Sunday, December 14, 2014

Asiaphoria or Asiaphobia?


Those in the business of long-run GDP projections expect Asia, and particularly China, to keep growing above world trend rates for some years. The most optimistic — such as former Chief Economist at the World Bank, Justin Lin — have China growing at 8 per cent for at least the next decade. The semi-official China 2030 report projects 7 per cent growth later this decade, falling to between 6–5 per cent by 2030. The Australia in the Asian Century White Paper projected Chinese economic growth of 7 per cent and Indian growth of 6.75 per cent until 2025.

But ‘the view that the global economy will increasingly be shaped and lifted by the trajectory of the giants’ has recently been diagnosed by Larry Summers and Lant Pritchett as ‘Asiaphoria’. Their careful study tells us that such ‘abnormally rapid growth is rarely persistent. … Indeed regression to the mean is the empirically most salient feature of economic growth’. Emerging countries in particular tend to have super-rapid but short-lived growth rates, followed by periods of deceleration back to the world average. They argue rapid growth in China and India ‘will slow substantially, … Mainly because that is what rapid growth does’.

For the last 30 years around a quarter of the world’s population has lived in countries with what Summers and Pritchett call a ‘super-rapid growth rate’ above 6 per cent a year. This growth has been unusually consistent through time. While Chinese and Indian growth has been slightly more volatile than that of the US over the period 1980 to 2014, it’s cushioned by a much higher trend. In that period, there were five years in which US real GDP declined. Despite Tiananmen, the Asian Financial Crisis and the ‘sharp discontinuities’ of the Global Financial Crisis (GFC) and the euro crisis, China hasn’t experienced a single negative year in that period. Nor has India.

So why do two Harvard professors conclude that the lived experience of the world’s most populous nations was such a freak event?

Summers and Pritchett use the example of Denmark to show that a 94 year growth forecast based solely on long-term trends isn’t far off. But Denmark was already an advanced country in 1910, with a per capita income that was higher than the average for Western Europe, and three quarters of that of the United States. Ninety four years later it reached 80 per cent of US income levels. That it was already a small, rich country in 1910 makes it a red herring for drawing inferences for the Asian giants.

Time series regressions miss structural breaks. This certainly happened when Chinese institutions moved decisively towards a market economy on a continental scale from the late-1970s. India began to (partially) liberalise in the 1990s.

China’s was no simple Thatcher or Reagan-style deregulation. The Chinese rediscovered private property rights, reinvented private enterprise and re-opened to foreign trade for the purpose of catching up to modern science and technology. Using a simple mean reversion forecasting technique back in the 1970s would have completely missed this. And it misses the potential for continued — albeit slower — catch-up growth today.

It’s easy for modern visitors to forget just how poor China was. According to Angus Maddison’s historical GDP estimates, per capita GDP of the United States in 1820 was higher than China’s in 1978. Thirty years later, per capita income in China has caught up to where the US was just before the Great Depression. Based on the quality of its current institutions, China could converge to two-thirds of US productivity levels — richer, but still three decades behind the US frontier. Visitors on the maglev to Shanghai may not see this, but those on the overnight bus to rural Anhui realise there’s still a long way to go.

The long-term trend isn’t a guarantee against policy missteps or market shocks. Like the US before the Great Depression, China faces large economic and financial risks. Summers and Pritchett give us a timely reminder of these. In particular, how the politics of an economic shock might play out is the biggest wildcard in forecasting China’s growth. But on fundamentals, long-run Chinese growth won’t settle at 2–3 per cent any time soon.

The Chinese leadership takes history seriously in a way that is difficult to conceive for younger countries like Australia or the United States. The last century was the first time that United States has been a superpower. For China, not being a superpower is the historical irregularity.

In fact, the rise of Asia might be better conceived as the re-emergence of a world in which population size and economic size are closely linked. First in Europe, then in North America, new technology and forms of energy severed this link, leading to radical inequality in the wealth of nations. So today, the United States produces 16 per cent of world output with just 4 per cent of world population.

The global diffusion of technology, and institutions, has given poor but populous countries an opportunity to catch up. China also produces 16 per cent of world output, but with 20 per cent of world population. Expecting this to be its natural resting place — the consequence of everyone growing at global trend — might be a symptom of Asiaphobia.

Paul Hubbard is a doctoral candidate at the Crawford School of Public Policy, The Australian National University. He is currently on leave from the Australian Treasury as a Sir Roland Wilson Scholar, and is a former Fulbright Scholar in international relations.


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