Bloomberg View columnist Noah Smith says China has already emerged as the world’s largest economy when its GDP is measured in purchasing power parity terms.
Smith, formerly an assistant professor of finance at Stony Brook University, writes at Bloomberg that the US still has the world’s largest GDP when measured at market exchange rates, which would put its 2016 output at USD$18.6 trillion as compared to Chinese GDP of $11.2 trillion
Smith points out, however, that GDP comparisons based on market exchange rates are disingenuous, given the variable costs of goods and services in different countries.
According to Smith the huge disparity in costs between the US and China mean that the latter’s GDP is being underestimated by as much as 50% when measurements is made based market exchange rates.
“In general, less developed countries have lower prices, which means their GDP gets systematically undercounted,” writes Smith.
In order to correct this problem, economists use purchasing power parity, which takes relative price differences into account, in order to obtain a more accurate picture of output.
When measured in PPP terms, China’s 2016 GDP comes in at $21.4 trillion, as compared to $18.6 trillion for the US.
Despite surpassing the US in total economic scale, the Chinese are far from the world’s richest people in per capita terms due to their huge population size.
Smith notes, however, that China’s low per capita level of wealth means that it still has ample growth potential in future, which means its economic lead compared to the other nations is likely expand.
“Whereas developed countries can only get richer by inventing new things or making their economies more efficient, poor countries can cheaply copy foreign technology or imitate foreign organisational practices,” writes Smith.
“Not only is China already the world’s largest economy, the gap between it and the US can be expected to grow even wider..though China has slowed in recent years, its economy continues to expand at a rate of more than 6%, while the US is at just over 2%.”
A low baseline of per capita wealth obviously isn’t any guarantee robust economic growth in the modern era, given the large number of countries around the world that still remain mired in poverty.
Smith points out that dysfunctional institutions can serve as besetting impediment to growth in poorer countries, given the pivotal role that they play in facilitating economic development.
In China’s case, however, it appears as though the institutional settings are enough spur future growth, as Beijing can follow the precedent set by its Asian peers in the post-WW II period.
Smith cites a recent paper by economists Randall Morck and Bernard Yeung which compares China’s current resurgence with the modern development of Japan and South Korea.
Their study concludes that China’s institutions are currently following the same trajectory of development previously pursued by other Asian economies that have since achieved rich nation status.