Edward Conard

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AI Summary. China's productivity is about 30% of that of leading economies, with business services productivity at 17% of the global frontier, partly reflecting high barriers to entry. Total factor productivity growth slowed from 2.8% a year in the decade before the global financial crisis to 0.7% afterward.

Kenneth Kang International Monetary Fund
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China’s economy only 30% as productive as advanced economies, with aggregate TFP growth slowing from 2.8% 1999-2008 to 0.7% in 2009-2018.

How far does China's productivity lag leading economies?

Core argument: China's economy remains only 30% as productive as the world's leading economies, with business services productivity at just 17% of the global frontier, partly due to high entry barriers.

China's economy, while having experienced significant growth, remains only 30% as productive as the world's leading economies. This productivity gap is particularly pronounced in the services sector, where business services productivity is just 17% of the global frontier, partly due to high entry barriers. Aggregate Total Factor Productivity (TFP) growth has decelerated sharply, from 2.8% in the decade before the global financial crisis to 0.7% between 2009 and 2018. This slowdown has contributed to a decline in GDP growth, which fell below 7% for the first time since 1991 during 2015-18. Despite some signs of improving labor productivity and TFP growth in 2017, these metrics remain significantly lower than pre-crisis levels. The need for institutional reform is emphasized as a critical step towards enhancing resource allocation efficiency and addressing investment misallocation, which could otherwise hinder China's economic potential.

Takeaways by Macro Roundup® AI

  1. China's economy remains only 30% as productive as the world's leading economies, with business services productivity at just 17% of the global frontier, partly due to high entry barriers.
  2. Aggregate total factor productivity growth in China decelerated from 2.8% in the decade before the global financial crisis to 0.7% over 2009–2018.
  3. China's GDP growth fell below 7% during 2015–18 for the first time since 1991, and the staff report emphasizes institutional reform to improve resource allocation and address investment misallocation.

Kenneth Kang and Sanjaya Panth, "Staff Report People's Republic Of China," International Monetary Fund, January 8, 2021, https://www.imf.org/en/Publications/CR/Issues/2021/01/06/Peoples-Republic-of-China-2020-Article-IV-Consultation-Press-Release-Staff-Report-and-49992

“….China has seen remarkable growth over the last decades, but with average sectoral productivity at about one third of the global frontier, there is ample opportunity for more. Productivity gaps are especially large in the services sector—for example, business services productivity stands at only 17 percent of the frontier level, owing in part to high entry barriers…”

Loren Brandt John Litwack Elitza Mileva Luhang Wang Yifan Zhang Luan Zhao, " China’s Productivity Slowdown and Future Growth Potential," World Bank, June 2020, https://openknowledge.worldbank.org/bitstream/handle/10986/33993/Chinas-Productivity-Slowdown-and-Future-Growth-Potential.pdf

World Bank, “…China has experienced a marked slowdown in growth in output per worker since the global financial crisis. In 2015-18, average GDP growth fell below 7 percent for the first time since 1991, to a large extent due to slowing growth in total factor productivity (TFP). Aggregate TFP growth slowed from 2.8 percent in the 10 years before the global financial crisis to 0.7 percent in 2009-18. In 2017, signs of improving labor productivity and TFP growth emerged but both remain significantly lower than their pre-crisis levels. …High investment growth was in part driven by the large fiscal stimulus packages introduced first in in response to the 2009 global recession and later to cushion the 2015-16 growth slowdown (see below). In contrast, TFP growth decreased sharply to 0.7 percent a year in the same period. Other studies also estimate that aggregate TFP has declined in recent years (Wei et al., 2017; Wu, 2017). The TFP growth slowdown is explored further in the following sections…”

Ed, reviewed the IMF report. The report confirmed (see first chart) the WSJ claim, “…China’s economy is only 30% as productive as the world’s best-performing economies …”however it’s data didn’t support, “…The IMF estimates that annual productivity growth averaged just 0.6% between 2012 and 2017, a sharp decline from an average of 3.5% in the previous five years…”However Ben noted a World Bank report that ~ mirrored the WSJ report“…Aggregate TFP growth slowed from 2.8 percent in the 10 years before the global financial crisis to 0.7 percent in 2009-18…” (See second chart)

Michael Pettis, “China’s Economy Needs Institutional Reform Rather Than Additional Capital Deepening," China Financial Markets, July 24, 2021, https://carnegieendowment.org/chinafinancialmarkets/82362

Our friend Mike Pettis commented on the World Bank report when it was published:"...Except to the extent thatthe phrase “improving the efficiency of resource allocation” is carrying an extraordinarily heavy load, I think this is likely to be the wrong approach and will lead mainly to more investment misallocation in the country. What China really needs is a transformation of its institutions in a direction that some might argue is very different from the direction it is currently following...."

Ed Comment:Surprising. Mark important and add to data base. What accounts for the 3x (=1/0.30) difference in our productivity vs China—capital per worker, human capital per worker (i.e. education), or TFP? Perhaps they can close much of the gap with our productivity by investing more capital per worker. That would be relatively easy. So would increasing levels of education. It might be hard to close a TFP gap if they are only growing TFP 0.6% a year (about the same rate as us). What do your 2 china buddies say about this.

Steve Comment:If you are interested Nick Lardy book from a few years ago The State Strikes Back does a great job flushing out the dynamics driving what you are describing. Under Xi they have tacked away from private market driven growth and are currently shrinking the role for private firms (so raising the role of SOE) and the market in the overall economy (Jack Ma’s disappearance is a good illustration), Lardy forecast that was going to slow productivity growth which the World Bank and IMF are now picking up. The men who run China understand that market economies diffuse power in a way that would threaten the CCP control, and it’s a good bet they will always optimize towards maintaining the CCP monopoly on power despite the tradeoffs, slower productivity growth for example. The shift under Xi shows it’s in fact a deliberate choice. Now that is likely enough for their middle term goals (for example in practical terms the PLAN likely has the USN beat today in terms of the distribution of relevant resources) as this chart of military spending inppP terms implies:

Ben Comment:The report also mentions that some of the service industries with the highest productivity gap are the least competitive: "Productivity gaps are especially large in the services sector—for example, business services productivity stands at only 17 percent of the frontier level, owing in part to high entry barriers.” It will also come as no surprise that the state operated enterprises (SOEs) are less productive than private firms. The graph I’m attaching says, while SOEs are declining in relative importance, they’re still important users of capital and credit. My interpretation is that SOEs are not allowing private firms to reach the scale they’d need to become big drivers of productivity and productivity growth. There also seems to be a geographic mobility issue: "Urbanization has helped rural workers to find work in economically active regions, where household incomes are twice as high as in rural areas. A more holistic reform to further improve the hukou system, preserve migrant worker land ownership rights, improve the efficiency of rural land markets, and increase spending on public services and social safety nets, would facilitate labor market mobility and raise growth.”Taken together - it looks to me like China’s productivity lag is unlikely to disappear because the reforms necessary (SOE reform, opening markets, mobility, etc) are unlikely to be popular among the control-obsessed Chinese government. I think will take a lot more than just capital deepening. The World Bank Report graph Steve pulled out shows that the Chinese are adding tons of capital per worker but not very much human capital and very little TFP. The increased capital is unlikely to be that productive if, as the IMF claims, it’s going into poorly run SOEs. So it seems like the Chinese are behind in all three: capital per worker, human capital per worker (i.e. education), and TFP, and they’re struggling to close the gap because they have institutional and structural issues that would make catch up hard even if capital per worker and human capital (education) investment increase.

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