Why China's economy will grow strongly in 2012

By John Ross
0 Comment(s)Print E-mail China.org.cn, December 31, 2011
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 A model performance [By Jiao Haiyang/China.org.cn]

 A model performance [By Jiao Haiyang/China.org.cn]

As 2011 draws to an end, it is a suitable moment to look at China's economic prospects for next year. The overall perspective is clear – China's economy will continue to grow strongly, remaining the world's fastest growing major economy, and it will outperform Western pessimists predictions on the upside. This is overall the same prediction this column made for the last two years and results showed this to be factually correct - as opposed to the opposite perspective. Given accurate or inaccurate predictions do not depend on the personal characteristics of those making them, but of different fundamental analyses, what therefore leads to such repeatedly correct and incorrect projections regarding the growth path of China's economy?

The core issue is simple but difficult for many non-Chinese analysts to admit, despite constant confirmation by the facts and repeated falsified predictions of serious slowdown. The core is that statements by Chinese analysts that China has a stronger economic structure to the US and Europe, and that this therefore produces stronger economic performance, is not a boast but actually factually correct. As this stronger character of China's economic structure is not understood by many Western analysts, they therefore systematically, and each year, underestimate China's economic growth potential. However as a difficulty for non-Chinese analysts is that sometimes explanations of this economic strength are posed solely in terms of specifically 'Chinese characteristics,' it is therefore worth spelling out more generally why China has a stronger economic structure than the US and Europe, and how this relates to economic issues that will be faced in 2012.

China defines its system as a 'socialist market economy'. This means it differs fundamentally from the economy which existed prior to its 1978 economic reforms, which was modeled on the former USSR, in that economic policy is not run by administrative but by market means. China has a large and vibrant private sector – indeed the world's most rapidly growing private sector. However China differs from the US or Europe in having a sufficiently large state sector, and a nationalized core banking system, that it can directly set the economy's overall investment level – the state sector is too small in the US or Europe to achieve this. This combination of market system and state sector is what gives China its greater economic strength than the US or Europe.

To illustrate this, take a key contemporary economic problem – the current situation in the US. The Financial Times on December 15 accurately described the situation in the US economy. It noted that the share of wages in US GDP had fallen to the lowest level since records began and concluded: 'The decline in the labor share, along with a shift of labor income towards higher earners, may be an important part of why the US economic recovery is so sluggish. Workers on lower wages consume much of their income, while higher wage earners and those with capital income are more likely to save. That will not affect total demand if savers lend to those who want to consume or invest in buildings and start-ups – but investment has been slow to recover in the wake of the recession.'

In short the US economy is growing slowly not because there is a shortage of funds for investment, on the contrary profits are at a record high, but because investment is very low – indeed the entire decline in US GDP in the current 'Great Recession' is accounted for by the investment fall. The problem is that in the US there is no mechanism which ensures that the huge funds available for investment are actually invested.

In China no such problem exists. If funds are not directly invested by companies, then the state owned banking system and state sector can invest them. Therefore no shortfall of demand occurs of the type analyzed by the Financial Times in the US. During the entire international financial crisis China, unlike the US, suffered no investment decline – on the contrary investment increased. The problem of accumulation of unused funds of the US type, that is in Keynesian terms a shortage of effective demand, doesn't arise in China. Equally if China's economy is booming, and companies are utilizing all funds for investment, the state steps back and reduces its own investment – reducing it to cool overheating. That is why China's macroeconomic policy is stronger than that in the US - the problems of either shortage of or excessive demand, which plague the US and European economies, are smoothed in China.

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