Will China excel US in 2016?

Let us now turn to China and the US. Last year, China's GDP using the market exchange rate was 40 percent of the US' GDP and, according to the latest WEO, it will reach 60 percent by 2016. This is because China's GDP growth is expected to be about three times faster than that of the US. This outlook is no surprise. It simply reflects the dynamism found in China as well as in several other emerging economies.

In terms of the PPP-adjusted GDP, the expected catch-up is more pronounced. China is estimated to have already reached 70 percent of the US' GDP and expected to surpass that of the US by 2016. Given the larger base of the PPP-adjusted GDP, the same growth rate differential noted earlier will push the GDP above that of the US by 2016.

On the other hand, the increase in the US' per capita GDP will still be larger at both market and PPP exchange rates, since the US population is less than a quarter of that of China and at the starting point, the US' per capita GDP is more than six times higher. Thus a slower growth rate in the US will still imply a faster increase in the income level of US citizens.

Is there any advantage in using the market exchange rate instead for GDP comparison? Indeed, if the objective is to measure the actual size of countries' GDP as assessed or valued by the market, notwithstanding the price distortions because of administrative or policy measures, then the market exchange rate is a more accurate measure. For example, if people are willing to pay and provide a haircut for $10, then that is the actual value of that service in that country even if people in another country are willing to pay $20 per haircut.

More generally, the market exchange rate is a more appropriate measure where financial flows between countries are involved, such as comparing current account balances.

There are other pros and cons to both measures. Market exchange rates tend to be much more volatile than PPP exchange rates. For example, a country whose market exchange rate depreciates by 30-40 percent following a balance of payment crisis will see its relative income size shrink by the same amount. This is clearly not correct since the crisis has not really led to a fall in the country's GDP of that magnitude in one year. The main drawback of PPP, on the other hand, is the difficulty in deriving the PPP exchange rate. It is a huge statistical undertaking, and new price comparisons are available only at infrequent intervals.

Notwithstanding these pros and cons of different measures, and irrespective of whether China's GDP will surpass that of the US in 2016, China's economic performance in the last decade has been remarkable and is likely to remain so in the near future.

The latest WEO projection is also consistent with the current two-speed recovery of the global economy that is shifting the gravity of economic center toward emerging economies. Obviously, this process will not happen overnight, but it is important to recognize these ongoing changes. These developments are already beginning to be reflected in multilateral processes such as at the IMF where China's voice has already been increased.

The author is the senior resident representative of the IMF in China.

(China Daily 05/11/2011 page9)

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