Economics & Research Blog
China's GDP is Now Largest in the World: But What Does that Mean?
By Dr. Joe Webb
Published: December 10, 2014
Arends explains that China is larger based on GDP calculated as purchasing power parity (PPP). This method has its problems, as he explains:
To put the numbers slightly differently, China now accounts for 16.5% of the global economy when measured in real purchasing-power terms, compared with 16.3% for the U.S.
This latest economic earthquake follows the development last year when China surpassed the U.S. for the first time in terms of global trade.
I reported on this looming development over two years ago, but the moment came sooner than I or anyone else had predicted. China’s recent decision to bring gross domestic product calculations in line with international standards has revealed activity that had previously gone uncounted.
So, what is it? Is China the largest economy, or isn't it? Perhaps the best economics book I have read in quite a while is British economist Diana Coyle's GDP: A Brief but Affectionate History. Far from being a dry economics book with lots of equations, it goes through the history, rationale, and political aspects about measuring GDP. To oversimplify, no one knew what a GDP was until the calculation was invented around the time of the Great Depression. No one really thought about concepts like "the size of the economy" and nor how one might be able to manipulate it. Coyle's book has had great reviews, and they are well-deserved. A brief example of her work is at the Boston Globe. She discusses the flaws of the calculations but also reviews the alternative measures, like PPP, and other social welfare indexes. It's a good book, and will make you much more skeptical of economic measurement, paradoxically making you a better economics data user at the same time. You'll learn the unintended consequences of measurement, as GDP becomes viewed not as just bookkeeping but some magical means to driving macroeconomic strategy. Sometimes hard numbers obscure realities. Remember that, managers! We like to say "what gets measured gets done" but sometimes that means only what gets measured gets done and other things are neglected, or that hard-to-quantify concepts are ignored. So, does China's GDP matter? Things that can be measured in multiple ways need some context. China has 4.2x the number of people as the US. The US GDP per person is about $52,000, so the per person GDP of China is about 1/4 of that. This means that China still has a way to go for its economic improvement to be felt around the country. In the long run, it is likely that India will pass China in about 20 years, as China's policy of one child per family will cause its population to flatten and eventually decline. India's population, and economic improvement, are on track in a positive trend. * * * Economist Russ Roberts interviewed Coyle and the podcast is available for free. * * * Speaking of the Great Depression, economist James Grant has written about the Depression of 1921, which was originally called the Great Depression, and lasted only one year. Why? The book that explains it is called The Forgotten Depression: 1921: The Crash that Cured Itself. Grant made a presentation at the Cato Institute, which can be accessed at their site. Grant is always enjoyable to listen to. An accomplished historian, he is followed on Wall Street because of his 30+ years publishing of Grant's Interest Rate Observer. He became widely known years ago because of his appearances on Louis Rukeyser's PBS show Wall Street Week. Free copies of the newsletter can be downloaded from its site. # # #
Yes, when you look at mere international exchange rates, the U.S. economy remains bigger than that of China, allegedly by almost 70%. But such measures, although they are widely followed, are largely meaningless. Does the U.S. economy really shrink if the dollar falls 10% on international currency markets? Does the recent plunge in the yen mean the Japanese economy is vanishing before our eyes?
Back in 2012, when I first reported on these figures, the IMF tried to challenge the importance of PPP. I was not surprised. It is not in anyone’s interest at the IMF that people in the Western world start focusing too much on the sheer extent of China’s power. But the PPP data come from the IMF, not from me. And it is noteworthy that when the IMF’s official World Economic Outlook compares countries by their share of world output, it does so using PPP.