The writer is a finance professor at Peking University and a senior fellow at the Carnegie-Tsinghua Center
Will China double the size of its economy by 2035, as President Xi Jinping proposed at a Communist party conference three weeks ago? To do so, the Chinese economy must grow annually by just over 4.7 per cent on average for the next 15 years. It grew by 6.1 per cent last year, and by 6.7 per cent annually over the previous five years.
In that context, 4.7 per cent a year seems quite manageable. But while the calculations may seem straightforward, there are economic and demographic constraints that are not.
Every country that followed the high-savings, investment-led growth model that China adopted in the early 1990s — such as Japan in the 1970s and 1980s, or Brazil in the decade before — has gone through three distinct stages. The first stage, characterised by heavy investment in badly-needed infrastructure, delivered many years of rapid but unbalanced growth. In that stage, debt grew in line with the economy because when debt mostly funds productive investment, gross domestic product grows faster than debt.
In the second stage, as each country sought to rebalance demand away from investment, typically with little success, growth remained fairly high, although now driven increasingly by non-productive investment. When this happens, total debt in the economy must grow faster than GDP. So the debt burden rose.
Finally in the third stage, the country either reached its debt capacity limits or a worried government took steps to prevent debt from rising further. Either way, the economy was forced finally to rebalance away from investment and towards consumption amid far slower, sometimes even negative, growth.
China today is clearly in the second stage. Between 1980 and 2010, Chinese GDP doubled four times, but debt levels were low and rose slowly. However, between 2010 and 2020 when GDP doubled again, China did so by tripling its total debt burden to $43tn, so that it now stands, officially, at over 280 per cent of GDP.
Assume conservatively that the relationship between debt and growth doesn’t change, and China’s debt-to-GDP ratio will have to rise to over 400 per cent by 2035 if it is to double GDP again. This is a level that would be unprecedented in history. Everywhere else, growth collapsed long before debts reached levels close to this.
China can in principle reduce its dependence on debt by shifting domestic demand from investment to consumption, as Beijing has long proposed. Yet this requires that the household income share of GDP rise from roughly 50 per cent today to at least 70 per cent.
Beijing has long wanted to do this but with limited success, despite a decade of trying. There is still little to suggest the party is willing to tackle the institutional implications of the large wealth transfer from local governments and elites to households this entails.
There is also a demographic problem. From the late 1970s, China benefited from a rapidly rising working-age population, but this reversed around a decade ago. In fact, over the next 15 years, while China’s population will grow by an estimated 1.5 per cent, its working population will decline by an astonishing 6.8 per cent, and will continue to decline for the rest of the century. To put it in context, while today there are 4.7 Chinese of working age for every equivalent American, by the end of the century there will be only 2.4.
This has economic implications. Achieving GDP growth of 4.7 per cent with a declining working population requires as much productivity growth per worker as 5.2 per cent GDP growth with a stable working population. Growth in Chinese labour productivity has in fact fallen steadily since 2010. Looking ahead, a declining working population requires that the pace of this decline in productivity drops by nearly two-thirds if China is to double GDP by 2035.
None of this means that Mr Xi’s goal is impossible, but we must recognise the constraints. Absent China discovering an entirely new engine of economic growth to absorb the huge amount of debt-financed spending that now goes into non-productive investments, China can double GDP by 2035 only under one of two conditions.
Either there is in effect no limit to China’s debt capacity, or Beijing boosts consumption by managing a massive redistribution of income to ordinary households. History suggests that the former is very unlikely, and that the latter will set off substantial and unpredictable political and social change. Either way, it is an unlikely bet.