Shedding Some Light on China’s GDP Data

China watchers have long debated the reliability of the country’s GDP numbers, and for many years the pessimists have argued that official figures are overstated. This is not a trivial debate anymore because China has become a major driver of global growth over the past decade, on par with the United States. Recent signs of slowing growth in China, blamed on trade wars and declining consumer confidence, have only heightened the debate.

The first thing to understand  about China’s GDP is that the concept of GDP targeting in China is very different from what investors are familiar with,  and this leads to confusion. One insightful  China watcher, Michael Pettis, who is  professor at Peking University’s Guanhua School of management, makes this argument in a recent article (What is GDP in China?). Pettis reminds us that the Chinese, with their deep tradition of economic planning, think of GDP as a pre-determined input figure not as a variable output. It is not a coincidence, therefore, that magically year after year the Chinese meet their GDP growth goal. Part of the reason for this may be some window-dressing for political reasons but much of it comes from active intervention. For instance, if the economy appears to be running below expectation, the authorities will respond quickly with increased spending and lending to set it back on target.

Unlike the U.S. Fed, which has only the blunt tool of monetary policy to achieve its pretentions of smoothing out the economic cycle (eg. Ben Bernanke’s “Great Moderation”), the Chinese authorities have an expanded toolkit of monetary policy, bank lending and fiscal spending which they have immediate access to.

Of course, achieving such fine tuning is easier said than done. The pessimists on China will argue that the Chinese authorities have exhausted the utility of these tools.  This may be because of a combination of excess debt and declining returns on fixed capital investments in real estate and infrastructure, and also because saturated foreign markets have become a much more volatile driver of growth. This state of affairs increasingly has raised the issue of the “quality” of China’s GDP growth. If the GDP numbers are being achieved by increasing debt that won’t be repaid – either for domestic investments or for ports in Pakistan – and the end-result is more empty real estate and under-used bullet trains, than the effort is counterproductive. The Chinese have long been aware of the unbalanced nature and the limits of their debt-driven fixed-asset investment model, but it is not easy to change behavior. China’s vice president, Wang Qishan, reiterated the government commitment to its GDP growth target this week in Davos. Wang pledged,   “There will be a lot of uncertainties in 2019, but something that is certain is that China’s economy, China’s growth, will continue and will be sustainable.” In other words, the authorities commit a-la-Draghi to do “whatever it takes” to meet the 6.5% annual growth target.

Nevertheless, foreign observers are always skeptical of China’s growth figures and seek alternative yardsticks to corroborate the official data. For example, electricity consumption is looked at in comparison to GDP growth. The recent numbers forelectricity consumption, shown below, at least have the merit of displaying year-to-year variability.

Along this line,  Barclay’s bank looks at a series of alternative indicators to provide a comparison to official figures. Based on this exercise, Barclay estimates that China’s economy has been performing well below targets for the past five years.

 A new paper by Yingya Hu and Jiaxiong Yao  of John Hopkins University  (“Illuminating China’s GDP Growth) uses a very innovative methodology and arrives at the same conclusion. Hu and Yao analyse  satellite-reported nighttime light over time to measure changes in economic activity. As shown below, they estimate that China’s GDP may be some 20% overstated. The authors have done this for a wide variety of markets and find the data in China to be one of the most overstated. As shown below, India is also slightly overstated while both Brazil and South Africa are actually understated. 

It is not clear what is causing this discrepancy in China. One theory is that a significant part of the real-estate stock remains dark, as properties are being bought for investment purposes and not occupied.

In any case, these theories of overstated GDP growth raise several worrisome questions. First, this may be evidence that the authorities may be pursuing unproductive policies as marginal returns from debt accumulation and fixed asset investments have declined.  Second, the country’s very high credit/GDP ratio of 300% may be significantly understated, and could be closer to 360%.

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