the Soviet Union in the 1980's had already become completely urbanized and industrial, as had all of the East Asian tigers. It's quite possible that Chinese growth will stall, but it just can't stall for the same reasons as Japan-1980 or the Soviet Union. If you run the numbers and put China at the same level of economic development as Japan or the SU, then it is already much, much larger than the US. The thing that I'm worried about is the environment and resource limits. Will Planet Earth let 1.3 billion people live like Americans...... We are about to find out..... By Twofish - 2/27/2008 3:59 PM

Francois, thanks for the point about the Cold War effect on Asian growth. I am not sure how to quantify it but I agree with you that there must have been a significant impact. Twofish, I don't disagree that these projections are deterministic, but as was suggested in the debate about "generalizations", all projections have deterministic elements and if you want to think about the future you have to accept this limitation – the interesting point then becomes simply the plausibility of one’s assumptions. Given current social conditions in China and Chinese attitudes about race and foreigners, it is hard for me to imagine that China and the US will soon swap their attitudes and approaches to foreign immigration, but of course anything is possible. I think it is just very unlikely. US-style immigration policies are virtually unique in modern history, with the only comparable cases occurring under very specific and similar circumstances (mainly in other Western hemisphere countries with shared historic circumstances) and over three or four centuries. I would be very reluctant simply to assume that this is suddenly likely to happen in China. Anything can happen – and as you point out, it is "quite possible that in 2030, China will have a relatively open immigration policy whereas the United States would have a relatively close one". It is also quite possible that in 2030 the US will break up into four separate countries and China and India unite as one. It would just be difficult for me to include those and every other equally possible scenario in my ruminations on the future. Sun Bin, thanks for your post. I read it with interest. From the little description I could get of you it seems that you are a Chinese based in Beijing. In case you haven’t read the entries that I had to delete, I can say it is probably much less controversial for you to doubt some of the more overexcited claims about the future of China than it is for me. By Michael Pettis - 2/27/2008 4:16 PM

Pettis: Given current social conditions in China and Chinese attitudes about race and foreigners, it is hard for me to imagine that China and the US will soon swap their attitudes and approaches to foreign immigration, but of course anything is possible. The United States is uniquely liberal in its immigration policies, but even if there isn't a complete switch the amount of liberalization would make a bit difference in dependence ratios. For example "marriage immigration" is greatly affecting the demographics of Taiwan, and given the male/female ratio imbalance, it wouldn't surprise me much if in 2030, you have a rather large amount of marriage immigration into China from Burma, Bangledesh, Central Asia, and the Middle East. It makes a big difference if China adopts German style immigration policies or Japanese style ones. It also makes a big difference if people are aware of the dynamics. On the US side, a lot depends on how strict enforcement of immigration laws are. The people that are responsible for the US maintaining good dependency ratios, tend to be here illegally. Pettis: I think it is just very unlikely. US-style immigration policies are virtually unique in modern history, with the only comparable cases occurring under very specific and similar circumstances (mainly in other Western hemisphere countries with shared historic circumstances) and over three or four centuries. Looking at the Americas, US immigration policies aren't that unique. What is unique about is that because living standards have continued to rise which means that the welcome mat is still out there. Argentina in particular had very large amounts of European immigration in the late-19th century, but that stopped once the economy spiralled downward. Also, immigration between countries was more or less unrestricted until the late-19th century. One other thing. The one thing that I think really can derail Chinese growth is the environment and resource limits, and it's hard for me to think of a scenario in which Chinese growth is very strongly impacted by the environment without it strongly impacting US growth. This is one planet after all. By Twofish - 2/27/2008 5:44 PM

One piece of friendly advice.... If you want to shut up "idiot nationalists" then the person you need to quote is Deng Xiaoping. In 1978 when this thing got started, Deng listed the goals of the economic reform program, and his goal was that by 2049, Mainland China would reach the per capita income levels of South Korea. The economic goals and targets that Deng was using in 1978 were far more modest than anything anyone has presented here. One other thing 3% GDP growth is a huge, huge number historically speaking. Great Britain during the 19th century was growing at 3%. I think that number is the big unknown. In the case of China, it's basically following a path that has already been walked on. We know what a developing industrial economy looks like, and we have an idea for what the maximum growth rates are. What the natural growth rate is for an advanced post-industrial economy is is a complete mystery. By Twofish - 2/27/2008 5:55 PM

I was not aware that China's growth was dependent on commodity exports, but clearly your textbooks, like the arithmetic which shows you a trend for $100 a barrel oil in 2 years time, are indeed wonderful. By smekhovo - 2/27/2008 11:31 PM

At last one commenter (yi) understood my point - those who believe China will not surpass all its rivals need a major crisis, not in some future when demographic trends will have time to work, but right now! By smekhovo - 2/27/2008 11:36 PM

$1000 a barrel oil By smekhovo - 2/27/2008 11:38 PM

The US is the greatest nation and no one can overtake it. Its still a sleeping giant and if wakes up from its comfort zone you will see how great and superior this blessed nation is. Dont make forecast and predictions cos no one can challenge the USA. By gavin - 4/6/2008 11:35 AM

This is why Europeans are so skeptical of anything an American writes - it is insular, arrogant and ill-informed. There can be no doubt China will overtake the US. The European Union already has. I for one am glad the US is on its way out. Americans are ignorant and unpleasant people. I have met people of many nationalities, but only it is only Americans I have disliked. They have no idea about the wider world and are only interested in themselves. Thank God I am European. By Anyone - 4/16/2008 12:22 AM

This is why Europeans are so skeptical of anything an American writes - it is insular, arrogant and ill-informed. There can be no doubt China will overtake the US. The European Union already has. I for one am glad the US is on its way out. Americans are ignorant and unpleasant people. I have met people of many nationalities, but only it is only Americans I have disliked. They have no idea about the wider world and are only interested in themselves. Thank God I am European. By Anyone - 4/16/2008 12:23 AM