All of a sudden, pundits and investors betting on a slowdown in economic growth in China have another authoritative analysis on which to base their views. This is the “Harvard study” by two of that university’s most renowned economists, Lawrence Summers and Lant Pritchett.
Summers and Pritchett do not exactly predict that a sharp slowdown in Chinese growth is imminent. Rather, they follow the first rule of forecasting: give them a prediction or give them a date, but never give them both if you want to avoid being proven wrong. They suggest that a sharp slowdown in growth is not unlikely. They just don’t say when.
Their evidence derives from a statistical analysis of growth experience in a large set of countries. The results show that episodes of exceptionally rapid growth typically end in sharp decelerations, as growth rates fall back toward the world average in the phenomenon referred to by statisticians as “regression to the mean.”
Moreover, as Summers and Pritchett document, episodes of super-fast growth tend to be short. By the standards of other fast-growing economies, China’s period of high single digit growth is very long in the tooth. Again, the authors prudently resist the temptation to conclude that the country’s growth rate is poised to fall abruptly. But such would appear to be the implication of their analysis.
The authors are critical of other forecasters, from the International Monetary Fund to Goldman Sachs, for an excessive tendency to extrapolate the recent past into the distant future. They suggest that these institutions, and individual investors, have a subconscious tendency to predict continuity and discount sharp discontinuities, in this case in rates of growth. To this cognitive bias one might also add a political bias, reflecting the political pressure that big financial institutions, both public and private, feel when asked to predict what the future will bring.
To be sure, there are plenty of reasons for thinking that Chinese growth will continue to fall short of the heady double-digit rates of the last decade. The country’s population is aging. The pool of surplus agricultural labor has been drained. Increasing exports at a 30 per cent annual clip is harder now that China accounts for a significant share of the global economy. As investment now falls from 50 per cent of GDP to more normal levels, capital formation will contribute less to the expansion of output.
These are all arguments for regression to the mean. China could grow rapidly for a time by transferring labor from agriculture to industry, but the more successful it was at growing on that basis, the more likely it now becomes that growth will fall, since there is no more agricultural labor to transfer. China could grow fast with a one-child policy that limited the number of young mouths to feed, but the more success it had in enforcing that policy the less scope it now has for growing its labor force.
Indeed, the list of reasons for thinking that Chinese growth is likely to be subject to mean reversion goes on. The country’s growth has been supported by an exceptionally high investment rate that is bound to fall now that the obvious investment projects have been exploited and the consumption demands of a burgeoning middle class are being heard. Looking at international experience, growth sustained by exceptionally high investment has been prone to fall in a number of other countries. Chinese exports can no longer grow at a 30 per cent annual rate now that the country accounts for such a large share of global exports. The export sector powering Chinese growth is therefore bound to slow. Thus, the case for mean reversion seems overwhelming.
At the same time, there are reasons to be cautious in using the past experience of other countries to infer China’s future. I should know, since I must plead guilty to also having utilized this approach.
One reason for thinking that China is sui generis is that no other country in the history of the world has grown nearly so fast for nearly so long. While this can be seen as implying that a slowdown is overdue, it can also be interpreted as meaning that its growth trajectory is fundamentally different from that of earlier high-growth economies.
A second reason to hesitate in imputing patterns from other countries is that we have never before witnessed such rapid growth in such a large economy. Comparing growth in China with growth in Singapore or even South Korea is comparing apples and oranges. As a large economy of many industries and regions, China can be thought of as diverse ecosystem that is more resistant to growth-unfriendly infections than a smaller, more specialized economy.
Third, it may be possible, given current technological conditions, to sustain super-rapid growth for longer now than in the past. In the past, a per capita GDP growth rate of more than 6 per cent per annum was truly exceptional. It was possible only when all the pieces fell into place. Therefore such episodes tended to be short and to end abruptly. But technology and knowledge now flow more easily across borders. This makes it possible for a country like China to modernize a whole host of industries all at once and to sustain high growth for longer.
So will Chinese growth now slow abruptly? The honest answer is that we don’t know. What we know is that much hinges on the outcome.
*Barry Eichengreen is professor of economics at the University of California, Berkeley and the University of Cambridge