Apparently, China’s GDP will overtake the US’s in 2030, at least according to the growth statistics that China is publishing. However, can we really trust those numbers and is this growth vastly over-inflated thanks to unnecessary economic production? Well, that’s exactly what I’m going to explore. I’m going to dissect those Chinese GDP numbers and analyze whether there could be over-reporting there or worse fraud.
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What is GDP?
Before we dive into the data, it’s important to quickly jog our memory about what gross domestic product is and how it’s calculated. So, quite simply, GDP is the sum of all the goods and services that are produced in a country within a particular time period. It is perhaps the best measure of a country’s total economic output. So, for example, the U.S. GDP for the whole of 2021 was 23 trillion dollars, whereas China’s was about 17 trillion dollars. So, 73% of Americans.
Now, in order to get the best measure of the productiveness of all the citizens in the country, these GDP numbers are sometimes looked at on a per capita basis. For example, given that China has about four times the population of the US, its GDP per capita is actually $10,000 compared with about $63,000 in the US, so bear that in mind.
However, what’s more important from an economic planning perspective is how the real GDP numbers evolve, i.e., the growth of the GDP numbers adjusted for inflation. This allows policymakers to determine how well the economy is doing. In the numbers that economists and market participants tend to talk about. In the first quarter of this year, the U.S. real GDP decreased at an annual rate of 1.5%, whereas China’s increased at a rate of 4.8%.
While the U.S. number can be explained by a few factors, those Chinese numbers appear as a bit of an anomaly. This was because Q1 included a number of weeks when China was going through massive COVID waves, and not only that, but China deals with COVID in a completely different way to most of the rest of the world. China takes a zero tolerance approach, which sees people locked in their buildings, factories shuttered, ports closed and roads controlled quite simply. This is not conducive to economic activity.
This is why many people were quite surprised at these growth numbers, but then again, accusations of dubious GDP numbers are nothing new when it comes to China. Over the past 15 years, there have been numerous accusations of inaccurate data. These have even come from some of the highest ranking officials in the Chinese communist party.
Back in 2007, WikiLeaks released a US diplomatic cable that quoted Li Keqiang, the head of the communist party in northeastern Liaoning province. In that cable, Li Keqiang said that GDP is ‘man-made and unreliable’. Since then, he’s not talked about this since, and that’s perhaps because he’s moved up the ranks and is currently the premier of the state council, essentially number two to Comrade G. In order to fully comprehend Chinese GDP figures, one must first calculate them. However, you have to know how the data is collected.
How GDP Data is Collected
When it comes to GDP data in the West, it pulls it from a variety of different sources. In the United States, the Bureau of Economic Analysis is charged with calculating the country’s GDP. It is a fully independent body made up of civil servants and tasked with providing the most accurate estimate. The BEA gets this data from outside sources. Most of it comes from federal agencies such as the census bureau, the bureau of labor statistics, and the treasury. Again, all of these agencies are non-partisan and are tasked only with providing the correct data.
Over in China, it’s a little bit different. The economic numbers there are published by the national bureau of statistics, which gets a great deal of its GDP data from those recorded by various local governments in the provinces and prefectures. The agency as well as government officials are independent in so much as they all have allegiance to the CCP. When it comes to the local officials in the provinces, it’s not the market nor the voters who determine their fate, but the central government. As such, they have to be benchmarked according to some criteria. Most often, these criteria relate to economic performance in the province or locality. Yes, China may still be communist, but they do love that mullah.
Whatever this means, it means that these local officials are incentivized to produce good economic numbers. This determines how far they get up the political ladder and creates a perverse incentive. Moreover, you don’t want to be the leader of a province or city that is underperforming, especially in a country like China. So, does this create an incentive to cheat or fudge those numbers? Well, it has actually happened in the past.
In the past, officials were caught submitting fake data. Back in 2017, the industrial city of Baotou in China’s Inner Mongolia revised its estimated fiscal revenue down by 50%. It was double the number expected. How crazy is that? They said in their report that this was down to factors including ‘fake additions’. It wasn’t the only region, though days earlier the governments of Inner Mongolia and Tanjin said their fiscal and economic numbers for 2016 had been overstated.
Fudging Local Numbers?
Now, to be fair, it’s not as if the Chinese central government actually wants local governments to falsify their data. They need data that’s correct in order to better allocate state budgets. Furthermore, they want to make sure that they are adequately rewarding those who really do bring in legitimate economic growth. That’s why they still do run anti-corruption probes, and the most recent of these took place in that probe. They found that ‘in some cases, local party committees and governments forced subordinates and enterprises to fabricate figures at each level to complete their target achievement mission’. So brazen was the fraud that these government officials left messages in chat apps asking business leaders to make sure that they reported more than 20 million yuan (about 3 million USD). Failure to comply would mean that the company in question would be removed from the statistics database and no longer enjoy preferential policies. Pretty damning if you ask me.
In communist China, economic growth comes at the cost of economic freedom. It’s difficult to say how widespread this is, but studies have been conducted to determine whether there is any bias in the data, i.e., is it slanted one way or the other?
One of these was a Yale study where the researchers looked into over-inflated local GDP numbers. They basically studied the reported GDP numbers of 431 provinces and 3418 local prefectures from 2002 to 2015. In each case, they compared the reported GDP to the target set by government officials. What they found is that provinces and prefectures were four and five times more likely to meet or beat their targets. This is strange because you would think that, on average, the chances of reporting a GDP number just below the target should be about equal to the chances of reporting one just above the target.
They also tried to delve into the causes of these discrepancies, and what they found was pretty obvious: those regions more likely to show signs of manipulation were those in which promotional opportunities were tied to economic performance. Beyond these local anomalies, though there are broader questions about the country’s top-line GDP numbers over the years. Let’s look into them now.
One of the most suspicious things about Chinese GDP growth over the years is just how smooth it is. The reason why this is weird is that GDP growth numbers are actually quite volatile. For example, if you look at the past two years, there are so many factors that go into the GDP numbers beyond just industrial production. This is perhaps best illustrated by this graph over here, which shows the volatility of the GDP in a paper from the New York Fed. It’s a rolling five-year coefficient of variation between China and its top trading partners. As you can see, it’s pretty stable compared to the rest and has appeared to be becoming more stable in recent years.
The authors of this Fed paper actually take a much deeper dive into the question of sparse Chinese data. The main point they make in the paper is that this data does indeed look impossibly smooth. The steadiness calls into question the usefulness of China’s official growth data in forecasting and in making policy and business decisions. At least in recent years.
It’s not to say that smoothed data is in and of itself a sign that the data is false; a large part of it could also be because of the fact that China’s is not able to collect growth statistics as frequently as other countries given this relative lack of data. With the skepticism with which they’re viewed, people have resorted to coming up with their own measures of Chinese growth. And this has been done through data sets that are a lot harder to smooth.
Some of the data that’s been used has focused on factors such as:
- tax receipts – no one is likely to claim to owe the government more;
- nighttime light intensity observed from satellites – we all need light;
- electricity generation – we all need power;
- railway cargo and imports – you can gather data from more reliable trade partners.
Funnily enough, these methods of looking into economic growth are not necessarily a western idea. They were actually even suggested by the likes of Li Keqiang. He’s number two, who I mentioned earlier after he made claims about the man-made nature of GDP numbers. He also said that he prefers to look at some of these harder-to-fake numbers.
In fact, this event led to the economist magazine naming this growth index the ‘Li Keqiang index’. This analyzed factors such as electricity consumption, railway cargo, and loans that were disbursed by banks since that time. There have been a number of other researchers who have tried to come up with their own benchmarks of Chinese growth.
Another branch of the Fed, this time out in San Francisco, has also come up with a proxy for Chinese growth. This took a look at indicators such as consumer expectations and fixed asset investment. They too conclude that official growth has been implausibly smooth since 2013. In this chart here, you can see their proxy measure as well as that of capital economics compared with the official numbers:
Perhaps one of the most damning studies was conducted by a group of four economists, one from the University of Chicago and three from the Chinese University of Hong Kong. They did a forensic examination of China’s accounts and published their analysis in a series of working papers. They used some of the same data sets that I mentioned a few moments ago, and what they concluded was quite startling. According to their benchmark of Chinese growth, the official GDP statistics have been overstating it by an average of 1.7% since 2008. Now, while that may not sound like a lot off the bat, you have to consider the impact of compounding. Over the period from 2008 to 2020, for the length of the study, that would imply that China’s GDP is a full 20% lower than what is being reported right now. Just think about that. Okay, so that’s pretty startling. But let’s assume for the benefit of the doubt that those Chinese GDP numbers are in fact accurate. Can we confidently say that the type of economic growth that China has been experiencing is high quality growth? Allow me to explain.
Ghost Cities, Bridges to Nowhere
I’m sure that you’ve heard of the phenomenon of China’s ghost cities. Essentially, entire urban developments have been built but lack a key ingredient of people to live in them. Thanks to one of the most crazy and unsustainable property booms of all time, these ghost cities have proliferated all across the country.
Did you know that there are actually “mini Paris” and “mini London” in China? I didn’t see. The cities built to replicate other more famous ones only to sit empty as people didn’t really want to live in them. In total, 20% of all urban housing in China is vacant. It’s pretty wild.
These are not only the result of overzealous central planners and government officials; they’re also the products of crazy property development companies that have built millions of residential units on unsustainable debt. Now, perhaps one of the most well-known of these is, of course, Evergrand.
It’s not just housing, though. There have been roads built to nowhere, bridges that are never driven on, and tunnels that nothing travels through. Ambitious projects were developed to link what turned out to be ghost cities.
The point is, I’m sure you can agree that these cities, roads, and bridges did not add much quality growth to China. They’re not being used in any way and, in some cases, are just degrading. However, you can bet your bottom yuan that they’ve been included in local level GDP stats. According to those stats, construction makes up just over 25% of the entire Chinese GDP. That’s perhaps the highest proportion of any country in the world. To give you a bit of context, in the US, the share of GDP that’s made up of construction is around 4.2%. The last time I checked, there were no ghost cities in the state.
While a local government leader may avoid brazen fraud in presenting their economic numbers, there’s way less scrutiny if they approve unnecessary projects. They can always tell the central government that they’re building to make China great and that these cities will eventually be filled.
The broader question then comes down to whether this is indeed sustainable. Will China continue to build despite a lack of demand, and what about those developers? Is it good business sense to have 20% of your country’s housing stock unoccupied? For instance, if some of those property developers do indeed go bankrupt, what impact could this have on the broader economy? Given that construction makes up such a large percentage of the GDP numbers, one would have to expect a retracement of some sort, but then again, given recent experience with China’s miraculous growth even during the lockdowns, one has to ask whether it will find a way to keep growing.
I will admit that for the longest time ever, I always thought that GDP numbers could be trusted. However, it wasn’t until these past two crazy years that I started to question that long-held belief. There’s no doubt that China has been growing at a rapid clip. The last 30 years have radically transformed the country from a sleeping giant into the economic powerhouse that it is today. However, it would be foolhardy to assume that transparency has appeared in the wake of economic transformation. China still ranks pretty low when it comes to economic freedom indexes. This shows that much of its growth comes through the machinations of the CCP.
The same can be said about the data being collected and presented by the internal agencies. They have an allegiance to the state and will thus be a lot less inclined to publish data that looks bad. The central government actually wants false data. It needs to get an accurate read of the situation and has even begun cracking down on graft and corruption at the local government level.
However, the rigid incentive mechanisms in place create this perverse incentive where local government officials are more inclined to round those numbers up than down, and even if they report the most accurate stats that they can, they’re still incentivized to approve the most ambitious building projects like roads, bridges, tunnels, railways, and housing projects. This all contributes to the bottom line of not only the region, but also of the local official. That’s why it’s also important to appreciate the importance of high quality GDP growth. These numbers mean very little if they’re going towards infrastructure and housing that no one uses. It’s not like this is something that’s lost on the CCP. There have recently been efforts to emphasize quality over quantity. They are equally concerned about the property bubble that companies like Evergrand have spawned and have more recently been trying to slowly deflated.
However, if the Chinese government is themselves concerned not only with the veracity of the economic numbers but also the quality of economic growth, then it means we should be too. So when they report their Q2 economic numbers in the next month or so. Be sure to have some salt handy.
[This article is a transcription of a video made by Coin Bureau]
Original video: https://youtu.be/9jO1G4CNse8 ]