30 September 2010
The relation of consumption and investment in China
The Financial Times carries a comment by the author of this blog on a column by Martin Wolf, its chief economics commentator, on the development of consumption in China. Martin Wolf has a justified reputation as probably the world's most influential economics columnist. However, in this case, his argument confuses the issue of the low percentage of consumption in China's GDP with the rate of growth of China's consumption and its consequences for the population's living standards - China has the world's fastest growth rate of consumption and it is this high rate of growth, not the percentage of consumption in GDP, that determines the most rapid development of living standards and total consumption. The practical economic significance of this is that in every country, including China, the growth rate of consumption is closely correlated with the growth rate of GDP - as discussed in the article below. In turn GDP growth is correlated with both the quantity and efficiency of investment. Increasing the percentage of consumption in China's GDP via a lower level of investment, other things remaining equal, would therefore lead to lower GDP growth rate, and lower absolute growth of consumption and living standards, than maintaining a higher investment percentage. China’s present investment level would be unviable only if either it led to falling profits, which is contradicted by the data, or its efficiency of investment from the point of view of GDP growth, that is the ratio of fixed investment to GDP growth rate. was abnormally high – in fact it is almost exactly the same as India’s and around half that of the US, i.e. China's efficiency of investment, from the point of view of GDP growth, is the same as India and almost twice that of the US. The issues of the relation of investment and growth, and of the relative efficiency of China's investment compared to other countries, have been dealt with several times here. The article below, however, deals with the distinction between the percentage of consumption in GDP and the growth rate and level of consumption. It originally appeared, in Chinese, in the journal China Finance and was therefore aimed at a non-specialist economist audience. Readers are referred to the Financial Times for a more compressed version of the arguments. The original title of the article was 'What should be targeted in consumption?' Its main conclusion is that the target of economic growth should be 'the maximum sustainable rate of development of consumption'. A few purely contemporary issues have been eliminated so as not to clutter the main argument. * * *
What should be targeted in consumption?
This article analyses issues in the development of consumption in China – notably which macro-economic measure should be targeted in this. The significance of this issue is at least twofold. * Strategically, sustainable consumption is the goal of economic activity – investment is only the means to achieve this. * More immediately, in the situation China’s economy found itself in at the time of the outbreak of the financial crisis, with a net trade surplus amounting to almost nine percent of GDP, reorienting the economy to domestic demand evidently meant raising the percentage of consumption in GDP. However this latter immediate issue does not settle the question of by which percentage consumption should be increased as a proportion of GDP, what should simultaneously happen to investment, and what should be the framework for measuring the strategic development of this matter? The significance of this question is made clear by the fact that at least part of the discussion of this issue confuses the rate of growth of consumption with the percentage of consumption in GDP – the two are very different. The implications of this distinction and different formulations on the issue of consumption are also illustrated below in regard to key...
Please join StudyMode to read the full document