Can China sustain world-beating growth rates?
The latest numbers on China’s population dynamics make for grim reading. At the end of last year, there were 850,000 fewer Chinese than a year earlier. This is the first decline in China’s population since 1961 when a dire famine killed millions. Demographers now project that China’s 1.4118 billion population will be overtaken by India very soon.
The population data carry immense social and economic implications for China as well as for the rest of the world. At home, a faster contraction in China’s labour force is now likely which will undermine economic dynamism. That will put at risk the 4.7% pace needed to achieve President Xi Jinping’s ambition of China becoming a “medium-developed country” by 2035. A more slowly expanding China will contribute less to global economic growth as well. That, in turn, would affect a whole range of factors from commodity prices to currency dynamics to how the geopolitical balance will be reshaped.
In our view, these weak demographic trends are entrenched and are unlikely to be reversed by the government’s measures to encourage couples to have more children. So, the decline in the labour force will gather more speed, which means that the only way China can achieve its ambitious growth target is to rev up productivity growth. Unfortunately, raising productivity performance will be challenging as explained below. As we add up the likely contributions of each driver of economic growth — labour force growth, physical capital accumulation and productivity growth — we believe that China’s long-term growth rate over the coming decades will not be more than 3%–4%, a far cry from the 8%–10% pace of the past two decades.
There’s a mountain to climb to overcome the scale of the demographic challenge
A few numbers will show the extent of the demographic problem for China: • Too few babies: Only 9.56 million babies were born in 2022. This number has been declining at a double-digit pace for the past three years and last year’s births were the lowest since reliable statistics were collected in 1950. Some analysts even claim that it is the lowest number since 1790!
Why a low birth rate is here to stay: Given that the number of women of childbearing age (aged between 15 and 49) fell by more than 4 million • in 2022, the portents for future births are not good. As women are delaying marriage as well as childbirth, China’s infertility rate has increased from 2% in the early 1980s to 18% in 2020. From 2013 to 2021, the number of first marriages decreased by more than half for the population as a whole. For the 20– 24 age group, the decline was even more dramatic, down by three-quarters. Surveys suggest that the onechild family is now the norm: the younger the woman is, the lower the average number of children she desires.
• Given these trends, China’s population will shrink: The United Nations projects China’s population to fall to 1.31 billion by 2050 and 767 million by 2100 — or down by almost half from today’s level.
• Rapid ageing: Last year, there were 209.78 million people aged 65 and above representing 14.85% of the population, up from 14.16% in 2021. The trends show a steady rise in the median age of China’s population — it is 39 years now compared to 20 years in 1978. Projections put the median age at 50 years by 2050 and 60 years by 2100.
• Rising burden on working-age citizens: By 2100, there will be just one worker to support each retiree, a drastic decline from four today.
Clearly, China’s demographic headwinds are heavy and likely to exert a drag on its economic potential.
Can China turn around its woeful demographics?
China has introduced a range of measures to encourage more marriages and more babies. Cash incentives have been offered, the cost of child care and kindergartens is increasingly subsidised, and more generous maternity leave has been offered to young mothers. Some cities are even offering in-vitro fertility treatments to single young women to encourage births.
But there is a growing body of academic literature that suggests that government efforts to raise the total fertility rate of society can at best enjoy limited success and then only for just a short while. Singapore has been trying for 40 years to stem the decline in fertility rates with little effect. Some northern European countries have succeeded in raising the total fertility rates modestly but even here the rate remains well below replacement level, the level needed for the population to grow again. Thus, it is not surprising that China’s measures in recent years have had little effect so far.
Some of these measures have resulted in an increase in the number of marriages. However, it is quite telling that this increase did not bring about a proportional increase in the number of births. In other words, where there is a structural fall in the desire for children, simply incentivising couples to marry and providing subsidies for children’s upbringing will do little to stimulate population growth.
If the number of births cannot be raised substantially, can the workforce numbers be expanded by raising the
retirement age? China’s pension age of 60 for men and 55 for women are certainly quite low by international standards. Raising the pension age to levels that prevail in developed economies could add an estimated 40 million people to the labour force over time, theoretically.
In practice, however, most elderly workers today are already choosing to remain in the labour force even after passing the statutory retirement age. In fact, the share of people aged over 65 still in paid work is higher in China than it is in other major developed and emerging economies. Moreover, since many older women retire early to provide childcare for their children’s new families, getting older women to continue working would mean less help for young mothers and so less incentive for the latter to have children.
Another possibility is to liberalise immigration inflows as Singapore has done. But China’s political system is not likely to allow that.
If the labour force decline cannot be arrested, what can China do to maintain its dynamism?
The drag exerted by a declining workforce is here to stay. Only a significant acceleration in productivity growth can offset this drag on growth. There are certainly some factors that will help raise productivity but these factors alone may not suffice:
• First, as China’s investment in human capital development intensified from the 1990s onwards, the new cohorts entering the labour force will possess increasing education and skills. The current cohort, for example, has 12 years of education compared to only seven for those about to retire. This enhanced human capital could add up to 1 percentage point to growth over the next 15 years but only if more efforts are made to improve the quality of education in rural areas.
• A second source of productivity growth is driven by a reallocation of labour from lower value-added sectors, mainly agriculture, to higher value-added sectors, mainly manufacturing and services. The scope for productivity growth from such structural shifts has diminished in China as employment in agriculture converges closer to
rich country levels.
• Moreover, future labour reallocation will increasingly be towards the services sector where productivity growth tends to be slower than manufacturing. This further diminishes the productivity gains that can be made from structural shifts in the economy. Industrial productivity is approximately 30% higher than productivity in the services sector.
Putting all these factors together, analysts such as those at the International Monetary Fund believe that the structural changes that raised productivity growth in the past will contribute virtually nothing to future productivity growth in the 2018–2030 period.
Can high investment rates help support high Chinese growth?
Investment has accounted for three-quarters of China’s growth in recent decades. The share of investment in GDP has been around 40%–45% and the highest in the world. There is a growing perception that a material proportion of the investment has been unproductive. In addition, a breakdown of investment into its components — namely, business (33.3%), infrastructure (37.8%) and housing (28.9%) suggest that investment growth is poised to slow, thereby contributing less to potential growth.
• First, housing investment is entering a structural decline. A combination of demographic decline and slowing urbanisation leads to slower housing investment growth.
• Second, infrastructure investment growth cannot continue at its current rate. Sure, China’s infrastructure stock per capita is still only 20%–30% of that of developed economies. However, estimates by the Lowy Institute show that if infrastructure growth persists at its current rate, public capital stock per worker would be double that of the richest economies by 2050.
Geopolitical challenges add to these concerns
As frictions grow between the United States and China, the former is imposing more and more restrictions on the export of technology to China while also increasing the number of trade restrictions. The US is also pressing its allies in Europe and Japan to follow it. This could result in a “decoupling” of China from advanced economies, cutting China off from foreign investment and productivity-enhancing technologies and management practices. There would be fewer Chinese joint ventures with foreign multinationals and China’s participation in global value chains could also decline. As both joint ventures and global value chains have been crucial channels through which China absorbs and adapts knowledge and technology from overseas, this decoupling would be harmful.
These same geopolitical tensions have persuaded China’s leaders to push for self-reliance in science and technology. But this push for self-reliance will tend to entail greater resource allocation towards less productive state-owned enterprises, wasteful industrial policy subsidies, and attempts to guide private capital allocation that more often than not lead to productivity losses.
Bolder but riskier reforms can help China maintain dynamism
There are some obvious pathways to raising growth rates but each of these faces resistance. Take, for example, the following:
• State-owned enterprises (SOEs) operate much less efficiently than private enterprises. A reallocation of resources from SOEs to private enterprises would help raise efficiency fairly quickly. This could be effected through financial liberalisation to overcome the fact that state-owned banks prefer to lend to SOEs and tend to starve the dynamic private sector of much-needed credit. Privatisation of SOEs would also help as would regulations to promote fairer competition between SOEs and enterprises. But the current regime, dominated by Xi, seems to have a bias in favour of SOEs.
A large proportion of the workforce comprises migrants from rural areas work in towns and cities. They number close to 300 million and face restrictions under the hukou system which disadvantage them in many ways including being paid low wages. Companies that hire such workers have less incentive to invest in developing their skills and raising productivity. Many economists have been calling for reform of the hukou system but resistance from officials running the larger cities and towns has blocked these reforms until recently.
China’s leaders appear to be fully aware of the downsides of a declining population. They are not going to sit still in the face of this great challenge. Our guess is that faced with an almost existential threat from worsening population dynamics, they will cast aside some of their current policy inhibitions and push progressively bolder reforms. For example, we suspect hukou reforms could be stepped up soon. If so, China could sustain reasonable dynamism for some time.