Question

What’s your sense of China’s competitive position in the world relative to the US? Can you identify what gives you that impression?

What’s the “concrete scowl”?

Why does the scowl have important implications for figuring out what China’s GDP actually means for growth now and in the future?

Going forward, does it matter that China is a command economy and that the government completely controls the Central Bank? How? Why?

Answer 1

Today, China is an upper-middle-income country and the world's second largest economy. But its per capita income is still only about a quarter of that of high-income countries, and about 373 million Chinese are living below the upper-middle-income poverty line of US$5.50 a day.

Introduction
There are many factors why many companies and/or investors are interested in the seemingly limitless potential of the Chinese market. Today, China has distinct competitive advantages that edges its rival countries in the global market. Among the BRICS economies, China accounted for a majority of the foreign direct investment (FDI) inflows in 2013 at a hefty 46%. This figure is expected to increase further as the tireless economy of China continues to surge forward. This article will explore some of the reasons to invest in China and their interest in gaining entry into the world largest market.

• Reforms

The ruling government, the Communist Party of China (CPC), has sought improvements through market-oriented reforms that started back in 1978. These economic reforms was spearheaded by the Chinese leader Deng Xiaoping and several leaders. The changes were very successful and introduced market principles and policies that resulted in remarkable economic growth for decades to come.

Prior to the initiation of economic reforms and trade liberalization nearly 40 years ago, China maintained policies that kept the economy very poor, stagnant, centrally controlled, vastly inefficient, and relatively isolated from the global economy. Since opening up to foreign trade and investment and implementing free-market reforms in 1979, China has been among the world’s fastest-growing economies, with real annual gross domestic product ( GDP ) growth averaging 9.5% through 2018, a pace described by the World Bank as “the fastest sustained expansion by a major economy in history.” Such growth has enabled China, on average, to double its GDP every eight years and helped raise an estimated 800 million people out of poverty. China has become the world’s largest economy (on a purchasing power parity basis), manufacturer, merchandise trader, and holder of foreign exchange reserves. This in turn has made China a major commercial partner of the United States. China is the largest U.S. merchandise trading partner, biggest source of imports, and third-largest U.S. export market. China is also the largest foreign holder of U.S. Treasury securities, which help fund the federal debt and keep U.S. interest rates low.

As China’s economy has matured, its real GDP growth has slowed significantly, from 14.2% in 2007 to 6.6% in 2018, and that growth is projected by the International Monetary Fund ( IMF ) to fall to 5.5% by 2024. The Chinese government has embraced slower economic growth, referring to it as the “new normal” and acknowledging the need for China to embrace a new growth model that relies less on fixed investment and exporting, and more on private consumption, services, and innovation to drive economic growth. Such reforms are needed in order for China to avoid hitting the “middle-income trap,” when countries achieve a certain economic level but begin to experience sharply diminishing economic growth rates because they are unable to adopt new sources of economic growth, such as innovation.

The Chinese government has made innovation a top priority in its economic planning through a number of high-profile initiatives, such as “Made in China 2025,” a plan announced in 2015 to upgrade and modernize China’s manufacturing in 10 key sectors through extensive government assistance in order to make China a major global player in these sectors. However, such measures have increasingly raised concerns that China intends to use industrial policies to decrease the country’s reliance on foreign technology (including by locking out foreign firms in China) and eventually dominate global markets.

In 2017, the Trump Administration launched a Section 301 investigation of China’s innovation and intellectual property policies deemed harmful to U.S. economic interests. It subsequently raised tariffs by 25% on $250 billion worth of imports from China, while China increased tariffs (ranging from 5% to 25%) on $110 billion worth of imports from the United States. Such measures have sharply decreased bilateral trade in 2019. On May 10, 2019, President Trump announced he was considering raising tariffs on nearly all remaining products from China. A protracted and escalating trade conflict between the United States and China could have negative consequences for the Chinese economy.

China’s growing global economic influence and the economic and trade policies it maintains have significant implications for the United States and hence are of major interest to Congress. While China is a large and growing market for U.S. firms, its incomplete transition to a free-market economy has resulted in economic policies deemed harmful to U.S. economic interests, such as industrial policies and theft of U.S. intellectual property. This report provides background on China’s economic rise; describes its current economic structure; identifies the challenges China faces to maintain economic growth; and discusses the challenges, opportunities, and implications of China’s economic rise for the United States.

• concrete scowl

There is a relationship that applies to most of the world. I call it the concrete scowl. The very poorest countries have little infrastructure and other construction. Countries with modest wealth tend to spend more on construction than poorer countries.But when wealth increases further construction tends to decline again.

• China’s GDP Growth

The value placed on current and future growth says a lot about the quality of that growth. It also has important policy implications, especially for reforms.

There is a debate over which country has the world’s largest economy. One side cites gross domestic product adjusted for purchasing power parity and puts China on top, while various other indicators show the United States ahead. The claims are used to gauge China’s importance, highlight Sino-American competition, and sometimes identify China as a threat.

What is almost never in dispute is that China is rising economically relative to the United States. If China is not ahead yet, it is said, the day is coming when it will be. However, at least one vital indicator casts doubt on that thesis: national wealth. From the beginning of 2014 through the middle of 2019, China may have lost ground to the United States in total wealth.

As Scissors points out, “Credit Suisse put net private American wealth at $42.9 trillion, compared to $4.7 trillion for China: a ratio of more than 9:1”, meaning that the US is 9.1 times wealthier than China. However their GDP ratios are very different. A quick check shows that at the end of 2014 China reported GDP of $9.18 trillion, whereas the US reported $16.77 trillion, so that U.S. GDP is 1.8 times China’s GDP.

This might at first seem strange. A country’s GDP is supposed to measure the amount of wealth created during the period measured, and is often thought of as analogous to the earnings generated by a business. I am not sure exactly what the Credit Suisse estimates of total household wealth represent, but if we think of them as being equal (or at least proportional) to the total market value of each economy’s assets and of their ability (combined with the labor of American or Chinese people) to produce goods and services, it seems that every dollar of American income is 5.0 times as valuable as every dollar of Chinese income. To put it in stock market terms, the U.S. P/E multiple is five times the Chinese P/E multiple.

Is that plausible? Yes it is, although I make no claim about the accuracy of this particular ratio. While the United States should certainly trade at a higher “multiple” than China, whether it should five times higher, or more, or less, is impossible to prove. Although I don’t find the debate about whether the Chinese economy will overtake that of the United States, and if so, when, especially interesting or even intelligent, I do think the question about the relative economic value of the two countries is interesting because it illuminates quite a lot about both the Chinese economy and about how we should be thinking about economic growth.

But before I explain why a higher U.S. “multiple” can easily be justified, let me turn back to the question of GDP. A country’s gross domestic product, or GDP, is supposed ideally to be the aggregate value of all the goods and services produced during the GDP period, including any improvement or deterioration of that country’s capital stock. The OECD defines it, perhaps not very elegantly, as “an aggregate measure of production equal to the sum of the gross values added of all resident, institutional units engaged in production (plus any taxes, and minus any subsidies, on products not included in the value of their outputs.”

GDP, as we all know, is intended to measure a country’s (or region’s) economic wealth creation during a particular period. But, as we also all know, it doesn’t do this very accurately. Simon Kuznets, the person who is generally credited with having “invented” GDP in a 1934 report to the U.S. Congress, understood its weaknesses, and he fairly consistently warned about the ways in which GDP can be mis-used. The problem with GDP is that there are many things included in the standard GDP calculations – some people propose for example that these include military expenditures, or brokerage fees – that don’t reflect any real change in the ability of the economy to produce goods and services, whereas other things that do reflect such changes are often not part of the GDP calculation. The most typical examples of the latter are things we call positive or negative externalities. For example while there may well be positive economic value in the activities of a factory that produces chemicals while dumping the effluvium in a nearby river, if we ignore the economic costs associated with polluting the river, which may include lower future returns on farming and fishing, higher future health care costs, and less “pleasure” for future hikers, boaters, and nature lovers, then the “real” economic value of producing the chemicals is likely to be lower than its contribution to reported GDP.

What’s more, for something to be part of GDP it has to be part of the recorded cash economy. Prostitutes certainly provide a highly valued consumer service, and an argument can be made that drug dealers do too, at least in a way analogous to bartenders, but their activity is rarely included in GDP figures (although in some countries economists are starting to do so). Babysitting provided by an agency is part of GDP, but if a neighbour or relative baby-sits for free it, it is not part of GDP. I also want to mention something that is rarely given enough credit as adding to household consumption, certainly to my consumption, which nonetheless I think has enormous value as a consumer service. My life has been transformed, and this is not an exaggeration, by Google’s search function, and I am certain that its contribution to my welfare, and that of the rest of the world, vastly exceeds whatever contribution it is calculated to add to global GDP. Maybe not everyone is as ecstatic as I am about the fact that from my office, home, or even while sitting in a taxi, I can easily access vast amounts of information, references, and data, and so put together in hours something once would have taken me weeks, but if internet searching were taken away from me, it would impoverish me far more than losing a car or most of my wardrobe.

• Command Economy

A command economy is a system where the government, rather than the free market, determines what goods should be produced, how much should be produced, and the price at which the goods are offered for sale. It also determines investments and incomes. The command economy is a key feature of any communist society. Cuba, North Korea, and the former Soviet Union are examples of countries that have command economies, while China maintained a command economy for decades before transitioning to a mixed economy that features both communistic and capitalistic elements.

A command economy is when government central planners own or control the means of production, and determine the distribution of output.
Command economies suffer from problems with poor incentives for planners, managers, and workers in state-owned enterprises.
Central planners in a command economy are unable to rationally determine the methods, quantities, proportions, location, and timing of economic activity across an economy without private property or the operation of supply and demand.
Proponents of command economies argue that they are better for achieving fair distribution and social welfare over private profit.

• Understanding Command Economy

Also known as a planned economy, command economies have as their central tenet that government central planners own or control the means of production within a society. Private ownership or land, labor, and capital is either nonexistent or sharply limited to use in support of the central economic plan. In contrast with free market economies, in which the prices of goods and services are set by supply and demand, central plans in a command economy set prices, control production, and limit or entirely prohibit competition within the private sector. In a pure command economy, there is no competition, as the central government owns or controls all business.

• Drawbacks of Command Economies

With economic power consolidated in the hands of government planners and in the near or total absence of markets to communicate prices and coordinate economic activity, command economies face two major problems in efficiently planning the economy. First is the incentive problem, and second is the economic calculation or knowledge problem.

• Arguments in Favor of Command Economies

Command economies retain their supporters. Those who favor this system argue that command economies allocate resources to maximize social welfare, while in free-market economies, this goal is secondary to maximizing private profit. Additionally, proponents allege that command economies have better control of employment levels than free-market economies, as they can create jobs to put people to work when necessary, even in the absence of a legitimate need for such work. Lastly, command economies are widely believed to be superior for taking decisive, coordinated action in the face of national emergencies and crises such as wars and natural disasters. Even mostly market-based societies will often curtail property rights and greatly expand emergency powers of their central governments during such events at least temporarily.