• The Invisible Hand

When will China overtake the US?

With such a large demographic advantage over the US it is inevitable that China will become the dominant economy. This post explores the possible scenarios in which China will overtake the US.


With the current economic battle between China and the US it seems relevant to investigate when China will finally overtake the US. Although Donald Trump may not want to hear this, China has actually already overtaken the US economy if PPP adjusted figures are used which better reflect the purchasing power of an economy. PPP-adjusted GDP is $23.3 trillion in China while it is only $19.4bn in the USA. In fact it was in 2013, when China first truly overtook the US. However, GDP in its raw form in China is still only 63% of the USA’s GDP. Another complication arises in the fact that China is notoriously shifty when it comes to GDP measurements and Chinese officials tend to think of GDP being used ‘for reference only’. Nevertheless for this post we will consider GDP data from the World Bank, however, unreliable data is an important factor to consider.


Three scenarios will be considered. First we will consider the average amount of time I expect it will take for China to overtake the US. The second two scenarios will consider the longest and the quickest time scales that can reasonably be expected.


SCENARIO ONE (2029)

This scenario assumes both China and the US follow their current growth path. This involves the Chinese economy growing at 6% per year and the US economy growing at 2% per year. Although there will inevitably be short-term shocks it seems reasonable to assume that without any external shocks economic growth will follow these paths for both countries. (red represents Chinese GDP and blue the USA's GDP)


SCENARIO TWO (2041)

This scenario represents the longest it would reasonably take for China to overtake the US. For this to occur China would see a structural decline in its GDP growth potential and the US must see an improvement. This model supposes there is a long term growth rate in China of only 4.5% while the USA grows at 2.5%.

A likely reason for this would be rising labour costs in China as they develop and it becomes harder to extract productivity improvements and attract foreign investment. China may also suffer if their short-term strategies of fiscal stimulus fail to provide long-run growth and if their lack of original innovation creates problems. However, this situation seems unlikely given China is making long-term investment particularly into R&D. Furthermore, due to its dramatic size, there are large variations in income in China and the only situation in which China would become uncompetitive is if China grew much larger than the US.


Meanwhile, the US may grow at a faster long-term rate if they continue to dominate international finance, higher education and popular culture. If the US grows faster this will make it harder for China to overtake the US. Fundamentally, the US will remain the largest developed country because it is driven by high rates of innovation and private ownership. However, 2.5% growth seems unsustainable in the long-term for a developed country.


SCENARIO THREE (2024)

This is the shortest possible time frame in which we could expect China to overtake the US if Chinese growth accelerates to 8% and US growth declines to 1%. This would be even more likely if there was a serious depression in the US.


It seems likely China could achieve this level of growth if it continues to make its enormous investment in R&D and infrastructure. Their spending on R&D alone increased by 12.3% last year. Infrastructure improvements include a high speed rail and rapidly expanding internet access. Education is also improving and Chinese universities such as Tsinghua University are thought to be able to rival top US universities in the future.


The US economy in the future may also suffer from high public debt (74%), the highest since WW2. Another trigger factor for a crisis could be increasing payouts on Social Security and healthcare. There is also an underlying weakness in certain economic indicators in the form of a chronic trade deficit and stagnating productivity.


CONCLUSION


Scenario 1 seems the most likely situation given the fundamental economic characteristics of China and the US remain strong so long-term growth is unlikely to change. However, economists can never predict when the next crisis will occur and this could change the probability of any of these given scenarios occuring dramatically. Only time will tell, but one thing we can be certain on is that we can’t rely on Donald Trump to provide an answer.

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