A Small Proposal to Rebalance the Global Economy: Just Let China Grow

Many take as fact that the current pattern of global imbalances — large and persistent trade deficits and surpluses across different parts of the world, eventually unsustainable — is due to China and the rest of East Asia consuming too little and saving too much. Since the global economy is a closed trading system, trade deficits and surpluses across all national economies must sum exactly to zero always. Therefore, that one part of the world saves too much and thereby runs trade surpluses means other parts of the world — notably the US — must be running trade deficits.

However, just because deficits and surpluses are tightly inter-connected does not mean that trade surpluses in China, say, have been responsible for US trade deficits: absent further information, causality could well have flowed in the opposite direction. Moreover, China’s high savings might be dynamically welfare-optimizing for its citizens — for instance, private enterprise in China might find self-accumulation the only way to generate investment funds — and, at the same time, only minimally if at all welfare-reducing for already-rich US citizens. Finally, it might be that global imbalances should best be viewed not as a bilateral (US-China) problem but instead a multi-lateral one.

Be all that as it may, many US policy-makers focusing on US trade deficits and China’s trade surpluses urge policy actions against China to rebalance the global economy. Those policy actions include punitive tariffs against Chinese imports and tagging China a currency-manipulator — and thus moving it yet further from official free-market status. Some observers remark that without such external pressure, China will find it domestically too difficult to shift away from its reliance on export promotion, infrastructure investment, and restrained consumption towards a more balanced growth path (e.g., Michael Pettis, Nouriel Roubini, Martin Wolf).

The problem: To raise China’s domestic aggregate demand, especially consumption. The difficulty: China’s consumption cannot increase quickly enough to compensate for the shortfall in aggregate demand should both investment and exports decline. The danger: a hard landing for China and the global economy.

I want to suggest that such a re-direction need not be that difficult. My proposal: Let China grow rich as quickly as possible. Why might this do the trick?

Regional incomes in ChinaFigure 1: Regional incomes in China

First, consumption within China is already rising faster than both income and investment, provided that we look at those parts of China where incomes per head exceed US$8,800 (Figures 1 and 2). Of course, China’s current per capita income overall now is only US$2200, less than 6% that of the US. What this suggests, however, is as China’s income grows, its overall savings rate will naturally fall. The right policy is to encourage growth, not adopt punitive actions that might retard that growth.

China’s regional consumption and investmentFigure 2: China’s regional consumption and investment

(I took Figures 1-3 from a term paper that Daisy Wang wrote for my course Ec204 The Global Economy at the LSE-PKU Summer School, August 2011. The underlying data are from China’s National Bureau of Statistics.)

Second, as John Ross reminds us, investment too is aggregate demand. But, third, continuing to increase China’s investment in, among other things, infrastructure and transportation can help further as it allows those western, poorer regions in China (again Figure 2) better to integrate both nationally and globally, and thus become richer through raising demand and productivity.

While many observers make much of China’s high investment to income ratio, it is useful to note that that ratio is high not just because its numerator is being driven up, but also because the denominator remains so low. The right state variable for dynamic analysis in a neoclassical growth model is capital per head, not capital per unit of income. And here (Figure 3):

China’s per capita investmentFigure 3: China’s per capita investment

we see how China still has a long way to go on the upside.

Finally, Figure 4:

“The Chinese led the way in the rush to the Boxing Day sales, flocking to department stores to grab designer goods”, The Times of London, 27 December 2011Figure 4: “The Chinese led the way in the rush to the Boxing Day sales, flocking to department stores to grab designer goods”, The Times of London, 27 December 2011

However much anyone might doubt those China statistics I used above, auxiliary evidence shows that rich Chinese consumers have no difficulty increasing consumption.

The evidence I’ve described doesn’t of course say that global imbalances can be easily erased through just more economic growth in China. However, the algebraic signs of the required relations seem to me to point at least in the right direction. Careful work to quantify these effects might end up showing that their magnitudes aren’t large enough. But, as far as I know, that calibration has not been done, which makes me wonder why some observers can be so certain that China’s current growth trajectory can only exacerbate global imbalances.

When China becomes rich, that will also dramatically lower inequality in the world — globally, the difference in incomes per head across nations overwhelms that across individuals within a single country. No one I know arguing for a more egalitarian society also says that that push for equality should stop at their nation’s borders and be kept from applying seamlessly across humanity’s 7 billion.

This post originally appeared at Danny Quah’s Blog and is posted with permission.

4 Responses to "A Small Proposal to Rebalance the Global Economy: Just Let China Grow"

  1. Econundertow   December 30, 2011 at 10:48 am

    More 'consumption is production' nonsense. People don't get it: the world economy may be a closed TRADING regime (garbage debt money for garbage 'goods;) but it destroys value in that capital enters one end of the glorious economy while landfill stuffing comes out the other.

    "China’s high savings might be dynamically welfare-optimizing for its citizens."

    China 'saves' the debt of its customers, where is the welfare-optimizing? China spends the funds gained in mercantile (parasitic) trade on fuel it then wastes for what, exactly? China's savings are thousands of vacant concrete towers: where are the actual products worth more than the input (which are artificially priced too low in the first place).

    The biggest lie is that there is some sort of 'productive' enterprise out there in this world or China or Detroit or Deutschland or on the North Pole when there is naught! What exists are frauds to support the massive expansion of debt.

    Debt is the product of industrial economies: that and waste.

    If I am wrong prove it! Show one country anywhere in this world — ever — with an industrial economy that is debt free or which hasn't taken on debt written on the accounts of its neighbors, trading partners or its children.

  2. Guest   January 7, 2012 at 6:09 am


    Your discussion containing some useful points, seems to be against industrial economies, the only economy you have ever known, where even those in the remotest corners of the globe remain untouched, and unless you are writing from outer space, you are untouched as well. Therefore, your perspective is against industrial economies and you use memes relevant to those who are interested in economics to fob your bs. Actually this type of writing is reminiscent of much found on Roubini, and other sources these days. So, couched in terms that are interesting to those with economic interest and perspectives you seem softly to attempt to undermine the validity of economics, insofar as it is. So you talk of the expansion of debt, why is that bad, or is just said because many believe the expansion of debt, as in their personal debt to be bad, or from religious perspectives bad.

    As to show me one country with an industrial economy, in the world, show me one that doesn't have some level of such, not one to exist anywhere. It is like potatos, potatos a product of the andes are part of peoples cultures todays, many national dishes surround the use of potatos, but they are from the Peru….similarly with the proliferation of potatos, the proliferation of modulating industrial societies globally is the course. The real issue left unaddressed by the author of the piece above, in his perspective toward egalitarianism is how China's pace in development limits the growth trajectory of developing countries and the world. Not due to where it will arrive, but the pace, modes of transport and mechanisms it is using in the present era. Such, limit the growth trajectory of all and will lead to responses in the coming years, where even his facts used haven't been checked, such as FAI growth being lower than consumption growth. Not true. Anyway, I love trees to, but your dishonesty is unworthy of your goals.