MNI INTERVIEW: China’s Growth To Slow Without Model Changes–Wu

China’s GDP growth could slow to between 2-4% over the next decade unless it abandons its state-led growth model, while trade tensions with major economies are likely to intensify as excess industrial capacity spills into external markets, a prominent economist told MNI, warning Beijing may have already missed the optimal reform window.

Harry X. Wu, professor at Peking University’s National School of Development, said China must commit to deep institutional reform and embrace a rules-based market system underpinned by the rule of law. Failure to do so could trap the economy in a prolonged period of stagnation, or a “middle-income trap,” he warned. (See MNI: More China-US Tensions Likely Despite Progress-Advisors)

Wu, known for his research on China’s productivity and long-term growth, said the key challenge lies in declining economic efficiency – measured as total factor productivity growth– which has fallen for much of the past two decades. Beijing’s latest Five-Year plan proposal published on Tuesday cited this as a major area for improvement. 

On average, China’s aggregate TFP declined at 0.14% per annum between 2001-2023, after rising significantly by 2.22% p.a. in 2001-2007, then falling continuously by 1.94% p.a. in 2007-2012, 0.89% in 2012-2018 and 0.24% in 2018-2023.

Negative TFP since 2013 indicated the economy had entered a prolonged efficiency recession, Wu said, emphasising that capital misallocation reduced the overall level by about 0.59% a year. “The various challenges we face today illustrate that the economy's fifteen-year streak of low efficiency has become an unsustainable burden,” he warned, as past policy efforts to preserve growth have done little to improve productivity. Wu estimated China’s current potential growth rate at roughly 4%, indicating that the economy is operating below its potential after adjusting official growth figures using his double-deflation approach.

Labour productivity has risen far more slowly than labour costs, amounting to about 75% of the increase in wages, while productivity gains driven by over investment are high-cost and achieved without accounting for efficiency losses, he added.

Wu’s comments follow his 2024 call to scale back industrial subsidies to lift productivity, citing the distorting effects of more than CNY4 trillion in subsidies and government stimulus since the 2008 global financial crisis. (See MNI INTERVIEW: China Needs To Cut Subsidies To Hit 3.5% Growth)

GROWTH MODELS

China’s growth model, in which the government intervenes administratively under limited or partially open market conditions to pursue political-economic objectives, has created a structural imbalance between production and consumption, and growth and efficiency, Wu noted.

By suppressing labour and factor costs, China developed world-class production capacity but failed to build domestic consumption, he said. Without an unlimited external market, the constraint on final demand will suppress growth in the long run, he cautioned.

The Belt and Road Initiative, Beijing’s effort to create “new markets” for this overcapacity, is unrealistic given the finite nature of global demand, competition for new resources, and the strategic value of core technologies, he added.

GDP MEASURES 

Wu uses a productivity-based “double deflation” method to estimate real GDP growth, in contrast to the official “single deflation” approach rooted in the planned-economy era. Instead of assuming, as in the official methodology, that input and output prices change at the same rate at the industry level, Wu derives separate input prices from producer-price indices through an input-output framework. His resulting growth estimates are consistently lower than the official figures, but they align more closely with international norms when benchmarked to per-capita PPP GDP, a more suitable basis for comparing economies at similar stages of development.

Wu estimated China’s real average annual growth rate between 2000-2023 at 6.9%, compared with the official 8.3%. For 2023, his model puts growth at 3.3%, well below the official 5.2%. The rise in youth unemployment from an average 10% in early 2018 to 20% in early 2023 illustrated weak domestic demand, Wu noted. Unemployment rose by about 15% annually during that period, explaining the decline in investment in consumer goods manufacturing and raising doubts about official GDP data, he continued.

“China has already missed the optimal window for economic transformation between 2008-2012 when, despite the rising unit labour costs, TFP had not yet significantly declined,” Wu said. A marked efficiency slump began in 2012-2014 and has remained uncorrected since, he said.