Why China can achieve its 6.5pc growth rate tar­get

The Pak Banker - - OPINION - John Ross

CHINA an­nounced GDP growth tar­get of at least 6.5% dur­ing the 13th Five-Year Plan in 2016-2020 and 6.5%-7.0% for 2016 at the Na­tional Peo­ple's Congress. Some Western econ­o­mists claim such tar­gets can­not be achieved. In fact, anal­y­sis of sup­ply-side fac­tors, which will pri­mar­ily be re­lied on to achieve this goal, shows clearly why China can achieve its 6.5% min­i­mum growth tar­get.

Cur­rent in­ter­na­tional eco­nomic trends, par­tic­u­larly trade, are un­doubt­edly un­favourable ow­ing to slow growth in the ad­vanced economies. Slow trade growth neg­a­tively af­fects China's sup­ply side by lim­it­ing its abil­ity to ben­e­fit from in­ter­na­tional divi­sion of labour. In the next pe­riod, China will con­se­quently have to rely pri­mar­ily on do­mes­tic sup­ply-side fac­tors to achieve its growth tar­gets. Data on global growth in turn shows clearly which are the most pow­er­ful eco­nomic sup­ply­side forces and why th­ese can suc­cess­fully al­low China to achieve its tar­gets.

To un­der­stand the fun­da­men­tal rea­son China can achieve its eco­nomic goals the start­ing point is that an econ­omy's growth rate is strictly de­ter­mined by the per­cent­age of fixed in­vest­ment in GDP di­vided by what is known as the In­cre­men­tal Cap­i­tal Out­put Ra­tio (ICOR) - the lat­ter be­ing a mea­sure of the ef­fi­ciency of in­vest­ment, and equal to the per­cent­age of GDP that has to be in­vested for the econ­omy to grow by 1%. For China the lat­est in­ter- na­tion­ally com­pa­ra­ble World Bank data for th­ese, for 2014, showed that China's per­cent­age of fixed in­vest­ment in GDP was 44.3% and its in­cre­men­tal cap­i­tal out­put ra­tio was 6.1. China's GDP growth rate was there­fore 7.3%.

Since 2014 the per­cent­age of fixed in­vest­ment in China's GDP has fallen, prob­a­bly to around 42-43% of GDP, which will be as­sumed to show why China can achieve its 6.5% growth tar­get. Sup­ply-side fac­tors may then be di­vided into the rate of fixed in­vest­ment and those which de­ter­mine the ef­fi­ciency of that in­vest­ment (ICOR).

The most pow­er­ful sup­ply-side fac­tor for all coun­tries stud­ied is what is known tech­ni­cally as 'in­ter­me­di­ate prod­ucts' - one in­dus­try's in­puts into an­other which re­flect in­creas­ing divi­sion of labour through­out the econ­omy's sup­ply chain. In the US, the world's most ad­vanced econ­omy, 52% of eco­nomic growth is due to growth in such in­ter­me­di­ate prod­ucts.

Growth of in­ter­me­di­ate prod­ucts is also cru­cial for un­der­stand­ing the role of in­no­va­tion. In­no­va­tion is not just a few ' big bang' in­ven­tions. As an econ­omy is an in­ter­con­nected net­work it can only be as strong as its ma­jor weak­est links. For ex­am­ple, merely in­stalling the most mod­ern ma­chin­ery in a fac­tory will not yield op­ti­mal re­sults if there is not an ad­e­quate sup­ply of com­po­nent parts, if there is not suf­fi­ciently skilled labour, if the lo­gis­tics sys­tem does not ef­fi­ciently take prod­ucts to and from the fac­tory etc. Given the econ­omy's in­ter­con­nect­ed­ness ev­ery part must func­tion ef­fi­ciently for suc­cess­ful op­er­a­tion. China has there­fore stressed ap­ply­ing in­no­va­tion across the en­tire econ­omy. Such a sup­ply-side divi­sion of labour re­quires a mul­ti­tude of fac­tors rang­ing from in­fra­struc­ture to prod­uct stan­dard­i­s­a­tion - all of which China has to de­velop fur­ther for its sup­ply-side to func­tion ef­fi­ciently. The se­cond most pow­er­ful sup­ply side fac­tor is fixed in­vest­ment - which is above all re­quired to in­cor­po­rate tech­no­log­i­cal up­grad­ing. Leav­ing aside in­ter­me­di­ate prod­ucts, in­ter­na­tion­ally fixed in­vest­ment ac­counts for 61% of eco­nomic growth.

The third most pow­er­ful sup­ply-side fac­tor is growth in quan­tity and qual­ity of labour - ac­count­ing for 29% of GDP growth glob­ally. Given China's work­ing age pop­u­la­tion is not ex­pand­ing, im­prove­ments in education and skill are a de­ci­sive fac­tor in this area.

Other in­puts (scale of pro­duc­tion, in­di­vid­ual en­trepreneur­ship etc) ac­count for an av­er­age 10 per­cent of growth glob­ally. Th­ese are tech­ni­cally termed To­tal Fac­tor Pro­duc­tiv­ity (TFP) and con­trib­ute to China's sup­ply side de­vel­op­ment. Tak­ing th­ese fac­tors to­gether shows why China's 6.5% growth rate is en­tirely re­al­is­tic and why the claims of Western crit­ics are er­ro­neous. Given the fun­da­men­tal ra­tios al­ready out­lined then for China's eco­nomic growth rate to fall below 6.5%, from its 6.9% level in 2015, one or both of two things would nec­es­sar­ily have to oc­cur. Ei­ther China's ICOR, its ef­fi­ciency of in­vest­ment, would have to de­te­ri­o­rate sub­stan­tially, or the per­cent­age of fixed in­vest­ment in China's GDP would have to de­cline in a ma­jor way.

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