China’s economy — smaller than the CW suggests

Overview

China is popularly thought to have a large economy, but those advancing this idea generally use the measurement of Purchasing Power Parity, which paints a far rosier picture than reality. The country’s economy is far smaller on the traditional measurement using exchange rates to determine relative GDP’s, and the picture is stark when you look at the per capita statistics.

How many Boeing B777’s can you buy with Purchasing Power Parity? Or how many triple bypasses, educations for your kids at Oxford or Ole Miss, or trips to Vegas to see Wayne Newton and Celine Dion? None, of course. Purchasing Power Parity, PPP, is among other things, a way to let poor countries feel better about themselves.

Back in the Pleistocene Epoch, when your correspondent was coming up, countries were compared in terms of GNP or GDP, the total output of the economy measured at the exchange rates of the countries’ currencies. Things are a lot fancier today. Today, PPP is often used as a proxy for the size and power of an economy. PPP doesn’t use exchange rates; it take a “basket of goods” and costs them out in each country. You can see how this distorts and inflates the size of an economy if the basket of goods were bowls of rice and clean shirts. A country with lots of rice and nickel an hour washerwomen would look mighty large compared to the US.

We noted, for example, a few months ago, a column by Mark Helprin in which he waxes concerned about the emerging power of China’s $6.5 trillion PPP economy. No doubt about it, as we have noted several times, China is an emergent economic power. A $6.5 trillion economy sounds pretty big compared to the US’s $11 trillion economy. And it’s not just Helprin. The CIA Factbook, often nicely politically correct, also uses the $6.5 trillion figure.

But China’s economy is really a lot smaller than these numbers suggest. Measured in the traditional way, China’s GDP is maybe $1.8 trillion today (State Dept. estimate). Further, the economic hypergrowth in China is extremely concentrated. For example, according to the Peoples’ Daily, GDP per capita in Shandong Province (#2 in growth) is $2000, while, based on Economist data, GDP per capita in rural provinces may be 10-20% of this (and the Northeast is depressed). Hence, the Chinese economy is pretty small still — 35% of Japan, for example, with 7x the people — and seriously unbalanced.

Moreover, as we noted previously, the banking system is a mess, wherein irrational loans to government companies or favored industries go bad, but are bailed out by the country’s huge forex reserves (over $600 billion(!!) today); Economist, on last year’s bank crisis, soon to be followed by this year’s bank crisis:

This latest scheme undoubtedly looks neat. By pumping $45 billion of its massive $400 billion of accumulated foreign-exchange reserves into the banks, China seems to be making effective use of a ready pool of funds, currently parked in relatively low-yielding assets. Yet repeated capital injections, even clever ones, are not themselves a genuine solution to China’s banking problems. Since 1998, China has spent roughly $200 billion in recapitalising its banks and writing off bad loans, to little avail. Politically directed lending to favoured industries has continued as before, and the old, written-off bad loans were soon replaced by new ones. Today, some independent estimates put the level of bad loans at around $420 billion, or nearly 40% of gross domestic product.

China certainly has the forex resources to bail itself out of whatever financial crises its industrialization and banking system generate. But those who forecast unbroken strings of near double-digit growth have not paid enough attention to the history of industrializations.

The per capita statistics

This today from the Peoples’ Daily:

Statistics from the United Nations Development Program show that China’s Gini Coefficient is 0.45 and the income or consumption of the poorest, who take up 20 percent of the gross population, accounts for only 4.7 percent of the total, while the share by the 20-percent richest is as high as 50 percent.

Let’s take a look at what these statistics mean when we boil them down. Assuming 1.4 billion people in China, 20% of the population is about 280 million people, which, conveniently for comparison, is about the size of the USA. The report says that 50% of GDP is concentrated in this 20% of the population. If we assume China’s 2005 GDP is about $1.8 trillion, as opposed to $12 trillion or so for the USA, you see that the richest 20% of China have per capita GDP of — shockingly — $3,214.28 per year, as opposed to about $40,000 on average for the United States. Let’s repeat this again: the average American makes 12 times more than the richest Chinese.

For the record, we’ll do the calculation for the poorest 20% or 280 million Chinese people. Their slice of the GDP is about $85 billion, which translates to a pathetic $302.14 annual income per head. Here is where Purchasing Power Parity plays perhaps a useful role, for while these country people can’t buy a Lexus or even a Yugo, the basic staples of life are quite cheap, so their life situation is better than the numbers portray. Still, they are dirt poor.

Our point in performing these calculations is not to mock or belittle the accomplishments of the Chinese people, who have worked hard and smart to get a lot more prosperous than they were under a Marxist economic system. It is rather to emphasize just how limited a group has middle class incomes in the export-led growth of China. A meaningful blip in China’s growth will, in our view, likely have a disproportionate impact on the consumption patterns of those made newly prosperous by the explosion in China’s exports.

12 Responses to “China’s economy — smaller than the CW suggests”

  1. Robert Genise Says:

    Jack,
    I appreciate someone else taking a realistic view of the Chinese economy. Granted it will be a growing, major economic force for a long time to come but there will be some significant bumps in that road. The comments about the bad loans sitting on the banks books is also a reflection of the general lack of transparency across the entire economy.

    Best regards,

    Bob

  2. Jason Says:

    Isn’t it nice of the Chinese to take low yielding US paper at low valuations against their own currency, to lose substantial amounts of capital funding industries to provide low cost goods to the US, and then to use US paper to recapitalize the institutions that squandered the money. they could save themselves a lot of work by stopping the bank recapitalizations and just asking us to throw 20% of our bond issuances to them in the fire.

  3. OhBloodyHell Says:

    > Statistics from the United Nations Development Program show that China’s Gini Coefficient is 0.45 and the income or consumption of the poorest, who take up 20 percent of the gross population, accounts for only 4.7 percent of the total, while the share by the 20-percent richest is as high as 50 percent.

    Uhhh, wait, isn’t China a Communist state? Aren’t things supposed to be equally distributed? How can we speak of consumption by rich or poor?

    Say it ain’t so!?!?!?

    I am so disillusioned!!

    :-9

  4. Daniel Says:

    You guys don’t understand the real China. China is not communist any more but more capitalist than the Europe, though the US media is still cheating you American guys, for political propaganda against China. Aso, a Chinese earning $5,000 a year (probably 30% percent of the Chinese population earn this amount) lives much nuch more comfortabaly than you guys earning $50,000 in the US. This is the real China.

  5. Daniel Says:

    I’ve lived in the US for four years. The prices in the US are crazy, and people’s actual living standard is terrible. For example, I can buy a very fresh cucumber and for only $0.05 in China, here in the US is $0.99, which has been put in the super for 1 or 2 weeks. I can buy a book for $3-4 in China, here is $50-100. And Chinese don’t pay sales tax. Americans have to pay an extra 5-9% sales tax. In China, I can rent a two-bedroom for $80, here is $ 1,000. It seems Americans are earning much more than Chinese and then you feel very lucky, but your actual living standard is much lower than Chinese. American capitalism is misleading you guys into self-complacement through superficial wage increase (2.5 % a year), but the prices are increasing more every year (e.g., my apartment rent increases 3% a year). Haha…

  6. Daniel Says:

    If the US wants to compete with China, it has to lower its prices and wages at least 5 times. That means American average monthly pay will be lowered to $1,000. Otherwise, the US may be bankrupt within 10 years. Don’t just blame China for the Chinese currency. Why only the US and no any other countries (including Japan and EU) have trade deficit with China? The US needs to reconsider its own economic structure and problems in its labor force (e.g., poor background in engineering, bad attitude toward teamwork and working hard, etc).

  7. Asian Sam Says:

    You are such an idiot – did you know that 17 out of 20 billion jumbo jets being sold for the next few years are being sold to China and India?

    Man you guys are such poor loosers. Accept it man, it’s the Asian century, you guys are the dinosaurs of the last age.

    Seriously, have you noticed that the Chinese have 300 million cell phones, consume more PER CAPITA cement than USians (it is rediculous that US citizens call themseleves “americans” when there are so many other american countries- another example of US-centric point of view for everything while being
    oblivious to the reality outside).
    Also you failied to notice that China is also now the largest market for iron and steel, with PER CAPITA consumption 2/3rds of US. Or number of engineers being graduate (5times of US and rising), number of aeroplanes being purchased, number of new power plants being built, the list goes on and on..

    China and India are set
    to become the largest market for a host of other products in the next 1,2,3 to 5 years including PCs, cars, heavy equipment, broadband internet, highways, number of highrise buildings.

    Or that they are now the largest trading partners of Japan?

    How do you explain such humongous per capita consumption if a TINY number of Chinese are rich? Do those “tiny” numbers of chinese like to walk around
    with 100s of cellphones on their head as a fashion symbol, live in castles with steel and cement walls 100s of meters thick? Or wear 100 pants and shirts
    to work on top of each other to appear as fat as americans?

    Wake up buddy, you can still find a decent job in China if you have nothing better to write about in USA.

  8. Beihai Says:

    Let’s repeat this again: the average American makes 12 times more than the richest Chinese.
    I am an American who has lived in China for 7 years, and I can tell you that is flat out wrong. In fact, it is delusional. According to that liberal magazine Forbes “The 40 richest businesspeople are now worth a collective $26 billion, up from $18 billion a year ago. China is now home to ten billionaires and their families, up from three last year.”
    I recently tried moving back to the United States and found the situation intolerable. The cost of living is outrageous. I found that not only was I not able to live on my salary but I also had to dip into my savings. I am now living in Mexico making half the money but actually saving nearly half of what i make. Yes, purchasing power matters you idiot. Obviously you have never bothered to go to China before you make asinine statements.

  9. Karim Duzan Says:

    It seems that everyone who post in this forum is an idiot. The GDP per capita of the United States in terms of purchasing power parity is 44,000 and the china’s is 7,700. That is almost 6 times for the USA. China’s economy will surpass in some point of the 21st century the US economy in terms of total GDP, but will never surpass the US in terms of GDP per capita at purchasin power parity.

  10. Ramdo Says:

    Even if the Chinese and Indian economies surpass USA’s by twice their amount, their per capita incomes, etc. will still be significantly lower, due to the high populations. However, they will enjoy MUCH, MUCH cheaper foods, etc. That’s purchasing power. Despite the 1 : 8 ratio of Yuan to US Dollar, I can buy a kg of pork for about 4 Yuan, and the price here is about 1.19 per lb. So really, U.S. dollar is worth a little more than 3 Chinese Yuan. Of course, people in the USA make more dollars than the Chinese make Yuan, but the difference is not as drastic as some of you would think.

  11. frances santiago Says:

    Interesting take! So many things sure have happened in the Chinese economy during the past 4 years since this entry was posted. The World Bank issued a statement that says China will recover during the latter part of the year. What is your take on that? And how do you think Blue Ocean Strategists would fare during this recovery? Do you agree with this: http://www.topemployers.co.uk/teb/finance-jobs/NY_Wang/1/China-Banking-Jobs-for-Blue-Ocean-Strategists.htm

  12. KC Says:

    Hmmm it looks like the current financial crisis has shortened the time it will take for China to catch up to the US in terms of total GDP. And the process will be faster if the yuan starts to appreciate against the dollar. China’s nominal GDP in 2008 is US 4.4 Trillion (according to IMF and CIA) and is set to grow 7-8% in 2009, while the US’s GDP is contracting… Interesting!

Leave a Reply