Key Trends in the World Economy

China has overtaken the US to become the world's largest industrial producer

The period since the international financial crisis began has for the first time in over a century seen the US displaced as the world’s largest industrial producer – this position has now been taken by China. It has also witnessed the greatest shift in the balance of global industrial production in such a short period in world economic history. In 2010 China’s industrial output exceeded the US marginally but this has now been consolidated into a more than 20% lead with the gap still widening further.

In 2007, on UN data, China’s total industrial production was only 62% of the US level. By 2011, the latest available comparable statistics, China’s industrial output had risen to 120% of the US level. China’s industrial production in 2011 was $2.9 trillion compared to $2.4 trillion in the US – this data is shown in Figure 1.

Figure 1

 

When the comparable data is released for 2012, China’s lead will have increased substantially– between December 2011 and December 2012 China’s industrial output increased by 10.3% whereas US industrial production increased by only 2.7%. Calculations based on estimates in the CIA's World Factbook indicate in 2012 the value of China's industrial production was $3.7 trillion compared to $2.9 trillion for the US – which would mean China's industrial production was 126% of the US level.

Taking only manufacturing - that is excluding mining, electricity, gas and water production - in 2007 China’s output was 62% of the US level, by 2011 it was 123%. Again the gap has widened in 2012 and 2013.

No other country’s industrial production now even approaches China - in 2011 China’s industrial output was 235% of Japan’s and 346% of Germany’s.

World Bank data, using a slightly different calculation of value added in industry, confirms the shift. On World Bank data China’s industrial production in 2007 was only 60% of the US level, whereas by 2011 it was 121%.

Therefore in only a six year period China has moved from its industrial production being less than two thirds of the US to overtaking the US by a substantial margin. If China was the ‘workshop of the world’ before the international financial crisis it is far more so now

The trends producing such dramatic shifts in such a short period are shown in Figure 2. In six years China’s industrial output almost doubled while industrial production in the US, Europe and Japan has not even regained pre-crisis levels. To give precise statistics, between July 2007 and July 2013 China’s industrial production increased by 97% while US industrial output declined by 1%. Industrial production data for July is not yet available for the EU and Japan, but between June 2007 and June 2013 EU industrial output fell by 9% and Japan’s by 17%.

Figure 2

 

It is this enormous rise in China’s output which also drove the much discussed global shift in industrial production in favor of developing countries - in the six year period to June 2013, the latest date for which combined data is available, industrial production in advanced economies fell by 7% while output in developing economies rose by 65%.

As is clear from Figure 3, China accounted for the overwhelming bulk of the increase in the developing economies. Industrial production in Latin America rose by 5%, in Africa and the Middle East by 6%, and in Eastern Europe by 10%. But China’s industrial production in this period rose by 100% - industrial output in developing Asia as a whole rose by 65%, but the majority of this was accounted for by China.

Figure 3

The quite literally historic scale of these shifts makes clear that by far the most important development in world industrial production in the last period is this extraordinary rise of China. Between 2007 and 2011 China’s industrial production rose by $1,465 billion, in current prices, while US industrial output rose by only $88 billion in current prices and declined slightly in inflation adjusted terms. China’s industrial production rose by 17 times as much as the US.

Such a rise in China’s industrial production has consequences spreading far beyond industry itself. Industry has easily the most rapid increase in productivity of any economic sector – notably compared to services. The decline of industrial production in the EU and Japan, and relative stagnation in the US, means China is cutting the productivity gap between itself and the advanced economies. This is crucial for progress in raising China’s relative GDP per capita and living standards.

This rising productivity also explains why China’s exports have been able to maintain their competitiveness despite substantial increases in the exchange rate of China’s currency the RMB. On Bank for International Settlements data, the RMB’s nominal exchange rate rose by 25% between July 2007 and July 2013. But China’s real effective exchange rate, that is taking into account the combined effect of the nominal exchange rate and inflation, rose by 31% But despite this major currency revaluation China’s exports continued to exceed its imports.

The ability of China to successfully absorb such high increases in its exchange rate, due to high levels of industrial productivity increases, directly translates into relatively lower prices for imports and improved relative living standards for China’s population.

This data also settles the dispute between who believed there was a major industrial revival in the US, such as the Boston Consulting Group, and Goldman Sachs and other analysts who correctly concluded no such major revival has occurred. Those in China, such as Lang Xianping, who wrote that a great US industrial revival was taking place and China’s industry was in crisis look foolish in the light of data showing China’s industrial output doubled in a period when US industrial production did not grow at all. The only reason US industrial performance does not appear very weak, with negative net growth over a six year period, is because of the even worse performance of a major decline in industrial output in the other advanced economic centers – the EU and Japan.

It is naturally important not to exaggerate this scale of advance by China in industrial production. China’s industrial output is now considerably larger in value terms than the US, but the United States retains a substantial technological lead which it will take China a considerable period to catch up with. Due to a long period of globalization and consolidation by US companies, both processes which are only at early stages in China, US manufacturing firms are still four times the size of China’s in terms of overall global revenue– although between 2007 and 2013 Chinese manufacturing firms overtook Germany to become the third largest manufacturing companies of any country.

The scale of these changes in world industrial production also make clear that in comparison to developments in China gas and oil ‘fracking’ in the US, which have attracted widespread media attention, is merely a statistical sideshow – as already noted overall US industrial production has not even recovered to pre-crisis levels.

For the first time for over a century the US has been definitively replaced as the world’s largest industrial producer. Such a once in a century shift can literally only be described as historic.

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An earlier version of this article appeared at China.org.cn 

The US economic slowdown is much greater than China's

Publication of US 2nd quarter GDP data, following that for China, makes it possible to accurately compare the recent performance of the world's two largest economies. The results are extremely striking as they show that in the last year the slowdown in the U.S. economy has been far more serious than in China. Consequently the data shows that while both economies are being adversely affected by current negative trends in the world economy, China is dealing with these more successfully than the U.S. Intense media discussion in China about its ‘slowdown’  is therefore misplaced unless equivalent attention is paid to understanding why the US  economic slowdown is much worse than China’s.

To accurately establish the facts, it should be noted China and the U.S. publish their economic data in slightly different forms. It is therefore necessary to ensure that like is compared with like. The U.S. emphasizes annualized change in GDP in the latest quarter compared to the previous one; for the newest data this means it takes the growth between the 1st and 2nd quarters of 2013 and basically multiplies it by four. China emphasizes the growth between the 2nd quarter of 2013 and the same quarter in 2012.

Both methods have advantages and disadvantages. Quarter by quarter comparisons depend on seasonal adjustments being accurate, which is not always the case, while year by year comparisons are less sensitive in registering short term shifts.

But in the present case the conclusion is not fundamentally changed whichever method is used. If the method emphasized by China is used, then, as shown in Figure 1, in the 2nd quarter of 2013 China's GDP grew by 7.5% compared to a year earlier, while U.S. GDP grew by 1.4%. This means that China's economy grew at over 500% of the rate of the U.S. economy. Using the method preferred by the U.S. China's annualized GDP growth in the 2nd quarter was 6.8% and the U.S.'s was 1.7%, which means that China's economy grew at 400% of the rate of the U.S. economy.

Due to the difficulties of making accurate seasonable adjustments in both China and the U.S., the author would emphasize the year on year comparison; but whichever method is preferred China's economy was growing at 4-5 times the speed of the U.S. economy.

Figure 1

 

If the whole period since the international financial crisis began is taken then the disparity in growth between China and the U.S. is even more striking. In the five years up to the 2nd quarter of 2013 China's GDP grew by 50.7% and U.S. GDP by 4.5% (Figure 2). China's GDP grew more than ten times as rapidly as the U.S.

Figure 2

 

Turning to the most recent period, it is widely understood that since the beginning of the international financial crisis, China's economy has far outperformed the U.S., even if the dimensions of this are not clearly grasped. What is not so often understood is what has happened during the last year. During that period the economies of both China and the U.S. slowed, indicating the negative trends in the international economic situation. But the U.S. slowed far more than China.

China's year on year GDP growth fell from 7.6% in the 2nd quarter of 2012 to 7.5% in the same quarter of 2013 - a decline of 0.1%, or a 1.3% deceleration from the initial growth rate. However the year on year growth rate of the U.S. in the same period fell from 2.8% to 1.4% - that is by 1.4% or by 50% of the initial growth rate (Figure 3). Consequently China's growth fell marginally but the U.S.'s growth rate halved.

Figure 3

 

Furthermore, as the Financial Times correctly pointed out in its editorial on the latest U.S. data, U.S. economic growth has been particularly depressed in the last nine months. In that total period the U.S. economy grew by only 0.7%, or an annualized rate of under 1%. In the same period China's economy grew by 5.3%, or an annualized rate of slightly over 7%. Therefore if over the entire course of last year China's economy has been growing at 4-5 times the speed of the U.S. economy, in the last nine months China's economy has been growing at 7 times the speed of the U.S.

This does not mean that the US cannot partially recover from its extremely depressed 1.4% annual growth rate in the last year – the 10 year moving average of US annual growth is 1.8% and its 20 year annual moving average is 2.5%. But even recovery to these rates would leave the US growing at only one third of the rate of China. 

The latest data therefore shows that the global economic discussion about the present world economic situation is not about China's "slowdown" and U.S. "recovery". It is "why is China coming so much more successfully through an adverse global economic situation than the U.S.?" And "why has the U.S. economy slowed so much more dramatically than China's in the last year?

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An earlier version of this article appeared at China.org.cn.

China is winning the new global industrial contest

The international financial crisis brought about a radical change in the structure of international industrial competition, and China is winning this new contest. That is the only conclusion that can be drawn from the pattern of industrial expansion and contraction in the major industrial centres in the five years since the beginning of the international financial crisis in 2008.

As taking comparisons only for single years can obscure this fundamental trend, Figure 1 shows the changes in industrial output during the entire last five year period in the world’s four major industrial centres – China, the U.S., the European Union (EU) and Japan. The pattern is clear and striking.

• U.S. industrial production on the latest data, for February 2013, remained 1.3% below its level five years previously – essentially stagnating over the five year period taken as a whole.
• Industrial output in the EU remains at 12.2%, i.e., significantly below its level five years ago. EU industrial production has fallen since February 2011.
• Japan’s industrial production remains at 19.2%, i.e., substantially below its levelof five years ago and has also fallen since February 2011.
• China’s industrial output is 76.1% above the level five years previously.

Figure 1

 

China’s industrial production therefore increased by over three quarters during a period when U.S. industrial production stagnated and EU and Japanese industrial production significantly declined. That is a conclusive victory by China in this competitive struggle.

Extending the comparison to other developing economies, there is no individual industrial centre matching the four major global ones. Figure 2 therefore shows aggregated data for developing economic regions. As statistics for all developing economies are not available for February 2013, the period January 2008 to January 2013 is considered. Data for China is also shown. As no separate China data was published for January, due to the Spring Festival holiday, China’s January data is taken as the mid-point between December and the combined January-February statistics.

Again the pattern is clear over the five year period.

• China’s industrial production grew by 77.9%.
• Total developing Asian industrial production expanded by 53.9% – China accounting for the largest part of this.
• Latin American industrial production increased by 3.0%.
• Eastern Europe and the former USSR’s industrial production increased by 2.0%.
• Industrial output in Africa and Middle East fell by -0.2%.

Figure 2

 

China was therefore successful in industrial competition not only with developed but with developing economies. As the increase in China’s industrial production was over 75%, and it was already one of the world’s main industrial centres, this constitutes a major shift in the balance of world industrial production in China’s favour.

What conclusions follow from these developments?

First, the claim of some Chinese commentators that there is a great revival of U.S. industry and China is lagging behind is factual nonsense. Not only has China’s industrial growth far outperformed that of the U.S., but U.S. industrial production has not even yet recovered to pre-financial crisis levels. Their arguments, based on citing purely individual examples such as that Apple will manufacture a few Macs in the U.S., are based on one of the most elementary and worst forms of statistical distortion – citing individual anecdotes and not overall trends.

Second, these differences in development have long-term consequences spreading to outside industries. Productivity increases in the industrial sector are much greater than in non-industrial sectors. Therefore China’s success in industrial competition raises its overall rate of productivity growth relative to less successful competitors.

These factual trends do not mean China will not face major future challenges within the industrial sector. China has already successfully shifted the centre of gravity of industrial production from low technology products (textiles, toys etc.) into medium technology (construction equipment, smartphones, personal computers, ships etc.). But China’s transition to very high technology industrial production still lies ahead – outside non-market sectors such as military and space production.

But it is not abnormal that China’s industry is currently dominated by medium, not yet high, technology production. China’s GDP per capita is approximately that of Japan in 1966 or South Korea in 1988. At those times Japan and South Korea had successfully made the transition from agricultural and low value added industrial economies to dominance through medium technology sectors – ship building, steel etc. Today China globally dominates the same industries. But at that time the period of domination of Japan and South Korea by high technology product innovation – Sony’s PlayStation and Walkman, Samsung’s high-end televisions and mobile phones – lay 10-15 years ahead.

As Lin Yifu, former chief economist and senior vice president of the World Bank rightly stresses, it is impossible for an economy to develop market sectors greatly out of line with its overall level of development. The full transition of China’s industry to dominance by high technology production lies a decade ahead. The key fact at present is that comparison of trends in the major industrial centers shows that in the intensified global competition created by the international financial crisis China is clearly winning.

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This article was originally published in Chinese at Sina Finance and in English at China.org.cn. 

US economic recovery is only one eighth of its rate in previous business cycles

A convenient statistical coincidence shows just how slow US economic recovery is in this business cycle compared to previous ones. The new US GDP data for the 1st quarter of 2012 is for the 17th quarter since the peak of the previous business cycle in the 4th quarter of 2007. In all US business cycles since 1973 by the 17th quarter in the cycle the economy had expanded by almost exactly 10.5% – as can be seen in the chart. In this cycle US growth since the previous peak has been only 1.3%. That is the US economy has been growing at only 12.6%, one eighth, of its rate in previous business cycles.

New US GDP figures are not 'disappointing' - they confirm long term deceleration in the US economy

The new US GDP data was widely seen as 'disappointing'. But the most important trend is not the short term figure of 2.2% annualised growth for 1st quarter of 2012 but the confirmation of the long term deceleration of the US economy. The charts below show that the moving average for US 20 year GDP growth has fallen to 2.6% and the moving average for 10 year US GDP growth has fallen to 1.6%. In both cases the declining long term trend for growth is clear from the charts.

It is because there is a persistent long term slowing of the US economy that the US growth data is consistently seen as 'disappointing'. In fact the problem is a wrong perception. Analysts are surprised by new data only when they have not internalised or built into their models this long term deceleration of the US economy. A more fundamental and longer term analysis of this long term slowing of the US economy can be found here.

PS for those interested more detailed analyses of the new US GDP figures will be found on my Sina Weibo - the Chinese equivalent of Twitter. Having used both Weibo is a better product than Twitter for economists as it has built in facilities for showing charts. Posts are in both English and Chinese. My Weibo is here.

Figure 1 – 10 year moving average of US annual GDP growth

Figure 2 – 20 year moving average of US annual GDP growth

Globalization not protectionism remains the main trend in the world economy

Protectionist measures by the US government have received considerable publicity. These include tariffs against China's solar panel exports, the dispute over rare earths, a bill against "subsidized" exports passed by both houses of the US Congress and other steps.

These measures are real. But it is also important not to exaggerate them. Protectionism is not the main trend in the global economy. This is shown both by factual economic trends and considering the underlying forces at work. Protectionist measures affect trade at the margins but do not alter the core of world trade which continues to expand.

To show this first consider the facts. The volume of world trade fell severely during the international financial crisis, declining by 19.7 percent between April 2008 and May 2009. But it then more than recovered. According to the latest available data, by January 2012 the volume of world trade was 4.8 percent above pre-crisis levels - Figure 1.

Figure 1

 

After the financial crisis US imports fell sharply, from 15.7 percent of GDP in the third quarter of 2008 to 10.6 percent of GDP in the second quarter of 2009, but then recovered to 14.8 percent of GDP by the fourth quarter of 2011.

Regarding relations between China and the US, frequently seen as the main area of protectionism, in dollar terms China's exports to the US rose 22 percent between their pre-crisis peak in September 2008 and the same month in 2011, well above the 15.4 percent increase to the EU, and not far behind the 27 per cent increase to Japan. In short, US post-financial crisis trends showed trade recovery, not deepening protectionism. Nor was protectionist actions even the main trend in trade between the US and China.

Claims that protectionism is the dominant trend in the world economy are therefore factually exaggerated, and take individual developments out of context without examining their overall weight.

Analysis of fundamental economic forces confirms why protectionism is not the main trend. Modern production is on such a large scale that it cannot find an adequate market for its volume of production, at efficient levels, purely within a national economy. That is why, for example, China's reform and opening-up was necessary, but exactly the same pressures affect the US.

Even in 1929 serious retreat into protectionism led to disastrous economic decline and crisis, culminating in economic and political destabilization of all countries and finally world war. Today, when production is on a far larger scale than 1929, the economic results would be more catastrophic. This is why all major economies have so far rejected large-scale protectionism.

Fundamental economic analysis therefore confirms what the facts reveal, that certainly there will be some protectionist actions, but these will be at the margins, and globalization, not protectionism, will remain the main trend in the world economy.

Nor is protectionism likely to be the main instrument of US 'neo-cons' or a Republican president. US neo-cons have much experience in how to slow Asian economies. This was successfully achieved against Japan and then the South East Asian "Tiger" economies during the 1997 debt crisis. In neither case was protectionism the main weapon.

The first 'neo-con' strategy was to transfer disputes from the economic realm, where the US is gradually weakening, to the military and political fields, where the US remains much stronger.This tactic is followed in the US 'pivot' toward the Asia-Pacific region.

Within the economic realm the main methods US 'neo-cons' used were forcing other countries to overvalue their currency, forcing cuts in investment levels, which slow economies, and lower foreign inward investment to reduce technology transfer. All these methods are being attempted against China. Protectionism is not dominant in any of these methods.

Attention must certainly be paid to real protectionist measures but exaggerating the degree of protectionism is factually incorrect, not based on analysis of the world economy's main forces, and fails to identify the main economic tactics used by US 'neo-con' circles. 

Competition within globalization, not protectionism, is still the world economy's main trend.

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An earlier version of this article appeared, in Chinese and English, in Global Times.

Changing perceptions of China in Europe

Chinese Vice-President Xi Jinping's visit to Ireland last month highlighted the way in which the impact of the international financial crisis is bringing about a change in the perception of China in Europe.

It is useful to go back four years, in the run-up to the Beijing Olympics, to see the difference. At that time, according to a poll in the Irish Times, a campaign for an Olympic boycott, promoted by figures from most Irish political parties, had the support of 43 per cent of Ireland’s population – compared to 57 per cent favouring participation. In comparison, during Xi Jinping’s visit, every major party and newspaper spoke in favour of closer links with China.

Taking another example, in early 2008, French President Sarkozy threatened to boycott the opening ceremony of the Beijing Olympics, the 11th meeting of the EU-China summit was postponed because of Sarkozy’s attacks on China, and the mayor of Paris was saying he would hang a banner outside his office denouncing China. In contrast, when President Hu Jintao visited France in November 2010, President Sarkozy did him the unusual honour of meeting him personally at the airport.

Trade between key European countries and China has advanced in the intervening period - Germany now exports more to China than the US. China’s investments in Europe have moved beyond bond purchases to Chinese companies signing significant deals – particularly in infrastructure. China’s Three Gorges Corp bought a 21 per cent stake in EDP-Energias de Portugal SA for $3.5 billion, and China Investment Corp, China’s sovereign wealth fund, bought a 9 per cent stake in the holding company of the UK’s Thames Water. In finance, in January the UK signed an agreement with the Chinese government for London to act as an offshore centre for RMB transactions.

What in most European countries has essentially become an all-party welcome for closer economic ties with China contrasts with the political atmosphere in the US. Vice-President Xi was treated respectfully by President Obama’s administration during his US visit - although no major agreements were arrived at. But leading Republican presidential candidate Mitt Romney declared he would designate China as a currency manipulator on his first day if elected president.

In contrast to Europe, the US has adopted a position blocking Chinese inward investment. The most famous case was China’s National Offshore Oil Corp being prevented from purchasing Californian oil company Unocal. But China’s Huawei, the world’s second-largest telecommunications equipment manufacturer, has effectively been blocked from bidding for US contracts.

There are are of course those in Europe opposing better relations with China. Britain’s Daily Telegraph, for example, carried a headline regarding Vice-President Xi’s visit to the US that ‘China’s upcoming leader Xi Jinping has been wined, dined... and warned.’ But in contrast, the UK’s Guardian newspaper carried an editorial headlined, ‘Chinese economy: headaches to die for,’ arguing: ‘Any appraisal of China's prospects must begin by admitting that the Middle Kingdom is the most astonishing development success story in the world today.’ Even a tabloid newspaper, such as the UK’s Daily Mirror, carried a major story emphasizing the positive role of UK trade relations with China.

It is clear that the political atmosphere for China’s trade and investment in Europe is currently more favourable, and enjoys far wider support, than in US politics.

This situation is significant not only for China but for Europe and the US themselves. Trade growth between both the US and China and between the EU and China is larger than between the US and EU.

Comparing the latest available data, for the 4^th quarter of 2011, with the 4^th quarter of 2007, before the financial crisis, U.S. exports to the EU increased by an annualized $21 billion and EU exports to the US by an annualized $8 billion. US exports to China, however, increased by an annualized $47 billion, while EU exports to China grew by an annualized $83 billion. Growth of US exports to China, therefore was more than twice those to the EU, and EU exports to China grew by more than 10-fold those to the US. This data also shows the EU gained more from increased exports to China than the US.

A parallel investment pattern exists. Europe is now the largest destination for Chinese companies’ foreign investment. It also accounted for 34 per cent of China’s outward investment in mergers and acquisitions in 2011. In contrast, China’s investment in the US fell from $4.2 billion in 2010 to $3.2 billion last year.

Naturally there are downs as well as ups in Europe’s economic relations with China – a current down is the row over the EU’s airline tax. But overall the current types of deals being done are well founded because they are mutually beneficial. The Economist magazine noted: ‘In welcoming China, Europe is swimming with the tide of history; America is struggling against it.’

The reason that at present the EU is gaining more from trade and investment with China than the US is certainly not due to China’s political bias – China’s government must consider its relations with the US as the world’s most important bilateral one. But, in addition to the different scale of openings being offered them, China’s companies have to evaluate ‘political risk’ just as much as Western ones do. ‘Political risk’ is clearly now lower in Europe.

Good relations between Europe and China are evidently capable of generating what China characterises as 'win-win' outcomes. China is a huge market for technologically advanced and high-value exports from the EU, as Germany’s export success shows, which improves China’s industry, while the EU also gains from China’s continued support for the euro.

The change in the perception of China in Europe is not merely a success for China’s diplomacy but has economic foundations.

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An earlier version of this article appeared in China Daily.

US workers dropping out of the labour force, not jobs creation, dominates in this US business cycle

Considerable publicity was given to the decline in the official US unemployment rate to 8.3 per cent in January 2012 and the creation of 243,000 non-farm payroll jobs. The problem is that, as usual, no baseline or serious study of overall trends was given to evaluate this monthly data.

The reality is the number in US non-farm employment still remains 5.6 million, 4.1%, below its peak level in January 2008 (Figure 1). But this figure very substantially flatters as since then the US population has grown by almost 4%.

In fact there has been no significant increase in the percentage of the US population of working age in employment since the depth of the recession, and the participation rate in the labour force of the US population of working age continues to drop.

Figure 1

 

The sharp drop in the participation of the US participation of working age in the total labour force (i.e. employed and unemployed) is shown in Figure 2. Between January 2008, the peak of US non-farm employment, and January 2012 the participation rate in the US labour force of the population over the age of 16 fell by 2.5 per cent – from 66.2 per cent to 63.7 per cent.

Figure 2

 

 

Regarding those actually in employment the situation is worse. The percentage of the US population over the age of 16 in employment fell by 4.4 per cent, from 62.9 per cent to 58.5 per cent, between January 2008 and January 2012. There has been essentially no significant recovery from the low point of 58.2 per cent in December 2008 to the 58.5 per cent in January 2012 (Figure 3).

Figure 3

 

US GDP recovery is the slowest in this business cycle of any since World War II, and in December 2011, the latest available data, US industrial production was still 5.4% below its level in the previous business cycle. As productivity growth means that less workers are required even when previous peak levels of output are regained it will be a substantial period before the US regains its previous employment level. Paul Krugman therefore noted the situation accurately: ‘the gap remains huge. Suppose that we need 100,000 jobs a month to keep up with population growth, and that we’re 10 million jobs in the hole — both conservative estimates. Then we need about 7 years of growth at this rate to restore full employment.’

It remains to be seen whether US employment growth can continue at its present rate for seven years, But the fundamental trend so far during this business cycle has not been a decline in real unemployment but an increase in the proportion of the US population dropping out of the labour force.

The myth of US industrial revival

Currently a number of attempts are being made to claim a major revival of US industry is taking place. For example Harold L. Sirkin, of the Boston Consulting Group, writes: ‘A resurgence of U.S. manufacturing seems to be in the offing. With production costs rising in China, some companies are bringing their manufacturing back to the U.S…. That's partly confirmed by the data: The Institute for Supply Management (ISM) recently reported that U.S. manufacturing had expanded for 24 consecutive months. Likewise, the Federal Reserve reported a 0.6% increase in manufacturing in July 2011, with a year-on-year gain of 3.8%.’ Washington Post columnist Vivek Wadha claims: ‘America is destined to once again gain its supremacy in manufacturing, and it will soon by China’s turn to worry.’

It is therefore important to be clear that these claims are a myth. As may be seen in Figure 1 US industrial production has not even regained pre-financial crisis levels. In December 2011, the latest available data, US industrial production was 5.4 per cent below its peak in the previous business cycle. Equally striking, for the long term, is that since June 2000, the peak of the last but one business cycle, average annual US industrial growth has been only 0.3 per cent. In short, far from a ‘rebirth’ of US industry occurring, US industrial production has scarcely grown for over a decade and so far in the present business cycle it has not even regained its previous peak level of output. On the latest monthly data it would take US industry two years to regain its previous peak output.

Figure 1

 

Sirkin presents as evidence to justify his claims: ‘Volkswagen, for example, recently opened a new $1-billion factory in Chattanooga, Tennessee; Embraer, the Brazilian manufacturer of mid-size commuter jets, recently opened an assembly plant in Melbourne, Florida; and Mitsubishi Nuclear Energy Systems, which builds nuclear power plants and components, is locating a new engineering center in Charlotte, North Carolina.’ Publicity was given by others to a US company exporting chopsticks to China.

Unfortunately presentation of individual examples proves nothing. Industrial production is an aggregate, an average of different movements by companies. There will therefore always necessarily be cases above and below the average. Finding individual companies which are expanding, whether in chopsticks or anything else, therefore doesn’t constitute proof – even if US industry were sharply declining individual expanding companies may well exist.

Sirkin’s statistic that US manufacturing has been expanding for 24 months also doesn’t prove anything. Choosing particular starting dates, rather than considering the overall trend, has a well understood effect in distorting analysis. For example take 1933, the depth of the Great Depression, as a starting point for measuring US economic growth during the 1930s. By 1939 the US economy had expanded by 50 per cent. Solely from this one might conclude that the 1930s were a period of prosperity, whereas actually they were the worst decade in US economic history. The statistical distortion is to measure from the lowest point of the business cycle, ignoring the enormous fall in US GDP which took place in 1929-33. To avoid such statistical distortion economic analysis must state what points in the business cycle it is comparing and consider the economic process as a whole.

To see how this error distorts perception of US industry note that by the time US industrial output reached its bottom in the present recession, in June 2009, it had to grow by 21 per cent to regain its previous peak output. By December 2012, which indeed was after two and a half years of expansion, the increase was 14 per cent. Such an expansion of 14 per cent might sound impressive – it is a growth of over five per cent a year. But such an 'optimistic' conclusion distorts the reality – because 21 per cent growth was required to even regain the previous peak level of production!

Apple’s Steve Jobs stated the reality of US manufacturing reality at a dinner with President Obama last February. Asked what would shift iPhone production to the US, Jobs bluntly replied ‘those jobs aren’t coming back’.

US manufacturing ‘rebirth’ can only be claimed when there is statistical evidence to support it, not when output has not even regained previous peak levels.

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An earlier, non-technical, version of this article appeared in Global Times.

 

China and developing economies will determine the chances for world growth in 2012

China’s economic growth has become a key factor not only for itself but for world markets. As the scale of China's impact is still too frequently underestimated it should be noted that, measured in current dollars and at market exchange rates, i.e. in terms of actual effective demand, in the three years following the start of the international financial crisis China contributed 33.4 per cent of global market growth – more than four times as much as the US 8.1 per cent (Table 1). While final data for 2011 is not yet available, it is already clear from the first three quarters figures that China’s market last year expanded by over $1 trillion – approximately twice as much in dollars as the US, despite US growth having resumed. Table 1 makes clear no other economy has approached China in terms of market/global aggregate demand expansion.

It is therefore a key question whether China will continue essentially the same scale of market growth in 2012. The answer is ‘yes’  - but because of the issue’s importance the reasons should be clearly outlined. Interlinked with this is the decisive role played by developing economies in recovery from the financial crisis – the interlinking being that China is by far the largest developing economy, while the developing economies have become China’s largest trade partners.

In the three years covering the period from the beginning of the international financial crisis to the latest available annual data, i.e. in 2007-2010, developing economies accounted for 78.6 per cent of world market growth and developed economies for only 21.4 per cent. Considered from another angle, simply taking different classifications, either the BRIC economies (Brazil, Russia, India and China), or China plus Latin America, contributed the majority of world market/effective demand expansion – either of these groupings accounting for more than twice as much market expansion as the developed economies.

Table 1

 

Turning to more detailed trends, the first feature determining China’s continued dominant position in world market expansion, one the consequences of which are insufficiently frequently noted, is that as China’s economy becomes larger a similar percentage yearly growth necessarily turns into an increasingly large annual absolute market increase - in inflation adjusted terms, China’s economy expanded by 2.3 trillion RMB in 2008, 2.4 trillion RMB in 2009, and 3.1 trillion RMB in 2010.

But even frequently cited constant price growth figures underestimate the expansion of China’s position in the world market. Actual sales, and therefore changes in aggregate demand, use real money which is affected by exchange rate shifts and inflation – further figures in this article are therefore at current market exchange rates and prices unless otherwise stated. In 2009, when China froze the RMB’s exchange rate due to the international financial crisis, China’s economy grew by $469 billion – compared to a US contraction of $353 billion. In 2010, when China allowed the RMB exchange rate to rise, its annual economic expansion rose to $935 billion and the figure will be over $1 trillion in 2011 – roughly twice US market expansion.

Table 1 also makes clear the second reason China’s market will continue  its expansion. World growth is now dominated by developing economies and China is their most rapidly expanding trading partner.

Considering trends among developing economies, China accounting for 33.4 per cent of global market expansion. Latin America was second – constituting 17.3 per cent of world growth, with Brazil accounting for 58 per cent of this. China and Latin America together accounted for 50.7 per cent of world market growth..

Among other developing economic regions, South Asia contributed 8.0 per cent to world market growth, with India accounting for 84 per cent of this. Developing East Asian economies, excluding China, accounted for 7.0 per cent of world growth – Indonesia constituting 54 per cent of this. The Middle East and North Africa accounted for 6.1 per cent of world growth with no single dominant regional economy – the largest contributor, Egypt, constituted only 19.9 per cent of the total. Developing countries in Europe and Central Asia accounted for 4.5 per cent of world growth – of which 55 per cent was Russia. Sub-Saharan Africa grew rapidly, but due to its low starting point only contributed 2.1 per cent of world growth.

Turning to developed economies, Japan illustrates the importance of currency movements for shifts in markets measured in dollar terms. Due to the yen’s sharp exchange rate rise, Japan contributed 14.9 per cent of the dollar expansion of the world market despite Japan’s economy contracting in inflation adjusted terms. The US contributed 8.2 per cent to world market growth, despite the US not having grown in constant price terms, due to the dollar rising against other currencies,

The ‘disaster area’ for world markets was the developed European economies with a decline of $668 billion - equivalent to subtracting 9.2 cent from world growth.

It is already clear 2012 will show no fundamental change in this pattern. Developed European economies will again be the worst performing region – suffering a recession possibly magnified by a low Euro exchange rate. The US should expand, but slowly compared to previous upswings in US business cycle. Therefore if the world economy is to grow this will again have to be primarily due to developing  economies.

Fortunately, the large developing economies are slowing but still growing substantially more rapidly than developed ones. China, the dominant factor in the equation, even on pessimistic estimates is likely to grow by at least 7-8 per cent in real terms this year which, after increases in the exchange rate of the RMB and inflation is take into account, means an expansion of its market of probably 12-15 per cent in dollar terms. Minimum real growth estimates for India are at least seven per cent.

It is also clear from the pattern in Table 1 why BRIC economies will again dominate world growth – in 2007-2010 they contributed 52.5 per cent of world market expansion. Not only are the BRICs individually the largest developing economies but each is the centre of a major regional economic area. While Brazil has slowed, Russia’s economy has been accelerating, and it is in any case China and India which are the dominant dynamic BRIC economies.

This overall situation clearly interrelates with China as it already carries out the majority of its trade with developing economies – 54 per cent of total trade, 49 per cent of exports and 60 per cent of imports.

The implications for China’s markets are clear. China has not only the world’s most rapidly expanding domestic market, and declining inflation gives it extra room for domestic economic loosening/stimulus in 2012, but its biggest trading partners are the most rapidly growing regions of the world economy. It is this combination of domestic and international factors which determines that  China will continue to remain the world’s most rapidly expanding market/supplier of increased aggregate demand in 2012. Given the negative prospects in Europe, and slow growth in the US, it will then be the situation in the developing economies, which is increasingly related to the situation in China, which will necessarily determine the overall prospects for world growth in 2012.

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This is an expanded version of an article which originally appeared in Shanghai Daily.