John Berry: Why China can't catch the US

China's economy is growing so fast that estimates of its long-term prowess are bordering on the absurd.

After Chinese statisticians recently sharply revised up their estimate of economic output in 2004 to US$1.93 trillion ($2.84 trillion), some analysts said that in 35 years it would overtake the US economy.

No way, no how. The US simply has too big a lead, with gross domestic product last year at US$11.73 trillion.

Even if China's GDP were to grow indefinitely at 11 per cent a year - 9 per cent real growth plus 2 per cent inflation - and the US experienced 5.5 per cent growth - 3.5 per cent real and 2 per cent inflation - it would take the Chinese 40 years to catch up in terms of nominal GDP.

Sustainable nominal GDP growth of 5.5 per cent annually is well within the capability of the US. Eleven per cent growth, about what Chinese authorities expect in 2006, isn't remotely possible in the long run.

One reason China's economic growth looks so formidable is the sheer size of its population, just over 1.3 billion as of the middle of this year, compared with slightly fewer than 300 million in the US.

Yet that comparison is misleading in calculating the availability of workers to fuel economic growth.

Partly as the result of continued immigration, legal and illegal, the US Census Bureau estimates the American population is increasing by 0.92 per cent a year. With no net immigration and with its Government's harsh rule of one child a family, China's population is expanding at a much smaller 0.58 per cent rate.

Surprisingly, given the enormous difference in populations, bureau projections show that between now and 2050, the US population will rise by 124 million while the Chinese population will increase slightly less, by 118 million.

If those projections prove accurate, the Chinese would probably have no great advantage in terms of a burgeoning labour force as an ingredient for economic growth.

China does have an advantage in the rapid movement of workers from rural agriculture into higher productivity jobs in industry and services. On the other hand, it is a process that can only occur once, just as it was largely completed in the US more than half a century ago.

The other principal source of China's economic growth is its extraordinarily high share of GDP going to investment.

"China's investment-to-GDP ratio is still rising - we estimate it at 47 per cent in 2005 - and this has resulted in a significant build-up of production capacity in many industries," Lehman Bros economists said on December 19, just before the GDP revisions were published.

"So far, production has stayed strong, but there are symptoms of oversupply: Profit margins are being squeezed and the trade surplus has ballooned, partly because of excess local supply being exported.

"There is an urgent need to rebalance GDP from investment to consumption, otherwise weaker foreign demand, or rising protectionism, could slow exports and bring China's oversupply to a head, forcing a major cutback in production."

Some industries, such as steel and cement, are already plagued by overcapacity. And the People's Bank of China, the country's central bank, expressed concern that investment could rise further next year as local governments push new projects.

The threat of protectionist measures is probably greatest in the US, which in the first 10 months of this year had a US$167 billion trade deficit with China, about US$36 billion more than in the same period last year.

Meanwhile, as Chinese incomes rise, so will consumption as a share of GDP, with a more or less corresponding decline in the investment share.

Once the Chinese capital stock begins to rise more slowly, so will GDP.

Aside from these reasons to question the sustainability of continued annual increases of 11 per cent in Chinese nominal GDP, there is the overriding issue of authoritarian rule by the Chinese Communist Party.

China's Public Security Ministry reported there were 74,000 protest incidents involving some 3.76 million people in 2004.

Jerome Cohen, an adjunct senior fellow for Asia at the Council on Foreign Relations, said the number of protests over things such as land confiscations, pollution, taxation, corruption and religion had probably doubled this year.

Another council Asia senior fellow, Adam Segal, said the protests did not immediately threaten communist rule "because there's no co-ordination between them". On the other hand, the Chinese Government seemed unlikely to address the grievances, so the unrest would continue and grow.

At some point, the communists could well lose control of the country and a major disruption of the economy would be likely if that were to happen.

Prospects for US growth generally look good, even though eventually the country is going to have to deal with its low savings rate and huge current account deficit.

China will remain a formidable economic competitor.

Nevertheless, of necessity its growth will slow before too many more years pass and the US economy will remain the largest in the world.

- BLOOMBERG