Why Worry About China?

I was reading a brochure for a futures conference this week when I came across an extraordinary statement. One of the presenters claimed that “China’s GDP could overtake America’s as early as 2015”. This stopped me in my tracks. The claim seems so wild that I just had to investigate the basis on which the statement might become true. It may be true that China’s economy is growing very fast, but it is growing from a very small base and that the US economy, relatively speaking, is huge. I thought that I would look into this prediction.

According to The Economist, in 2007 America’s GDP was $12.4 trillion whilst that of China was $2.2 trillion. This century, America’s GDP has been growing at an average rate of 4.5% per annum, whilst that of China has been growing at 12.9% per annum. If the US continues to grow at an average of 4.5% per annum, then China’s economy would have to grow by 28% per annum in order to reach parity by 2015. Equally, if China’s GDP continues to grow at 12.9% each year, then the US economy would have to shrink by 8% a year in order for parity to be reached by 2015. On this basis, we are more likely to be hit by an asteroid than China’s GDP overtaking that of the US by 2015.

This does beg the question of when, if at all, the GDP of China would overtake that of the US. It would depend upon the growth assumptions we make about the two economies. We put together a small econometric model to examine the implications of differing growth rates. For the US, we assumed growth of 0.0% pa (the zombie economy), 2.0% pa (the US achieves European growth rates), 4.5% pa (the US stays on track), and 6.0% pa (a miracle occurs). For China, we assumed growth rates of 4.5% pa (China achieves US growth rates), 8.0% pa (the expected rate after 2014 when the Chinese demographic time bomb explodes), 12.9% pa (China stays on track), and 15% pa (a miracle occurs).

Running the 16 pairs of possibilities (you could say the 16 scenarios), we obtained the following results:

The date in each of the cells is the point in time when Chinese GDP overtakes that of the US in our model. The results highlight two interesting points. First, when Goldman Sachs famously predicted that the GDP of China would overtake that of the US by 2025, their model was assuming average US growth rates of between 2.0% pa and 4.5% pa. More importantly, Chinese growth rates were assumed to average between 12.9% and 15.0% pa. This latter assumption seemed heroic at the time and seems even more so today.

The second point of interest is the amount of time that it would take for Chinese GDP to overtake that of the US if the US maintained or upped its game or if the Chinese game came off the boil. We are looking at a “not in my lifetime” series of results. This is not to say that we ought not to look at them, but it is to say that the contention of China overtaking the US does need to be treated with a high degree of scepticism. After all, who is to say that China, as a political entity, will last until 2040 or 2050?

Obviously the current downturn is going to affect the numbers that we used. There are also a number of additional flaws in the model. To start with, it is a linear model in a non-linear world. We also presumed a low degree of multi-collinearity. This is unlikely to be the case as both the US and the Chinese economies are highly interdependent. For example, this year, US GDP growth has fallen to zero (or less). As a consequence, China’s GDP growth has fallen to 10% (and falling, and subject to downward revision). However, even with a flawed model, we can see that the forecast of 2015 as the point where China’s GDP overtakes America’s GDP is nothing more than a wild dream.

If it is the case that China is unlikely to overtake America, then why do we worry about China?

© The European Futures Observatory 2008

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