The writer is a professor of finance at Peking University and a senior researcher at the Carnegie-Tsinghua Center
Will China double the size of its economy by 2035, like President Xi Jinping offers at a Communist Party conference three weeks ago? To do this, the Chinese economy must grow annually by just over 4.7% on average over the next 15 years. It grew 6.1% last year and 6.7% annually for the previous five years.
In this context, 4.7% per year seems quite manageable. But while the calculations may seem simple, there are economic and demographic constraints that are not.
All the countries that followed the model of high savings and investment growth that China adopted in the early 1990s – such as Japan in the 1970s and 1980s, or Brazil in the previous decade – have gone through three separate stages. The first stage, characterized by heavy investments in badly needed infrastructure, brought about many years of rapid but unbalanced growth. At this point, the debt has grown as the economy grows, because when debt primarily finances business investment, gross domestic product grows faster than debt.
In the second stage, with each country seeking to rebalance demand versus investment, usually with little success, growth remained fairly high, although it is now increasingly driven by unproductive investment. . When this happens, the total debt of the economy must grow faster than the GDP. So the debt burden has increased.
Finally, in the third stage, the country has reached its debt capacity limits or a worried government has taken steps to prevent the debt from continuing to rise. Either way, the economy was eventually forced to rebalance from investment and turn to consumption against a backdrop of much slower, sometimes even negative growth.
China today is clearly in the second stage. Between 1980 and 2010, China’s GDP doubled four times, but debt levels were low and increased slowly. However, between 2010 and 2020, when GDP doubled again, China did so by tripling its total debt burden to $ 43 billion, so that it now sits, officially, at over 280% of GDP.
Assume cautiously that the relationship between debt and growth does not change, and China’s debt-to-GDP ratio will need to increase to over 400% by 2035 to double GDP again. It is a level that would be unprecedented in history. Everywhere else, growth collapsed long before debts hit levels close to that.
China can in principle reduce its dependence on debt by shifting domestic demand from investment to consumption, as Beijing has long proposed. Yet this requires that the share of household income of GDP goes from around 50 percent today to at least 70 percent.
Beijing has long wanted to do this, but with limited success, despite a decade of trying. There is still little to think that the party is ready to tackle the institutional implications of the significant wealth transfer from local governments and elites to households, that implies.
There is also demographic problem. From the late 1970s, China benefited from a rapidly growing working-age population, but this was reversed a decade ago. In fact, over the next 15 years, as China’s population grows by around 1.5%, its population the working population will decrease by an astonishing 6.8 percent, and will continue to decline for the rest of the century. To put it in context, while there are today 4.7 working-age Chinese for every American equivalent, by the end of the century there will be only 2.4.
This has economic implications. Achieving 4.7 percent GDP growth with a declining labor force requires as much productivity growth per worker as 5.2 percent GDP growth with a stable labor force. China’s labor productivity growth has in fact fallen steadily since 2010. For the future, a declining labor force demands that the pace of this decline in productivity fall by nearly two-thirds if China is to double its GDP by 2035.
None of this means Mr. Xi’s goal is impossible, but we must recognize the constraints. If China does not discover a whole new engine of economic growth to absorb the enormous amount of debt-financed spending that is now devoted to non-productive investment, China can only double its GDP by 2035 in one. of the two conditions.
Either there is indeed no limit to China’s debt capacity, or Beijing is boosting consumption by managing a massive redistribution of income to ordinary households. History suggests that the former is highly unlikely and that the latter will trigger substantial and unpredictable political and social changes. Either way, it’s an unlikely bet.
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